Entrepreneurship and side jobs are especially popular right now. There are 15 million self-employed workers in the US and Chicago alone is home to tens of thousands of small businesses.
While self-employment can give you more freedom and great satisfaction, it can also add some real challenges when trying to buy a home. Luckily, some lenders - including FFCU - have more flexibility and can help you jump the hurdles.
Let's walk through some of the common challenges that self-employed workers, freelancers and contractors face when trying to buy a home; a member's recent home buying story; and some tips you can use to get ready for your home purchase.
Common challenges for the self-employed home buyer:
Lenders are looking for two years of income, a track record of regular work, good account deposit history, and a good credit history.
Most of that is pretty straightforward, but there are some things about the self-employed life that create complications quickly:
If you're newly self-employed, you don't have two year's worth of tax returns and statements. But you may not be out of luck just yet.
Maybe you left your employer to work as a freelancer or contractor in the same industry. When you can show evidence of a proven track record and have future work lined up, flexible lenders may still be able to approve your application. It can also help if you have an established relationship with your lender, like if you've been a credit union member for a number of years.
2. Irregularity in profit and losses:
Say you have the history, but there are some major fluctuations in the numbers. Lenders want consistency, but it doesn't take much to impact profit and losses when you're self-employed. One year, you scale back to care for your family, while another year your local competitor closes and business booms.
Underwriters will average your income over 24 months, but they typically don't like seeing big spikes and dips from year to year. Some lenders will be able to take more time to analyze the changes and the factors that led to them to determine if your loan can still be approved.
3. Tax deductions reducing net income:
To help small businesses thrive, self-employed people can take advantage of many tax deductions. From your point of view, you make enough to pay yourself and manage your business expenses. From Uncle Sam's point of view, your taxable income is much lower after taking deductions for business travel, loan interest and computer equipment.
This makes a big difference with mortgage underwriters because they are looking at your taxable income. This greatly impacts the amount you're approved for because taxable income is used to calculate a key number in the decision process: your debt-to-income ratio.
Lenders usually prefer to keep a borrower's debt-to-income ratio no higher than 40-45%. If your lender is unable to verify more than what's on your tax return, your approved amount may be far lower than what you anticipated. Some lenders, however, may be able to make adjustments and even add back deductions for large, non-recurring items.
A Self-Employed Member's Home Buying Journey:
After looking at the challenges, it's easy to see how there's a lot of potential for frustration. But what about the opportunities for success?
Recently, the First Financial mortgage team worked with a member who was trying to overcome challenge #2 - irregularity in profit and losses. Over the prior two years, our member made some large capital investments for his business that just about wiped out his net income.
However, the decisions made a lot of sense. He was investing in capital today that would help his business grow and become even stronger in the future.
The First Financial mortgage team was able to take a look at the whole picture and use non-traditional income verification. The underwriter looked at how long the member had been in business, the overall health of the business and the member's history with the credit union.
Because of the member's good standing with the credit union and his business' health, FFCU was able to approve his mortgage and help him buy his new home.
Tips to Make Home Financing Easier:
If you are a self-employed member, there are a few things you can do to make the home financing process a little easier. Many of them you're probably already doing to maintain a healthy business.
- Register your business and maintain active licensing.
- Keep your debt load as low as possible and maintain a good credit score.
- Maintain good records for your business that classify income and expenses so you can generate a profit and loss statement.
- Keep your personal accounts separate from your business accounts.
- Consider making a larger down payment on your home.
- Choose a lending partner that can work with you and get to know you at a personal level.
Remember, some lending partners place more value in relationship and have the flexibility to actually help you jump hurdles rather than let them get in the way.
First Financial Credit Union is dedicated to the our shared community. We want to help members afford a home and help Chicagoland thrive.
If you're interested in buying or saving for a home,talk to Larry Levine, our mortgage expert. With over 20 years of experience, Larry is able to offer traditional mortgage services and exceptional niche services at FFCU. These programs often provide more flexibility and less rigid guidelines, availing credit union members more robust options.
Whether your'e looking for a new home or refinancing, Larry will be able to help guide you through the process from start to finish. Get to know your options by calling 773-565-2000 ext 5626.