If deferred compensation represents a significant portion of your total income then it is important to understand how that income is treated when you apply for a mortgage. For example, if your annual salary is $50,000 and you also earn an additional $30,000 per year in deferred compensation then you need to know if lenders use $50,000 or $80,000 to determine the mortgage you qualify for. In this example, there is a significant difference in the loan amount you can afford depending on if the lender includes or excludes the deferred income.
Many lenders enable you to include deferred compensation in your income when you apply for a mortgage as long as the deferred compensation continues for at least three years. Lenders are required to use applicant income that is steady and sustainable when they qualify you for a mortgage, which is why they apply the three year requirement.
If you are expected to receive deferred compensation for a shorter period of time, it may not be considered permanent income so lenders do not rely on it to determine the loan amount you can afford. This means that if your deferred compensation vests over two years or if you are in year three of a five year vesting period you may not get credit for the remaining deferred income you are expected to receive.
So even though you may have received deferred compensation for multiple years in the past, that does not mean that the lender automatically gives you credit for that income in the future, unless it is expected to continue for three years or more.
Please note that lenders use the amount of deferred compensation you receive in a year as opposed to the total amount of compensation granted to you. For example, if you are expected to receive a total of $150,000 in deferred compensation in equal payments over the next three years, the lender includes $50,000 as income in your debt-to-income ratio and not $150,000.
Use ourMORTGAGE QUALIFICATION CALCULATORto determine the loan you can afford with and without deferred income
It is also important to highlight that lenders require that you provide documentation that verifies your deferred income, which may create confidentiality issues with your employer. In some cases you may need to obtain permission from your employer to share compensation or employment agreements with the lender. As an alternative to sharing confidential documents, you may be able to provide the lender a written statement from your employer that outlines the terms of your deferred income including the remaining duration.
Finally, for both deferred compensation and bonus income it is helpful, and in many cases required, that you show lenders that you have earned similar income over the prior two years by providing your tax returns. So not only are you required to verify the deferred income is expected to continue for three years but you may also need to demonstrate that you have a history of earning a comparable level of income.
It is important to note that different lenders have different policies for including deferred income in your mortgage application. We contacted multiple lenders about this topic and they all used the three year guideline for deferred compensation. Other lenders may have stricter policies and may not count any deferred compensation as income, which may reduce the mortgage amount you qualify for.
Because qualification guidelines vary, we recommend that you contact multiple lenders in the table below to understand how they would handle your individual situation. Comparing multiple lenders also enables you to find the best mortgage terms.