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Homeownership is a dream, but it can also be a nightmare of red tape, fees you hadn’t expected, and hurdles you hadn’t counted on if you aren’t ready for what lies ahead.
This is especially true when you’re self-employed. If you own at least 25% of your own business and that’s where you’re getting the bulk of your income, you’ll have to jump through some extra hoops to prove to lenders you’re an acceptable risk when it comes to approval for a mortgage. That means it’ll take extra planning, awareness of your finances, and diligence during the time before you submit an application.
With that in mind, here are some things you can do to improve your chances that the process, as complicated as it may be, goes smoothly.
Trim the size of your mortgage
A smaller mortgage has multiple advantages, not the least of which is that it requires less income to qualify. While trimming your mortgage sounds overwhelming, there are at least a couple of ways to do this:
Make a bigger down payment
It only makes sense that, if you’re seeking a smaller loan, you’re more likely to get approved because there’s less risk to the lender.
One way to do this is to make a sizable down payment. Not only will this reduce the size of the mortgage you’re seeking, but it will also show the lender you mean business: You’ve got money of your own to put on the table, and you’re willing to do so.
Still, there are benefits and drawbacks to a larger down payment. You’ll have a better chance of getting approved for a mortgage, not to mention smaller monthly payments, but you may also have to wait longer while you save up enough money to put more on the table upfront.
Buy a fixer-upper
Another option is to buy a home that needs work and invest in doing that work after you’ve been approved for the mortgage.
You can get a good deal on a foreclosed home, or you can just buy a good old-fashioned fixer-upper and make improvements once you’ve got the title in your name. Make a list of priorities to determine what must be done immediately (broken stairs, leaky plumbing) and what can wait (turning the garage into a game room).
Before you sign on the dotted line, you’ll want to figure out how much each planned renovation will cost to determine how much you need to borrow. For example, if you need a new roof, you can determine how much it might cost, approximately, by using an online roofing calculator. You’ll just need to know the roof size and pitch. Then you can compare costs based on the number of materials you’ll need.
There are also options for rolling your remodeling costs into your mortgage payment. Check out the possibility of an FHA 203(K) rehab loan. There are some rules you’ll have to follow, such as hiring a contractor to devise the plans and inspect your work as you go. One stipulation of this kind of loan is that any work done must raise the home’s value — but that should be part of your overall goal anyway.
Keep detailed records
If you’re buying a home as a self-employed business owner, you’ll have to provide more paperwork in order to get approved. Lenders will typically look at your W2 tax forms, but you won’t have those. Instead, you’ll have to supply two full years of your business’ tax documents. Before you provide those records, however, make sure you do the following.
Keep business and personal finances separate
It’s important to keep your personal finances separate from your business accounts so that lenders will know how much money you have to pay off the loan. If you’re repeatedly shifting funds to your business to keep it solvent, that’s not a good sign. Nor is it a good idea to keep pulling money from your business, to make it look like you’re making more than you are.
A good way to mitigate against any confusion is to not only keep your accounts separate but also to pay yourself a regular salary. That way, prospective lenders will know you’re earning a consistent paycheck that they can count on as you repay your loan, and you’re not just trying to make yourself “look good on paper.”
Revisit and reduce your tax deductions
The more deductions you can take, the less you’ll pay in taxes, which is a good thing… unless you’re self-employed and trying to buy a house. Lenders will look at your income in determining whether to qualify you for a loan, the more tax deductions you take, the smaller your income will appear, at least on paper.
Since lenders will be looking at two years’ worth of tax records, it’s a good idea to start minimizing your deductions two years before applying for a mortgage. That means planning ahead, rather than just deciding on the spur of the moment, “I want to buy a house tomorrow.”
Reduce your debt-to-income ratio
Your debt-to-income ratio is an important figure to keep in mind when applying for a loan. The smaller your ratio, the better your chance of being approved.
There are two ways of improving this number: Raising your income and lowering your debt. Reducing your debt may also have the effect of improving your credit score, which will look better to lenders, too.
To know where your credit stands, order a free copy of your credit report, which you’re entitled to under federal law. Resolve any late payments and start paying more than the minimum balance on your credit cards and loans each month to help yourself build credit. Like the other steps described here, this will take time and planning, so start well before you apply for a mortgage.
If you improve your credit, reduce your deductions, keep your accounts separate, and trim the size of your mortgage, you can increase your chances of obtaining a mortgage as a self-employed business owner.
