More than 57 million Americans earned at least some of their income freelancing last year, including 47% of Millennial workers. If you’re one of the millions of workers who won’t be getting a W-2 from a traditional employer next year, we’ve got good news. Getting a mortgage and buying a home without a traditional salaried job is possible. Freelancers, small-business owners, consultants, side-hustlers, and other independent workers become homeowners every day.
Being your own boss and owning your own home are central components of the American Dream. So if you’d like to make both happen at once, we’ve got some tips on how to do it.
Get Your Documentation Ready
A decade ago, an independent worker could find lenders willing to make stated-income and stated-assets mortgages, which used a we’ll-just-take-your-word-for-it model of income verification. (Spoiler: it didn’t go well.)
Now, lenders are required to verify the income of would-be mortgage borrowers.
For people with traditional jobs, lenders usually ask to see recent W-2s and a few months’ worths of bank statements to verify a potential borrower’s income. And that means that for wage-earning people with regular jobs, the income-verification process is pretty straightforward.
If you’re not in the collecting-paychecks-every-other-week-from-your-employer crowd, lenders will want to do a more thorough review of your finances.
Generally, freelancers and other independent workers need to show potential lenders two years of tax returns for themselves and their businesses. And by tax returns, we mean all the forms: the full 1040, itemized deductions, profit and loss statements, the works.
You might need to provide additional documentation about your business, too, depending on how you’ve structured your business. (Are you a sole proprietor? Do you have an ownership stake in a corporation?). How long you’ve been in business and how stable your business looks to your lender’s underwriters will matter, too.
If it sounds like a lot of documentation, remember: lenders aren’t in this to give you a hard time. They just want to verify that you’ve got enough income coming in to cover your future monthly mortgage bill. You’re a business-person. Buying a home probably isn’t the first occasion where you’ll find that it’s important to have your paperwork in order.
Think About Your Deductions
When tax time rolls around, having loads of business deductions is great for reducing the tax liability on income generated by your business.
But a lower adjusted gross income can come back to bite you when it’s time to apply for a mortgage.
Keep in mind, lenders are going to determine the maximum amount they’ll be willing to lend you to buy a home based on the size of your adjusted gross income. Not based on the amount of money you and your business brought in, before you tally up all of your deductible business expenses.
This doesn’t mean you shouldn’t claim all of your potential business deductions, of course. Just remember, from a lender’s perspective, it doesn’t matter if your business brings in thousands a year or millions a year. Lenders are only concerned with the size of your income after the numbers have been crunched.
A Good Credit Score is Critical
Income isn’t the only factor lenders consider when determining whether or not to work with a potential borrower. Credit scores are a big deal for any prospective homeowner. But they are especially important for potential homebuyers who aren’t traditional wage-earners.
Having a high credit score can help you get a better deal on your mortgage. And importantly, having a high credit score can also help demonstrate to lenders that you are responsible with your finances. Showing that you’ve successfully managed debt before—through credit cards, personal loans, or business loans—can help make you an attractive borrower.
Savings and a Solid Down Payment Can Help
You can definitely buy a home without a sizable down payment or without stacks of cash in the bank.
But as a person with an untraditional source of income—at least, unconventional from a mortgage banker’s perspective—you’ll have an easier time securing a mortgage if you’ve got significant savings squirreled away, or if you’re able to put at least the traditional 20% down.
The more money you are able to put down on your home, the more equity you’ll have in the place. And more equity on the borrower’s end means less money from the lender is needed to close the deal. The ratio between the amount you’ll need to borrow and the appraised value of the property you’re purchasing is called the loan-to-value ratio, or LTV. Lowering your LTV can increase the likelihood that your mortgage application will be approved.
Lowering your LTV could also mean a lower reserve requirement from your lender. For almost all mortgages, lenders want to see that borrowers have at least two or three month’s worth of mortgage payments in savings. For loans that lenders think may be riskier, that reserve requirement can go higher. Conversely, having a large amount of money in savings can help demonstrate to lenders that offering you a mortgage won’t be too big a risk on their part.
Own more than 50% of your business? You may be able to count assets in business accounts toward your cash reserve requirements. (Doing so might require a letter from your CPA, assuring your lender that you accessing company funds won’t jeopardize the business.)
Stability is Key
This piece of advice applies to independent workers and traditional wage-earners alike, but it’s especially important for self-employed mortgage seekers. If you’ve changed careers in the last two years, lenders may be reluctant to work with you.
For a lender, the ideal borrower has worked for the same company for ages, doing roughly the same type of work, with maybe some slow-and-steady pay increases and title changes along the way. Job-hoppers make lenders a little nervous. Actual career changers can send lenders into an outright panic. You were an accountant for many years but suddenly you’re a chef? That’s going to be a serious red flag for a potential lender.
Even if you aren’t radically changing the work you do, going from being an employee to being a contractor or freelancer could be a significant hurdle to finding a mortgage lender. If you just founded a brand-new company? Or only recently gave up the 9-to-5 to live the dream of working for yourself? Then you may have a hard time convincing a lender that you (and your new income-generating scheme) are stable enough to reliably pay a mortgage.
If there’s a silver lining here, it’s that self-employed people who have been self-employed for many years shouldn’t have trouble finding a lender, provided they meet the other, regular requirements.