Being self-employed certainly has its perks; you’re your own boss and you enjoy a more flexible schedule. You probably even earn a much better income than you would working for someone else, however there are drawbacks! If you’re considering the purchase of a new home in Flower Mound or the Dallas metro area, you should be aware there are new mortgage rules in place that could make it more difficult to obtain a mortgage.
A few of the highlights for self-employed borrowers
The two most important factors for lenders? Your income and assets. Lenders use these factors to decide where you will come up with a down payment, and how big a monthly payment you can afford.
If you’re self-employed, income is reported either as a sole proprietor, or LLC (limited liability company), partnership, corporation, or other entity. While salaried employees qualify for a home loan based on gross income, sole proprietors must use net income which is determined from the IRS Schedule C, a schedule you file that tracks income/expenses for a specific year.
Additionally, while salaried borrowers are often required to provide income for one year, sole proprietors’ qualify based on a 24-month average net income calculated by lenders. Based on the IRS Schedule C, if the most recent year shows a lower net income than the previous year, lenders generally use the most recent year in calculating a 12-month average income, which means it’s the worst-case scenario. Essentially, if your income has dropped in the most recent year from the year prior, it isn’t good news for you. The same is true for LLC’s, partnerships, and corporations.
However, self-employed individuals who conduct business via these entities are required by the IRS to file separate sets of tax returns, which you will have to provide the lender along with personal returns if you own 25% or more of the business.
Guidelines for S corporations and partnerships
If you’re a borrower who owns an S corporation or partnership, the guidelines regarding income and debt trends analysis has become even stricter following an update in self-employment income calculation guidelines by Fannie Mae in February of this year. The income for owners of these types of entities is derived from the Schedule K-1 form, which is part of your tax filing. Figures on the Schedule K-1 form are considered income on your personal tax return.
The new mortgage rules are a bit disconcerting and confusing, however the best way to determine whether you will qualify for a home loan is to discuss your specific situation with a trusted local lender.
At Team Nelson, our Dallas real estate professionals want to make it as easy as possible for anyone to buy a home, including those who are self-employed. We work hard to make your dream a reality! If you have questions about the loan or home-buying process, give us a call today.
