Did you know to get pre-approved for a loan the requirements for self-employed (1099) is very different with salary (W2) borrowers? 1099 borrowers need to be at the job for 2 years with 2 tax returns and the average of the 2 years net income on tax returns would determine how much the price of the house you’re pre approved for. When someone has been 1099 5 years and more the 1-year latest tax return can be used. When someone has less than 2 tax returns they’re not qualified to get a traditional loan yet good news is they still can go with non-QM loan products:
- Bank statements: 12 months can be used. When self-employed borrowers write off too much expenses on tax returns it causes them to have too low net income for a loan. Deposits in bank accounts can be considered as “income” instead so it’s higher income to be qualified for.
- P&L: the CPA can provide the Profit & Loss statement to show they actually makes money yet not be able to show on tax filings yet.
- DSCR: investment loan where we use the projected rent to be considered as “income” for the loan.
Non-QM loans are more popular because it gives you the option to get into the house now vs waiting and the price just keeps going up. Yet there are more requirements entailed and it has to be the right borrower for the right loan:
- Minimum 20% down payment needed.
- Loan fee tends to be paid by borrowers and around 2%. This can be built into the interest rate of the loan.
- Interest rate tends to be a tad higher than conventional loan, depends on the market condition.
- Generally, needs 6 months reserves at closing. The money can be used after closing.
There are borrowers would consider to wait for 2 years, file more tax before they would buy a house. It’s not a bad idea to wait and plan if other factors support it. Yet if someone needs a house sooner than later waiting is not necessary the best option. Let’s look at this real-life situation:
- Current income is $23,730. In order to qualify for a Conventional loan which uses a 2 year average of your tax return income you would need to show an adjusted income of $96,500. This would give you a 2 year average income of $60,115.
- You pay $24,000 for Self Employment tax before any other qualifying deductions (Consult your CPA please!) just to qualify for a rate that is about .5-.75 better than a bank statement loan. Let’s look at the breakdown here:
Loan amount $190,000
Example 1:
Conventional Loan-30year fixed
Rate 6.75%
P&I Payment-$1232
Estimated Tax Liability to Qualify-$24,000
Example 2:
Bank Statement-30 year fixed
Rate -7.375%
P&I Payment- $1312.
Estimated Tax Liability - $4000
As you can see in the example above it doesn’t make sense to increase tax liability to save $80 per month on your mortgage. It would take you close to 16 years to make up the difference in monthly savings!
Rates above are for illustration only and are subject to change with market trends. We always recommend that you consult with a CPA for tax matters!
