Guide To Lenders
July 24, 2014

Refinancing When Self-employed: Three Things You Should Know

Gina Pogol

Refinancing When Self-employed: Three Things You Should Know

You know the advantages of being your own boss. But when it comes to a refinancing, mortgage lenders make loan approval for self-employed borrowers a bit more challenging. If you are self-employed, here are three things to keep in mind before applying for your next new home loan or refinance mortgage.

1. Income Is Important

If you've been self-employed for some time, chances are the last mortgage you obtained didn't require income verification. Getting business and personal tax returns, pulling together financial statements, and documenting your business license may be new to you.

The main reason for the widespread use of stated-income mortgages in the past is the fact that, for many self-employed borrowers, taxable income doesn't necessarily reflect the amount of cash flow available for mortgage repayment. After writing off the trip to Europe (annual conference), the Porsche (company car), and the chihuahua (guard dog), the bottom-line income of self-employed borrowers isn't enough to qualify for a bird house without a special mortgage and a big down payment.

Now that stated-income mortgages are history, what's a self-employed homeowner with an aggressive tax accountant to do? Well, you could get your accountant a copy of Fannie Mae's self-employed income analysis form. It shows how your income is underwritten: some deductions (such as depreciation) get added back into your income, while others (such as meals) are not only deducted, but the non-deductible portion of the expense is subtracted from your income as well.

A smart accountant can back off a bit, or move expenses to areas treated more favorably by underwriters. And if your last couple of returns show less income than you could have earned with a paper route, remember that the tax filings can always be amended.

2. Timing Is Tricky

If you got your current mortgage when you were a wage slave and now you're in business for yourself, refinancing will be different. To get approved for a refinance mortgage, you don't just need to have been in business for two years--you need to have been successful for two years. What is successful? Two years of earning enough money to qualify for a mortgage.

In addition, it's best if your income increased over the last couple of years. A decrease in income is always cause for concern with underwriters, and it's treated harshly. For example, if you earn $50,000 one year, and then $100,000 the next, your income will be averaged and you'll get credit for $75,000. But if you earn $100,000 the first year and then $50,000 the next, you'll be lucky to get credit for $50,000.

FHA does allow consideration of applicants with only one year of self-employment if they have at least two years of previous successful employment (or a combination of one year of employment and formal education or training) in that or a related occupation.

Fannie Mae will also consider you with as little as 12 months' history if your most recent signed federal income tax returns reflect the receipt of income at the same (or greater) level in a field that provides the same products or services as your current business.

3. Credit Is Crucial

For self-employed applicants, credit scores are even more important than they are for cubicle-dwellers. That's because many lenders impose higher credit score requirements on independent business folks. So if you plan on refinancing, get your score as high as you can. Don't open up any new accounts (even business accounts, if you use your personal Social Security number to apply), pay on time, and reduce balances.

Your equity, credit, assets, and income are all considered by automated underwriting systems and human underwriters. Strength in other areas can offset the (perceived) handicap of being in business for yourself. And of course, you may get yourself a more attractive refinance mortgage rate if you bring in some cash, increasing your equity position.

Quinstreet, Inc., Internet Marketing Services, Foster City, CA Equal Housing Opportunity Verisign Secured