The ability for the self-employed to secure financing has always been a challenge. There are two primary reasons for this.
Self-employed buyers typically are very conservative when reporting their profit and income when filing their tax returns. Some self-employed buyers are involved in multiple entities which require the filing of multiple tax returns. These are difficult for lenders to fairly analyze and determine an accurate amount of income for qualifying purposes. Additionally, it requires the borrower to provide a phone book-sized stack of tax documents.
In the 1990s, lenders created stated-income programs to provide financing to self-employed borrowers with good credit and large down-payments. Stated-income loans allowed these borrowers to “state” their income without providing tax returns or financial statements.
Eventually, lenders extended the stated-income programs to borrowers who were salaried and paid an hourly rate; they also reduced the credit score and down-payment requirements. It was unnecessary to include non-self-employed borrowers because their income was easy to verify; the reduction in the standards was unwise. The changes contributed to the mortgage lending meltdown in 2008; in the aftermath, stated-income loans were eliminated for owner-occupied homes, and many additional layers of lending restrictions and onerous requirements were added.
The new laws were created with the Dodd-Frank bill, which prohibited lenders from making loans on owner-occupied properties unless they verified the borrower’s income. Even though stated income loans were allowed for investment properties, very few lenders initially offered it until recently. There are now a number of lenders offering stated-income financing for investment properties.
A growing number of lenders are now allowing self-employed borrowers to qualify for owner-occupied properties using alternative income verification documentation. The most common of these programs allows borrowers to provide their bank statements over a period of time to verify their income.
The largest providers of mortgages, Fannie Mae and Freddie Mac, do not offer stated income or alternative documentation loans. Similarly, government insured loans – FHA, V, and USDA – only allow traditionally documented loans. These loan programs come with the lowest 30 year fixed rates available and lenders offering these programs offer rates that are almost identical.
Lenders who offer stated-income or alternative loans have terms that vary greatly. Some offer only adjustable loans, others also offer fixed-rate loans at a higher rate. If you need these types of loans, it’s very important that you get quotes from at least three lenders because the difference between the rate and terms of the most and least competitive will be significant. Some mortgage brokers have relationships with a number of these lenders and can shop for the best terms on your behalf. Additionally, they can explain the difference in the terms and help you decide which lender has the lending program that is most advantageous for you.
Steve Setka is a buyers’ agent at R1 Colorado. Contact him at [email protected]