Self-Employed, Commission, and Variable Income
A borrower is self-employed for mortgage purposes when they own 25%+ of a business, work as a freelancer or independent contractor (1099 income), file Schedule C, E, or F income, are partners in a partnership (K-1 income), or own an S-Corporation or C-Corporation with significant ownership. The Two-Year Requirement Agency guidelines generally require two years of self-employment history in the same field. Exceptions exist for borrowers who were previously employed in the same field before becoming self-employed. The Tax Return Problem Self-employed borrowers minimize taxable income through legitimate deductions. A business owner showing $180,000 in gross revenue and $120,000 in deductions shows only $60,000 in net income on their tax return. For conventional qualifying, lenders use the taxed income — the $60,000. Your job is to maximize qualifying income within guidelines and to educate borrowers about the tax return trade-offs before they apply. Add-Backs Some deductions that reduced taxable income do not represent actual cash spent. These are added back to qualifying income: Depreciation (non-cash deduction), Depletion (similar to depreciation for natural resource businesses), Amortization (non-cash expensing of intangible assets), Business use of home (to prevent double-counting), and Non-recurring expenses (one-time losses from unusual events).