Getting a mortgage if you are self-employed is more challenging than if you are employed as a regular salaried or hourly worker. This is because self-employed applicants are believed to be higher risk borrowers, so lenders apply stricter mortgage qualification guidelines. In short, self-employed applicants are usually required to have a longer track record of employment and must provide additional documents to verify their income. Lenders also apply a higher degree of scrutiny to self-employed income and may discount your earnings depending on monthly fluctuations and how long you have been self-employed.
It is important to highlight that the definition of a self-employed borrower is relatively broad and usually includes anyone who does not receive a W-2 from their employer. Small business owners and independent contractors are usually classified as self-employed when you apply for a mortgage. For example, if you receive a 1099 tax form to document your income, then chances are mortgage lenders consider you to be self-employed.
While it may be more difficult to qualify for a mortgage if you are self-employed it is certainly possible. Applicants who prepare their personal and financial documents before they apply for a mortgage and understand how lenders approach self-employed borrowers are better positioned to get approved for a mortgage. Applicants who expect the process to be the same for them as it is for other borrowers may be frustrated by the process or even worse, may not qualify for the loan.
Below we outline how to get a mortgage if you are self-employed including qualification requirements and the documents you must provide to lenders such as tax returns and bank statements. We also review how lenders calculate income for self-employed applicants, which determines what size mortgage you can afford. You may earn a good income but the lender may use a different earnings figure to calculate the loan amount you qualify for. Continue reading to learn more about the application process and understand the mortgage options available to self-employed borrowers.
Lenders typically require that self-employed applicants provide federal tax returns for a minimum of two years to qualify for the best loan terms including the lowest mortgage rate and fees. A job history of between one and two years may be permitted if you were previously employed in a similar line of work and earn a similar or greater income as evidenced by your tax returns. Additionally, in certain cases for borrowers with stronger credit profiles, some lenders may only require a tax return for the most recent year. Also, some lenders may only require a tax return for one year, but may charge a higher rate and lender costs, so there are multiple options to consider. Depending on your circumstances, lenders usually require the following documentation for self-employed mortgage applicants:
Two years of personal tax returns (including Schedule C filings for self-employed sole proprietors and 1099 contractors)
Many self-employed applicants that own a business utilize a S Corporation tax structure whereby the corporation is not required to pay taxes and all profits and losses are passed through to the shareholders. In this case, the lender reviews your income as reported on your 1040 as well as your Schedule K-1 for the business
Two years of business tax returns if you are a 50% partner or shareholder in a partnership, Limited Liability Company (LLC), S Corporation or similar company
If you hold an ownership interest in a partnership, LLC or S Corporation, the lender may also require you to provide a Schedule K-1 to determine your income attributable to those businesses
If you own at least 25% of certain types of businesses such as a partnership, LLC or S Corporation, lenders analyze the business' cash flow to confirm that income from the business is stable, which requires additional documentation. In some cases you may be required to provide a profit and loss (P&L) statement and current balance sheet for the business
Two-to-twelve months of bank statements depending on your type of self-employment and other factors including how you access funds from your business and bank accounts
Prior to the mortgage closing you are required to demonstrate that you are currently still "employed" and receiving income. If you own a business, you need to provide proof that the business is still operating.
Review our Mortgage Document Checklist for Self-Employed Borrowers
We should highlight that a self-employed work history of only one year may required if you previously worked in a similar industry for at least two years and your income is the same or higher. For example, if you managed a restaurant for two years and then you open your own restaurant, you may be able to qualify for a mortgage after one year of being in business, rather than two years, assuming your income is consistent.
In this scenario, you are still required to provide two years of tax returns but only the most recent year needs to reflect your self-employed income
Many self-employed borrowers expect lenders to look at their most recent month of income to determine their ability to qualify for a mortgage and what size loan they can afford. Instead of looking at your most recent monthly income, lenders typically use the average of your past two years of income as reported on your tax returns.
For example, if a self employed borrower earned $100,000 in income last year and $50,000 in income the year before that, the lender divides the sum of the two annual income figures by 24 to determine the monthly gross income used to qualify the applicant for the mortgage. In this example, $100,000 + $50,000 = $150,000 / 24 months = $6,250 in monthly gross income for the borrower, which is significantly lower than the applicant's average income for only the past year.
Use ourMortgage Qualification Calculatorto determine what size loan you can afford based on your monthly gross income and debt expense
If your income has increased over the past couple of years, your current monthly gross income may be significantly higher than the income figure used by the lender, which may come as a surprise to you and limit your ability to qualify for the mortgage.
With a bank statement mortgage the borrower provides monthly bank statements instead of their tax returns, W-2s or pay stubs to verify their monthly income. In some cases borrowers also may be required to provide a profit and loss (P&L) statement for their business as prepared by a tax professional. Depending on the borrower's situation and type of self-employment, you may be required to provide both personal and business bank statements to the lender. In short, the lender uses the bank statements instead of standard tax or income documents to qualify you for the loan and determine what size mortgage you can afford.
Review our comprehensive Bank Statement Mortgage Guide
Bank statement mortgages are good for self-employed applicants because they typically do not have W-2s or pay stubs plus their tax returns may not accurately reflect how much money they make. For example, you may be able to qualify for a higher mortgage amount with a bank statement mortgage than you do with a standard self-employed loan program that uses your tax returns for your income.
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The downsides to a bank statement loan are that the mortgage rate is usually higher, you may be required to make a higher down payment and you are required to provide additional financial documents.
Use the FREEandCLEAR Lender Directory to find lenders that offer bank statement mortgages and other programs for self-employed borrowers
Because self-employed borrowers are typically required to provide additional information and complete extra steps in the mortgage process it is crucial that they understand what size loan they can afford and get pre-approved by a lender at the beginning of the home buying or refinance process. Different lenders may calculate your income differently so knowing what size loan you qualify for upfront is especially important.
Plus, you may be able to identify and resolve issues that come up in the pre-approval process before you officially apply for the mortgage. It is better to get pre-approved at the beginning of the mortgage process than to be surprised or disappointed later in the process.
It is important to highlight that you should not pay to get pre-approved for a mortgage. Also, just because you are pre-approved by a lender does not obligate you to work with that lender to finalize your loan. You may find a lender that offers better terms or a special mortgage program for self-employed borrowers and you are free to work with that lender when you apply for your loan.
Our get pre-approved form is free and easy-to-use and enables you to connect with multiple lenders before you apply for your mortgage.
We always recommend that you contact at least five lenders including at least one mortgage broker to make sure you get the loan with the lowest mortgage rate and fees but this is especially important for self-employed applicants. Some lenders do not offer self-employed mortgage programs so is important to understand that you have options.
Contacting multiple lenders enables you to compare proposals and select the one that fits your financial goals. When you reach out to lenders be sure to ask about both standard self-employed mortgage programs and bank statement loans to determine the option that is right for you.
It is important to work with a lender who has extensive experience working with self-employed borrowers because they better understand the complexities and nuances of the application process and hopefully work harder and smarter on your behalf to close your loan. Contact multiple lenders in the table below to find the one that best meets your needs as a self-employed applicant.
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"B3-3.2-01, Underwriting Factors and Documentation for a Self-Employed Borrower." Selling Guide: Fannie Mae Single Family. Fannie Mae, December 4 2018. Web.
"Self-Employed? Learn How You Can Get a Mortgage." My Home by Freddie Mac. Freddie Mac, October 26 2018. Web.
"B3-3.4-01, Analyzing Partnership Returns for a Partnership or LLC." Selling Guide: Fannie Mae Single Family. Fannie Mae, June 5 2019. Web.