Income

Mortgage Lender Self-employed Income Calculation and Qualification

Mortgage lenders on traditional programs like FHA, VA, USDA, Conventional and regular JUMBO loans calculate income based on the amount of income that is reported to the IRS for self-employed borrowers. You can do it yourself by reviewing your tax returns and pulling out some of the numbers. The idea is to distill the income down to after expenses, but before taxes. Any paper losses like depreciation or business use of your home do not count into the expense portion of the calculation.

Here are the steps to calculating your self-employed income for traditional mortgage loans. Note that if you are getting a bank statement or Non-QM loan the calculations are done differently using the bank statement criteria

  1.  You will typically need two years of filed tax returns for your business.  It is the data from those that will be used to calculate your income. Only income reported to the IRS can be used. 
  2. Your income will be averaged over the two years and it will be the number that is after expenses but before taxes. 
  3. Some things can be added back to increase the number, like depreciation since this is essentially a “paper loss” and not actually money out of your pocket.
  4. Take the total from the bottom line of your Schedule C and add back any amount on the Depreciation line and Business Use of your home line for each of the two years and come up with a total.
  5. Divide that total by 24 months and that should give you the monthly amount.
  6. If you are a Sub chapter S Corp and you take a salary and a dividend – the dividend, those are both sources of income. Take the dividend for two years and divide by 24 months plus the amount you are taking for a draw on the most recent W-2 divided by 12 months. Your paystubs should support same or similar amount as the most recent. Add these two together and this would be your monthly income.
  7. Business Liquidity is also calculated on a Sub-chapter S corp. This is done with two ratios. Both need to have a result of 1.0 or greater to confirm adequate business liquidity to support withdrawal of earnings.
    • Quick Ratio = (Current assets minus inventory) divided by current business liabilities
    • Current Ratio = current assets divided by current liabilities
  8. Underwriting will also want to take a look at your year-to-date income for the year that we are in to be sure you are still in a similar situation. 
  9. If there are any irregularities in your income or unusual seasons, it’s good to write a letter explaining them and how this effects the future of your business and income.  This will help a lender understand your situation better and have a clear picture of your business story.

If you own a larger company, chances are you are taking a regular salary anyway.  Note that if you own more than 25% of a company, corporate returns are likely to be required to show that company is healthy and solvent and can support your income.

Lender qualifies you on a percentage of that income that is calculated.

Once you have a monthly amount, you can take a percentage of 43% of that and subtract out your monthly installment and revolved debt minimum required payments. The amount you are left with is your maximum payment. This would be an amount that included taxes and insurance. To find out what the loan amount you can qualify for do the following:

  1. Determine the approximate amount of property taxes you would be paying per month. Take the annual and divide by 12 months on properties that you are looking at.
  2. Obtain a ballpark quote on a homeowners policy for homes similar to what you are hoping for and in the area. If I am unsure, I usually just use about $100-$120/mo
  3. Are you looking in places where there is a Homeowner’s Association? If so, those will need to be taken out as well.
  4. Are you purchasing a condo that is in a Homeowner’s Association? There will be condominium association fees to subtract out
  5. Mortgage insurance will be a bit of a wildcard and we will leave it for now because this varies so much depending on how much you put down.
  6. Your calculation should look like this:
    • Monthly income X .43% = $ Total payment
    • Total payment – monthly amount for taxes – monthly amount for insurance – HOA dues = mortgage loan payment
  7. To find out how much mortgage that would give you, go to the Mortgage Calculator page and put in $0 for down payment, put in a ballpark rate for what they are currently and just put amounts in the purchase price until the box on the right shows the Principal and interest payment that matches your final calculation.
  8. To give yourself a whole picture of the payment, once that amount matches, increase it by your planned down payment and also input the down payment in the appropriate field. Make sure the other boxes have correct totals and it should give you a proper breakout on the right of the monthly cost.
  9. Lastly take the amount you are putting down and divide it be the end purchase price. This will give you a percentage of how much you are putting down and when you subtract it from 100% will help you know what percentage or Loan-to-Value that you are going to apply for. If you are putting less than 20% down, you will need mortgage insurance – the insurance that protects the lender in the event that you default.

Congratulations – you just used your self-employed income to qualify yourself for a mortgage!

Kristin M Eklund NMLS #1872091
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