Here's What Happens When You Apply for a Mortgage While Self-Employed
KEY POINTS
- The first hurdle is showing you have been in business, in the same industry, for at least two years.
- To prove your income, you'll need to provide the last two years of tax returns, plus a P&L for the current year.
- If you're moving out of state, you may need to provide your own "employer" statement declaring that your income won't be impacted by the move.
I'll never regret the day I made the decision to stop being an employee and work for myself. But I'll also be the first to tell you that it's not for everyone. Many, many things are more complicated when you're self-employed, from finding health insurance to paying taxes.
If the stories are to be believed, getting a mortgage is also one of those things that is made unnecessarily complex when you work for yourself. So I was understandably anxious when I took the plunge.
When all was said and done, I don't think the process was actually any worse for me as a freelancer than it would have been for a regular employee. However, it is different, and everything will take longer and be more frustrating if you're not prepared. Let's take a look at what to expect.
The terrible twos
Your first roadblock is going to be the age of your business. In general, you need to have been self-employed -- in the same industry -- for at least two years.
Note the callout to "the same industry." This is key.
Lenders like consistency. They want to know your income is consistent and reliable enough that you can make all of your mortgage payments.
While some freelancers might have the same clients for years, that's not always standard. And it's certainly not the same thing as having the same employer for years. So, lenders settle for knowing you've been doing the same sort of work in the same industry -- and making the same (or more) money.
To address this, you'll need to answer a number of questions about your business, such as the date it was started and the type of work you do. In some cases, you may need to provide a copy of your business license or your DBA documentation. If you have a particularly difficult lender, it may even ask for recent invoices or letters from current clients.
Proving your income
No matter where your income comes from, the bank will want to see it. If you're a regular employee, you typically need to provide your most recent W2, as well as your most recent pay stub.
For the self-employed, lenders are a bit more thorough. To start, you'll need to provide the last two years of completed tax returns. The mortgage lender will use the average of your income from the two years (add the totals together and divide by two) as your annual income during your mortgage calculations.
Depending on the time of year, you may also need to submit a year-to-date profit and loss (P&L) statement. This is to show that you're on track to match -- or exceed -- your previous years' income.
Many lenders will accept the P&L you can generate within your accounting software. If you don't use software, or have a stricter lender, you may need to work with an actual accountant.
A letter from your "employer"
Any time you're buying far from a bank's location, the bank will need to be reassured that the move won't hurt your income. For regular employees, this usually means getting a letter from your employer.
But what if you are your employer? Well, you write the letter, of course!
In my experience, it was exactly as easy as it sounds. I drafted a short note explaining that my business wouldn't be negatively impacted by my move to another state. And that was it.
A not-so-horrible story
Despite the horror stories you may hear, getting a mortgage while self-employed doesn't have to be a nightmare. Is it a little more complicated than it is for traditional employees? Sure. There are some specific documents to provide and requirements to meet. But it's like anything else: How easy it is depends on how prepared you are. Do your homework and you can have a smooth experience.
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