Income, Your Mortgage File

Income, Stable and Dependable

Quality-Risk-ManagementRecently, I had a situation where a young borrower applied for a mortgage. Less than a month ago she started a new job but before that she had less than one year of work history. She had good credit but it was recent due to her young age. The underwriter came to me, unsettled.

Why?

In our industry, underwriters are taught to determine if the income is stable and dependable. After all, if you were going to lend your own funds, wouldn’t you want to determine if that person could pay you back?

There is little guarantee when it comes to income. You can be fired, quit or be laid off in a heartbeat.

So, to give us some insight, we look at the history of employment and income. We typically go back two years.  If the borrower hops from job to job, it might be a sign of instability. But, we won’t give up, and we will dig deeper by looking at the borrower profession, and their historical wages. Some jobs are seasonal, and others require people to drift from one employer to another and we won’t penalize someone for this.  Instead, we’ll look back at several years of wages to see what they have historically earned. We will base our decision instead on the continuity of income.

In the above example, does our borrower have a job history worthy of dependability?  If no, then has she demonstrated a continuity of income?  If no, then my underwriter has a right to feel unsettled.  

What if our borrower decides she dislikes her new job and quits?

What if her employer lets her go because she can’t cut the mustard?

What if she has to take a job of lesser pay?

There are all sorts of questions we ask when it comes to income. I realize history can mean little in the way of the future but it’s the only way we can see how that individual handles responsibility. And handling a mortgage is a large responsibility.  So, don’t be discouraged if an underwriter determines your income is not stable or dependable and instead, use it as a learning experience to better your situation. You will be better for it.

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Income, Your Mortgage File

Writing It All Off

A frequent issue I encounter in working with self employed borrowers is the difference between gross and net income.  Here is a loose definition of gross income:

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Basically, gross income is the difference between all the sources of income and the cost of goods sold.  A solid business has a healthy gross income.

However, net income (or loss) is the gross income minus all expenses. A business has many expenses including wages, marketing costs, and costs they incur to run the operations. In the mortgage industry, we use the net income(loss) with a few exceptions.

Basically, we want to know what income is left over after all the bills have been paid. Many self employed borrowers want us to use the gross income and get quite upset when we are unable. To help rationalize this, let’s consider an example:

A business owner has a gross annual income of $50,000. However, they spend $5,000 in marketing, $2,000 on meals and entertainment, and $3,000 on office products. These are actual expenses where money left the business and paid for expenses the company needed in order to operate. Can that $10,000 in expenses be used to repay the mortgage? No. It was actual money spent on certain costs.

Hopefully you can understand that money that was actually used to pay bills or expenses can in no way be used to repay the mortgage debt and therefore can not be used as income. Tough, I know but lenders want to know what income is actually available to repay the debt.

I am not an accountant so I won’t be able to tell you how to complete your business return to the benefit of obtaining a mortgage loan. I would seek the advice of a CPA or the IRS at www.irs.gov.

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