Securing a mortgage can be daunting for anyone, but the process often comes with unique hurdles for self-employed individuals. Mortgage loans for the self-employed can be more difficult to obtain. That’s because, unlike traditional employees with steady pay stubs, self-employed business owners typically have to navigate more unpredictable income, more complex tax structures, and more stringent lender requirements.
Despite these challenges, there are strategies to improve your chances of getting a mortgage loan for the self-employed. This blog will explore the common obstacles self-employed individuals face and practical ways to overcome them.
The Challenges of Getting a Mortgage Loan for the Self-Employed
Income Variability
Banks look for a steady and dependable income to ensure borrowers can pay their mortgages on time. People who work for themselves often have variable income based on their business, which makes banks more cautious from a lending perspective.
Conventional banks traditionally look at personal tax returns (T1 Generals and Notice of Assessments) to verify income. However, self-employed individuals (whether Sole Proprietors or Incorporated) regularly deduct expenses or retain money in their corps which results in lower personal income. This lower declared income amount saves on taxes but makes it more challenging to qualify for a mortgage with the banks.
Strict Documentation Requirements
Self-employed borrowers must hand over much more paperwork than those with regular jobs. To determine their income, banks may ask for two years’ worth of business and personal tax forms, profit and loss reports, balance sheets, and bank records. Many banks think it’s too risky to give loans if the individual has been self employed for less than two years.
On top of that, the bank might want letters from an accountant to double-check your income or info about any deals or customers that show you’ll have steady work coming in down the road.
Higher Down Payment Requirements
Banks see people who work for themselves as riskier to lend to. Some banks might ask for a more significant down payment to lower that risk if your credit score or proof of income doesn’t quite hit their usual marks. This can be a big hurdle for self-employed people if you’ve put a lot of your earnings back into your business or if your income has gone up and down in recent years.
Credit Score Scrutiny
A strong credit score is even more important for self-employed borrowers than traditional employees. Lenders will look closely at your credit score to determine your ability to repay a mortgage loan. Any past financial missteps, like missed payments or high credit utilization, can work against you.
Because of the risk associated with fluctuating income, lenders are more likely to scrutinize your credit history closely to ensure you are a reliable borrower. A lower credit score could also mean higher interest rates, increasing the long-term cost of your mortgage.
How to Overcome the Challenges
Although there are many challenges in securing a mortgage loan for the self-employed, there are ways to improve your chances of success. With the right preparation and documentation, you can overcome the hurdles and secure a loan that meets your needs.
Maintain a Consistent Income
Lenders want consistent income to assess your ability to repay the loan. One strategy to prove stability is averaging your income over the past two years. If your business has grown during this time, you should emphasize the upward trend in your profits.
It’s also important to reduce income volatility. If possible, secure longer-term contracts or agreements with clients, which can provide more predictable income. Lenders are more likely to approve a mortgage loan for the self-employed if they can see that you have regular, ongoing work.
Also, if you have a cash component to your business, we recommend you regularly deposit the cash into a bank account so we can use the cash income to support mortgage qualifying.
Keep Thorough and Accurate Financial Records
Since lenders request extensive documentation, it’s crucial to maintain accurate and up-to-date financial records. Ensure your tax returns, profit and loss, and bank account statements are well-organized and reflect your true income.
You can also enlist the help of an accountant to prepare your financial statements. A professional vouch for your business income and financial health can boost your credibility with lenders.
Lastly, it’s critical to keep up to date with CRA tax payments.
Build Up a Large Down Payment
A larger down payment can help mitigate the lender’s risk, especially if your income varies. A down payment of 20% or more is ideal. Not only does it lower the loan-to-value ratio, but it also demonstrates to the lender that you are financially responsible.
If saving up a sizeable down payment seems daunting, consider waiting a few more months to accumulate more funds. You can also look into down payment assistance programs, which might be available depending on your location and financial situation.
Improve Your Credit Score
Your credit score is crucial in mortgage approval, particularly for self-employed individuals. A high credit score increases your chances of approval and qualifies you for better interest rates. Pay all your bills on time, reduce outstanding debts, and avoid opening new credit accounts before your mortgage application.
Additionally, review your credit report for errors. Mistakes in your report could negatively impact your score, so you must dispute any inaccuracies.
Work with a Mortgage Broker Specializing in Self-Employed Loans
Navigating the mortgage process as a self-employed individual can be complex, but working with a mortgage broker specializing in self-employed loans can make a significant difference. Brokers understand the unique challenges you face and have access to various lenders who are more flexible with their requirements for self-employed borrowers.
A broker can help you find the best mortgage terms and guide you through the application process, ensuring that you have the necessary documentation and that your application highlights your strengths as a borrower.
HW Advantage: Mortgage Loans for Self-Employed
Securing a mortgage loan for the self-employed can be challenging, but it’s not impossible. By maintaining a consistent income, keeping accurate financial records, building a large down payment, improving your credit score, and working with an experienced mortgage broker, you can overcome the obstacles and successfully obtain a mortgage. With preparation and the right approach, homeownership is within reach for self-employed individuals.
We have relationships with over 35 qualified lenders that work with self employed individuals at HW Advantage, giving us various options to find you the lowest mortgage rates in Ontario. We also pride ourselves on providing flexible mortgage options—including bad credit mortgages—for communities in the Burlington and Oakville areas.
HW Advantage can help you land the home of your dreams. Ready to see how we can help? Contact us today or apply directly for a mortgage online.