How Much Mortgage Can You Afford If You’re Self-Employed?

How much can I afford if I'm self employed?

Estimating how much of a mortgage you might qualify for is a relatively easy process with online mortgage affordability calculators.

You simply plug in your income and debt obligations and, poof, the calculator will spit out an estimate of how much of a loan your mortgage company might extend to you.

Finance calculators aren’t sure-fire, exact ways to know exactly how much of a mortgage you’ll get approved for, but they can give you a good working estimate of the range for which you might qualify.

These mortgage calculators assume one major thing, however: that you are an employee of a company that provides you a consistent, standard paycheck and a W2 tax form at the end of the year.

A Self-Employed Mortgage May Cost More Than a Regular Mortgage

A self-employed mortgage is more expensive than a regular one for a number of reasons.

  1. First, lenders consider the risk of lending to a self-employed person to be higher than an employee with a steady income and assets. If you have no other credit history, it can be difficult for lenders to determine your ability to repay the loan. You may also need to show that you’re able to use your own assets as collateral (e.g., land or property).
  2. Secondly, if your business fails and you default on your loan payments, there are no assets that can be taken by the lender in order to repay what’s owed.
  3. Thirdly, many lenders require borrowers who take out mortgages on their primary residence (their home) with no proof of employment or salary in order to pay off these mortgages themselves without help from family members (or anyone else) as part of their financing agreement with them. This requirement makes qualifying for such loans more difficult since it limits access based on financial history alone rather than considering other factors like education level/degree obtained etc.

These reasons can make things even harder for some individuals who might otherwise qualify under normal circumstances.

How Much Mortgage Can I Get Approved For?

So what do you do if you’re an independent contractor, a full-time freelancer, or an owner of a business?

Getting approved for a mortgage under these conditions is not as straightforward as if you were a salaried employee, and figuring out how much mortgage you might qualify for is tricky as well.

Working with a good lender who will walk you through the process of what they are looking for from self-employed mortgage applicants will set the expectations properly and help guide you through how to get approved.

A good lending partner won’t just tell you that you can’t get a loan if you’re self-employed. Instead, they will work with you to tell you what you need, as well as how you can put yourself in a better position to get approved.

What Do You Need If You’re Self-Employed?

If you have a business, you need specific information about your business and expected income to know if you can really afford a mortgage as a self-employed person.

Just like the typical salaried employee, a self-employed mortgage applicant will need to prove stable and consistent income as well as a good credit score and a low debt-to-income ratio. These factors, combined with a large down payment, will all signal to the lender your ability to re-pay your mortgage.

There are, however, some tricks to the trade, as they say, and some intricacies to being approved for a mortgage when you’re self-employed that don’t exist for W2 employees.

Stable Income Over Two Years

First, most mortgage companies will want to see two full years of stable, consistent, and hopefully growing self-employment income.

This isn’t necessarily true across the board for every mortgage company, but the more self-employment income you can show over a longer period of time, the more stable you are as a borrower.

Aggregate Taxable Income

One other thing to be considerate of in regards to your self-employment income is that lenders are going to look at your taxable income.

This is true for all mortgage applicants, but it is more pertinent to those who are self-employed, especially since many people who are self-employed have a tendency to write off losses or expenses against their self-employment income to reduce their tax liability.

While that may be a good thing for your year-end tax picture, it could adversely affect the amount of mortgage for which you qualify.

Think of it this way. If your gross self-employment income for the year is $100,000, but you have $40,000 in expenses that you write off on your taxes, a mortgage company will look at your taxable income —- or what you have available to pay your mortgage with — like $60,000.

Common Requirements for All Borrowers

Other tips to getting a mortgage approval as a self-employed individual are similar to that of W2 employees:

  • Pay down as much debt as possible
  • Maintain as high of a credit score as possible
  • Put as large a down payment as possible

The idea is to come to the application table with your financial situation poised to increase your ability to qualify for a mortgage.

How to Calculate Self Employed Income for Mortgage

Now comes the trickier part.

Once you have all your documents in order and your mortgage company guides you through the process of getting approved for a loan, how do you estimate how much you’ll be approved for?

You may look at your current month’s income and your income projections for the year and think that’s the number the mortgage company will use. But that isn’t always the case. Just like mortgage companies don’t take into consideration any non-guaranteed bonuses or possible increases (or decreases) in the future salary for W2 employees, they won’t do that if you’re self-employed either.

Instead, what they’ll do is analyze your income over the last one or two years to get an idea of what your predictable income will be.

A general way to estimate your income, as it pertains to how a mortgage company will assess it, is to take your total earnings for the last two years and then divide it by 24.

This will give you your average monthly income. Then, multiply that number by 12, and you’ll have the number your mortgage company will most likely use in its assessment.

For example:

  • Let’s say your total income for the last 24 months is $144,000
  • Dividing that by 24 would give you an average monthly income of $6,000
  • Multiplying that by 12 gives you an annual income of $72,000

That is the number you want to use when you’re plugging your information into a mortgage calculator.

Sure, you may have had a much stronger year than you did 20 months ago. Your income over the last 12 months may even be substantially higher than $72,000, with the prospects for even higher income almost a surefire thing.

But to be safe, use the income calculation proposed above, which is $72,000, in this example. That is a number your mortgage company will most likely use as a fair determinant of what you are likely to gain on average in the future.

Keep in mind that the mortgage company is determining your ability to re-pay your mortgage, and fluctuations in self-employment income, both positively and negatively, are more likely when you’re self-employed than when you’re a W2 employee.

As a result, lenders will proceed with more caution with self-employment income.

Now, Start Preparing to Apply for a Mortgage

Now that you know what kind of mortgage you may actually be able to afford, start preparing to apply for one! If you are self-employed, there are a few extra steps involved.

First, make sure you’re saving enough money to cover your closing costs and other upfront expenses. You may also need to provide more documentation as proof of income.

For example: if your business is new or in its early stages (and therefore not generating any revenue), then lenders will expect an explanation of how it plans on paying back the loan.

That means sending over a business plan showing how much money can be generated from clients within one year—which could explain why some banks require more information than others when assessing creditworthiness.

If this sounds like too much work at once and instead would prefer to focus exclusively on finding affordable homes—no problem! 

This is where a knowledgeable mortgage professional is worth their weight in commission. 

Work with a Valued Mortgage Professional

The most important aspect of applying for any type of mortgage is that you work with a professional mortgage company that not only values you as a potential customer, but works to guide you through the entire mortgage process — from application to close — to ensure the best experience possible.

This is especially true, though, when you’re considered an unconventional mortgage applicant.

Bottom Line on Self Employed Mortgages

Remember, if you’re self-employed and looking to buy a home, your lender might require more documentation than someone who has a W2 job.

In some cases, lenders might even ask for two years of personal tax returns or proof that you’ve been self-employed for at least two years. Plus, because you may not have the same steady income as someone who is employed by another company, it can be tough to qualify for certain types of mortgages.

If you need help figuring out how much mortgage you can afford as a self-employed person or want to learn more about the process of buying a house in general, check out our mortgage calculator or connect with one of our mortgage experts today!

At Embrace Home Loans, we love unconventional, and we believe being unconventional shouldn’t mean you’re unqualified.

We work with our borrowers hand-in-hand to make them feel appreciated and like a partner, ensuring everyone gets a value from us other than just a mortgage to finance your home.

If you’re self-employed, you know better than most that relationships are what gets deals done, and that is exactly our approach to lending.

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