It might be getting a bit easier for self-employed individuals (SEI) to qualify for home loans. They just need to make sure that the focus in that last statement is on the words “a bit easier.” Applying for mortgage loans has conventionally required a lot of paperwork and documentation.
And that is especially true for individuals applying for all types of home loans that rely partly or solely on self-employment income to get approved. These borrowers have faced tons of scrutiny from financial institutions who are nervous that their career choice, especially their earnings, might be a considerable hindrance in paying their loans.
Fortunately for self-employed individuals, financial institutions like Fannie Mae have new guidelines regulating how lending firms treat self-employment income. These guidelines do not change a lot for self-employed individuals, but they might minimize the amount of documentation, and paperwork borrowers need to send to financial institutions.
Although, self-employed individuals should still be prepared to send a lot of documents to ease concerns that lending firms might have about the stability of their finances, even with Fannie Mae’s changes. According to experts, lending firms have always preferred working with conventional wage earners.
It is a lot easier to guess and estimate whether these people will have enough funds every month to pay back their debentures on time. W2 wage earners with no commissions, overtime, or bonuses are certainly the easiest individual earning scenario to understand. It gets more complex for self-employed borrowers who might have a couple of different income streams.
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Challenges
The primary goal of Fannie Mae’s changes in their guidelines is to at least make life a bit easier for people who are not working in a company. It is a crucial step considering how many of these people are out there planning to buy a house. According to the United States Bureau of Labor Statistics, as of 2015, more or less fifteen million individuals in the country were self-employed. That is 10% of all active workers in the country.
If the borrower is one of these workers, these changes might make the housing loan application process less onerous. But they will still need to work. For example, financial institutions will still need borrowers to show documentation that they can use to verify their earnings.
Lending firms still want to make sure that the funds the borrower earns are stable and that they will not suddenly evaporate because of unforeseen circumstances. Lending firms have always considered incomes from regular salaries to be a lot safer, funds that are less likely to go up and down during the year.
Because of this, proving that their earnings are reliable is a challenge that has not disappeared for borrowers who are not working for a company. But even with these challenges, it is not impossible for them to qualify for a home debenture.
According to financial experts, it should not be any more challenging for borrowers to be eligible for a housing loan with self-employment earnings if they can provide documentation that their income is very stable. It is not tougher for these types of borrowers to get a property.
That is a very common misconception, and it’s not accurate. Although there is one section in which these people can face problems, and that is on their tax forms. These individuals tend to write off parts of their earnings to pay as little as possible tax every year. Doing this minimizes the amount of income lending firms can use when determining if the borrower qualifies for a housing debenture.
Suppose a person makes one hundred thousand dollars gross but only writes ninety thousand dollars. In that case, they are leaving ten thousand dollars in income, which is significant if they are looking for an affordable mortgage rate despite their nature of work.
That, of course, would be a huge issue, as ten thousand dollars in gross earnings will not buy anyone much house. If they are planning to purchase a house in the next couple of years and they are self-employed, they need to be very careful when writing off their expenses to leave enough gross income behind to qualify for a home debenture.
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Less paperwork
Conventionally, these types of borrowers need to show lending firms at least two years of their tax returns to show how much income they have earned. Financial institutions would then take an average of the gross earnings shown on their returns and use that amount as their borrower’s official yearly income. This made applying for a housing debenture very challenging for borrowers who only recently became self-employed individuals.
These people might not have had a full year of tax returns that shows their income. However, the new requirement states that individuals who do not have two years of returns showing their earnings as an SEI cannot provide just twelve months of returns. But these returns need to show 12 straight months of earnings as an SEI.
Side earnings
What if the individual is both a full-time company employee and an SEI on the side for extra income? The new guideline now states that individuals will not have to show proof of their income as an SEI if the funds from their full-time job are high enough to get them approved for a home debenture for which they applied. If they need SE earnings to qualify for the debenture, they will still need to prove it, even if they have a salary from their full-time job.
The change in guidelines could mean less documentation and paperwork for SEIs who juggle full-time jobs with their part-time gigs. But it is unclear how most financial institutions would ask them to provide proof of their SE earnings if these funds were not needed to qualify for a credit. The change in Fannie Mae guidelines might have little to no real-world impact.
The documentation borrowers will need
What documentation or paperwork will people need to show to financial institutions to prove that the SE income they earn is reliable and stable? If they do have at least twenty-four months of tax returns showing SE earnings that are either on the rise or consistent, plan on sending copies to lenders.
These organizations want to see that the money they are earning will not be small one year and too big the next. These fluctuations could make it hard for them to make their monthly amortizations, and lending organizations do not like to see these kinds of instabilities. People should also be prepared to show copies of their bank statements for two months or more.
Financial institutions want to see that borrowers have saved enough funds to cover loan payments in case their SE or freelance funds do take a dive during the next couple of months. And lastly, if a couple of different vendors pay the individual as part of their SE enterprise, there is a good chance that lenders will require them to send copies of their different 1099 forms: tax forms that list what different vendors paid them during the duration of one year.
So, applying for a housing debenture when borrowers rely on the SE fund is still a massive challenge. Guideline changes set by Fannie Mae might mean that people will not have to send as many tax returns as before, but that is about it as far as significant changes go.
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