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Self-Employed and Can’t Qualify for a Mortgage?

Self-Employed and Can’t Qualify for a Mortgage?

The mortgage crisis has had a disproportionately negative impact on self-employed borrowers. In retrospect, it’s easy to see how this happened. And it’s important to understand who’s to blame, how the blame has shifted, and what can be done to adapt to the new lending standards in today’s market.

What Happened?

Some of the first program casualties of the mortgage meltdown were the stated income, stated asset (SISA), and no income, no asset loan (NINA) programs. These programs were initially created to assist self-employed borrowers with great credit and good equity.

Since the majority of self-employed borrowers legally write-off a good portion of their income, they are not allowed to use all of it to qualify. Instead, underwriters use their adjusted gross income (AGI) to qualify.

The SISA and NINA programs allowed self-employed borrowers to state their actual income without having to prove it with tax returns.

Soon, in keeping with the now infamous greedy big bank mentality, these program guidelines were expanded to include W-2 wage earners, sub-par credit worthy borrowers, borrowers with little equity, and un-proven first-time home buyers.

Borrowers were qualifying for loan amounts that they could never afford. Needless to say, the more the qualifying criteria loosened, the worse these loans performed. Soon, defaults began to pile up and the rest, as they say, is history.

Who’s to Blame?

The federal government’s (Fannie, Freddie) misguided policies and the greed of Wall Street and big banks were initially to blame for allowing such lax underwriting guidelines. Opening up the SISA and NINA programs to less qualified borrowers eventually spoiled things for credit-worthy self-employed borrowers.

Smaller lenders and mortgage brokers also contributed by writing loans that they knew were unaffordable. Without question there were some shady individuals and companies that took advantage of these programs. They were negligent in their duties to both limit the amount of income borrowers were stating, and to warn borrowers of the consequences of buying homes they could not afford.

However, the majority of small lenders and brokers were simply following the guidelines that were encouraged by the federal government and written by the big banks. While this is not wholly excusable, it does offer perspective on the rampant “blame-the-broker” theme that the politicians, banks, and the press ran with in the months following the meltdown.

Borrowers who knew they couldn’t afford these homes cannot escape their share of the blame either. Exaggerating or lying about income to buy a new home is at best irresponsible, and at worse criminal.

Still, this doesn’t explain why credit-worthy self-employed borrowers are still being left out in the cold. After all, the majority of SISA and NINA programs performed well when they were limited to the original qualifying criteria.

We still hear the complaints from self-employed applicants today:

  • I’ve always paid my bills on time
  • I’ve got perfect credit
  • I’m being punished for being self-employed
  • It’s not fair

All of these complaints were probably valid three or four years ago when borrowers were caught off guard and struggling to understand the new lending reality that was blanketing the country.

But today’s hard truth is that these borrowers now share in the blame by failing to adapt to the new lending standards. If a borrower needs to show a specific amount of income to qualify for a home, they have to pay taxes on that amount.

CPA’s aren’t doing their self-employed clients any favors by soley focusing on how much they can write off or how they can get away with paying the least amount of taxes.

CPA’s should be focusing on their client’s over-all finances. They have a fiduciary duty to inform them about how their taxes will affect their borrowing ability. Too often they fail to do so.

Moving On

Meridian Home Mortgage understands that there is a real need for stated income programs in today’s market. After all, tax write-offs are legal. And these programs actually worked before the guidelines were expanded.

While stated-income programs might begin to pop up at some point to fill the void, they will undoubtedly be very restrictive. Therefore, the only real full-proof solution lies with the borrowers themselves.

Ultimately, it’s the borrower’s responsibility to initiate a dialogue with their CPA. Discussing write-offs and future mortgage related plans has never been more important. Writing everything off or showing a loss just won’t work anymore – even if those write-offs are legitimate.

Adjusting tax deductions to improve their AGI is really all that’s needed. In other words, borrower’s have to stop writing-off so much and pay more taxes on the income they earn.

Mortgage Bankers vs. Banks and Direct Lenders

Comparing Mortgage Bankers to Banks and Direct Lenders

Understanding how mortgage bankers compare to banks and direct lenders is crucial when shopping for a mortgage. However, finding unbiased information is difficult. False myths and stereotypes dominate the mortgage landscape. It’s important to separate fact from fiction.

Below is a breakdown of a few factors that can influence a borrower’s decision of where to obtain their mortgage. A sober comparison of the facts reveals both distinct differences and surprising similarities between mortgage bankers, banks and direct lenders.

Loan Servicing

Almost all mortgages are sold on the secondary market. Gone are the days of big banks and lenders servicing home loans for entire terms. The only variable now is when the loan is sold.

  • Banks and direct lenders often service loans for the first year in order to collect interest payments. Then, they sell the loans
  • Bankers never service loans. They are typically sold by the lender immediately after closing

Rates and Fees

Mortgage transactions are never free. Borrowers pay for their mortgage through the rate, fees or a combination of the two. It’s critical to recognize that rates and fees are interrelated. One directly impacts the other. Here are the facts:

Banks and Direct Lenders

  • They are limited to offering only their mortgage rates
  • Historically, they have been able to charge fewer fees than mortgage bankers because the bulk of their profit is tied to the rate:
    • They collect interest payments when they service loans
    • They collect a Service Release Premium (SRP) when they sell loans. The SRP is largely affected by the interest rate. Therefore, they have a financial incentive when setting the rate. Most banks bump their rates to increase profitability
    • It’s not uncommon for banks and direct lenders to charge fees in addition to what they earn on the rate
    • They are not required to disclose the SRP to borrowers

Mortgage Bankers

  • Historically, they have been able to offer lower mortgage rates because they can shop among multiple wholesale lenders. They also have access to wholesale rates with no profit built in
  • They never collect interest payments or profit by selling loans on the secondary market. Instead, they are paid a fee for the service they provide. Mortgage Bankers can earn their fee in one of two ways:
    • Borrower Paid: The borrower pays an origination fee to the mortgage banker and obtains the lowest wholesale mortgage rate available
    • Lender Paid: The borrower pays zero origination fees in return for a slightly higher mortgage rate. The wholesale lender then pays the mortgage banker a yield spread premium (YSP)
    • They cannot charge an origination fee and collect YSP. It’s strictly one or the other
    • They are required to disclose the YSP to borrowers

Home Loan Options

Today, borrowers have fewer home loan options than in years past. Mortgage bankers, banks, and direct lenders generally have access to the same basic home loan programs. The most popular are Conventional, FHA, and VA.

  • The difference is that banks and direct lenders don’t always offer all programs. And they are often inflexible with qualifying guidelines
  • Mortgage bankers have access to a variety of different wholesale lenders. Each offers different programs, niches and guideline enhancements. Mortgage bankers can also access specialized portfolio programs through wholesale lenders. They can provide several home loan options for their customers and approve certain loans that banks deny

Together, mortgage bankers, banks and direct lenders provide borrowers with a clearly defined choice. Understanding the differences allows borrowers to make educated decisions about where to obtain a mortgage. Borrowers should base their decision on what’s best for their individual situation.