Avoid Doing This if You Are Self-employed and Planning to Buy

March 9, 2016

Shoot Yourself in the Foot    Your income (among other things, such as your credit score and debts) is very important when it comes to qualifying for a mortgage. When you are self-employed, you make money, but you also spend money on or in your business, so your real income depends on how much money you have left after your business expenses. So, if you make $60,000 per year, but you have $30,000 in business expenses, then your net income is $30,000 per year. This is the number that a lender will typically take into account when qualifying you for a mortgage. They will ask for your two most recent tax declarations and look for that “magic” number (a.k.a adjusted gross income) to determine how much you can borrow (given your existing debt like car loans, credit card balances, etc.).

What happens when you include every single allowable business expense on your tax declaration? You reduce your income. Yes, you pay less income tax, but you also declare less income on your tax return and your tax return is what the lender will use as proof of your income. So, do not shoot yourself in the foot by declaring too much in business expenses if you are planning to buy a house.

What if your bank statements can show you make more than what is on your tax return? There are mortgage companies that will use your bank statements as proof of income, but you may not get the most favorable terms on your mortgage, such as a higher interest rate or higher minimum down payment.

For self-employed people, buying a house requires more preparation than for W-2 employees. Apart from being careful what expenses you include in your tax declaration, you should keep your personal and business finances separate, and also save as much as you can in order to show the lender you are stable and able to repay your mortgage.

I am always available to answer any questions and refer you to professionals that I trust will do a great job.