Self-employed borrowers qualify using 2 years of tax returns (personal and business). Lenders calculate qualifying income from your adjusted gross income after business deductions. This can reduce your qualifying income significantly.
The key is planning ahead: work with a CPA to understand how your deductions affect mortgage qualification 12-24 months before applying.
How Lenders Calculate Self-Employed Income
Lenders calculate your qualifying income from your adjusted gross income on your tax returns, plus depreciation and certain non-recurring expenses. They typically average your income over the most recent 2 years. If your income is trending up, they may use the higher year. If it is trending down, they may use the average.
The 2-Year Requirement
You need at least 2 years of self-employment history to qualify for a conventional or FHA loan. The 2 years do not have to be consecutive. If you were previously employed (W-2) and recently became self-employed, lenders may still qualify you if you can document a smooth transition.
The Write-Off Problem
This is the biggest challenge for self-employed buyers. Business deductions that reduce your tax liability also reduce your qualifying income. If your business shows $100K in revenue but $50K in deductions, your qualifying income is $50K -- which supports a much smaller mortgage than you could comfortably afford.
Documentation Needed
- 2 years of personal tax returns (signed and filed).
- 2 years of business tax returns (if structured as a corporation or LLC).
- Profit and loss statement for the current year (year-to-date).
- Business license or proof of self-employment.
Strategies to Qualify
- Reduce deductions: Work with your CPA to see if reducing some deductions in the year before applying makes sense.
- Increase income: Taking on additional contracts or clients can help increase your qualifying income.
- Add a co-borrower: A spouse or partner with W-2 income can help you qualify for more.
