One of the biggest challenge for self employed individuals in the process of purchasing or refinancing a home is the documentation of income. Over 90% of mortgage transactions are underwritten using a traditional income analysis in which a mortgage bank will review a two-year average of taxable income claimed on filled Federal Income taxes. The self-employed borrower’s income will be determined by the calculation of a two-year average of the adjusted gross income claimed.
Self Employed Refinancing: Income Documentation
Most lender’s will allow specific deductions claimed within the tax return to be added back as income such as depreciation, deletion, or any non- recurring items. Unfortunately, this representation of income, in many cases does not even come close to referencing the “true” income of the self-employed borrower and many of these borrowers are told by their loan officers that they cannot help them to qualify for a loan.
Pre 2008, virtually every mortgage bank had access to some form of a stated income program. The programs were categorized into two specific categories:
SIVA- Stated Income Verified Assets– The borrower would be allowed to state their monthly gross income, but would be required to verify assets that would support the monthly income that the was being claimed. So effectively if a borrower was claiming that they made $15,000 per month, he or she would need to provide asset statements that verified six months, $90,000 or twelve months or $180,000 in savings. These assets gave the lender a level of comfort that the self-employed borrower was managing their income and expenses responsibly and has the savings reserves to reasonably anticipate that they could make their mortgage payment moving forward. Stated Income Verified Asset loans started to appear around 2001 and were originally intended for the self-employed a borrower had to document that he or she had been self-employed for a minimum of two years with the documentation of a business license or CPA letter.
SISA- State Income Stated Assets– This category of stated income loan allows the borrower to state their gross monthly income and state the assets required. Overtime these stated income, stated asset loans began to be available to not only the self -employed, the programs were offered to wage earners as well. The erosion of asset verification contributed to the collapse of the mortgage banking industry of 2008.
The restructure of the mortgage industry since the collapse has been heavily regulated by the Federal Government. The regulations established strict guidelines about income calculation, debt to income requirements, loan terms etc. These are the restrictions that have eliminated stated income loans and made mortgage options for the self-employed increasingly difficult. These loans have been classified as “qualified mortgages or QM.” The Federal government offers lenders who make qualified mortgages insurance against potential losses on the loans and most importantly allow the loans classified as “QM” to be sold on the secondary mortgage markets to investors. This makes “qualified mortgages” extremely attractive to the and prevents most lenders for offering anything but qualified mortgages.
Mortgage Options for the Self Employed Refinancing
In direct response to the “Qualified Mortgage,” the Non-QM, Portfolio loan, or alternative income loan was formed to meet needs of the self-employed who did not fit into the categories of the “Qualified Mortgage.” Banks making these mortgages were left to their own interpretation of risk and income analysis as any loan considered “Non-QM” could not be sold on the secondary mortgage market to publicly traded investors or bundled together with other qualified mortgages. In many situations these banks keep or service these loans themselves and based on that risk the underwriting guidelines of these alternative income loans have evolved completely away from the lack of documentation that was previously available with the SISA, stated income, stated asset programs of the past.
Lenders who are providing these alternative lending options are looking for the security of reasonable income to make the future mortgage payments. The stated income loan for the self-employed borrower has been replaced by the Bank Statement Program. The program determines income with analysis of personal and business deposits over a twelve-month period of time as a representation of future income. The Bank Statement Program is designed only for the self-employed borrower and will require the documentation of a minimum of two- years self-employment in the form of a business or professional license, or CPA letter verifying a minimum of two years. Many of the mortgage banks offering these bank statement programs, do not require the verification of income taxes in any manner. As long as there is not a state of Federal tax lien recorded against the borrower, the lender will not collect or verify Federal Income taxes in any manner.
The bank statement program will also require the evidence of reserve assets available to the borrower after the mortgage closes. There are several mortgage banks that offer bank statement programs for the self-employed and each of these lenders will have different requirements for the verification of monthly payment reserves. Liquid financial reserves include checking or savings accounts, investments in stocks, bonds, mutual funds, certificates of deposit, money market funds, trust accounts, vested amount in requirement accounts and the cash value of a vested insurance policy. Unlike Qualified Mortgages, many of these bank statement programs will allow the borrower to use business funds to meet the reserve requirements.
Typically, the reserve requirements for bank statement programs start at twelve months of payment reserves which is the total payment, principle interest, property taxes, homeowner’s insurance and home owners associate fees if applicable. There are lenders that will allow for as little as six months of payment reserves, but twelve months is more of a standard reserve requirement on a bank statement up to a loan amount of $1,500,000 and as the loan amounts increase, so will the requirement of reserves.
The bank statement program is the solution for the self-employed borrower make a good living, but their based on their Federal income tax returns do not meet the strict requirements of the traditional mortgage bank analysis of income to qualify for a home loan.
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