Tax Savings Could Cost You Your Home
The expenses that you write off on your taxes could keep you from getting a mortgage.
The entrepreneurial spirit is one of the finer points of our society. The fact that we live in a country with so many freedoms to carve your niche in the marketplace is a beautiful thing. But that American dream of self employment can also cause you to loose another American dream, the dream of home ownership.
You may have heard the term “stated income” loans. These are loan programs that were designed for self employed people that had difficult to document income, or they had significant write offs on their tax returns that prevented them from qualifying for a home. With stated income loans, you were allowed to “state” your income without documenting or verifying where this income came from. It was a simple solution for some people with good credit and good assets to qualify for a loan even if they could not prove their actual income stream.
With this loan program also came abuses of the system leading to desperate borrowers overstating their income to qualify for their dream home. Or, unscrupulous loan officers that would do anything to get the deal done. Regardless, many home owners bought homes that they could not afford, and you have seen the aftermath that was caused.
So, now that stated income loans have gone the way of the dinosour, self employed borrowers have to be more aware of their tax returns if they plan to buy a house. Standard underwriting guidelines are that you take the last 2 years filed tax returns, use the Adjusted Gross Income (AGI) on the bottom right of the 1040 form, divide that by 24, and that is the number that will be used to qualify you for a loan. Be aware that if you “made” $100k, but you wrote off $70k in expenses, your income is $30,000. There are a few items that can be added back into your income such as depreciation since it is not an actual cash expense.
I am neither an accountant nor a lawyer, so I will not presume to give legal or accounting advice. However, I am an expert in mortgage financing, and rest assured, an underwriter is not going to use your gross income for qualifying.
Example:
Say you own a landscape company with gross receipts of $120,000. But, your cost of goods (gas, equipment, mileage, supplies) was $72,000. This would mean that your adjusted gross income would be $48,000. On a monthly basis, your income would average out to be $4000 per month. You are generally allowed to have a debt ratio of 40% to 45% (depending on the loan program) for your total expenses. In this example, 45% would be $1800.
If you have a car payment of $350/ month and other debt payments of $400/month (credit cards, student loans, child support, alimony, etc.), it would leave you with $1050 to use for mortgage financing. Take away property taxes and home owners insurance in that payment, you are probably left with about $900 for the actual mortgage payment. At 6% on a 30 year term, this means that you would qualify for a loan amount of $150,000.
This is a good example of exactly the calculations I use when pre-qualifying someone for a home loan.
As we near the end of the year, and tax season is coming up, this will be an important conversation to have with your accountant if you have any plans to buy a home in the next few years. your decision to save a few thousand dollars on your tax bill could very well keep you from buying a home.
If you would like to discuss your personal situation, call me at 888-257-8383 or go to Pensacola Mortgage Solutions.
