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Self employed mortgage -- how do I optimize my chances for approval

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Anonymous
Not applicable

Self employed mortgage -- how do I optimize my chances for approval

I have an S corp small business.  I am in the process of deciding how to optimize my chances of getting a mortgage.

 

I have been paying myself as an W2 employee but I also have substantial distributions that I need to decide what to do with them.

 

Right now, if I leave everything alone and just use my W2 income, I won't be able to qualify because my DTI is too high.

 

If I put those S corp distributions into my bank account, my DTI ratio improves enough to get the house.  

Another option I have is to use the distributions to pay down my student loan debt which also drops my DTI into range to get my house.

 

The main reason I haven't jumped yet on that is because I know the mortgage underwriter is going to look at my S corp bank account and when they see a major withdrawal from my business account to my personal account, is that going to be a cause for concern that will cost me the approval?  I know the underwriters look at both personal bank accounts and corporate bank accounts and they want to make sure the business is making money.

 

If I did use it as a distribution, I would be using about 25% of the business profit from last year, so that still leaves 75% of the profit in the S corp bank account.  I'm hoping that shows the business is in good shape and making good money.

 

How does a mortgage underwriter view that?  Am I going to get denied because they see a drop in the business bank account just before applying for a mortgage?

Message 1 of 5
4 REPLIES 4
kc0039
Established Contributor

Re: Self employed mortgage -- how do I optimize my chances for approval

Can you elaborate on that? I think I'm reading what you're saying wrong. If you put a large amount of cash from the business into your bank account, your debt to income will be better? The only thing that I can think of this is using an assets for income loan. If you mean downpayment, the answer is below. If you mean something else entirely, please elaborate.

 

If you own 100% of the business, get your CPA to sign a letter stating you have 100% access to the funds from your business and it won't be detrimental to the health of your business. If you are 50% owner, get your partner and CPA to state the same thing in a letter.

 

What makes you think that the underwriter is going to look into your business bank account unless you provide it. If you provide your personal acount with the large deposit, the underwriter is going to ask to source it which then they will ask for the letters stated above.

 

Licensed in IL
Message 2 of 5
ShanetheMortgageMan
Super Contributor

Re: Self employed mortgage -- how do I optimize my chances for approval

Assuming you'll have 2-years of 1120S (S-Corp tax return), standard underwriting practices will dictate a 2-year average to be used (unless it's declining, then an underwriter will use the most recent year or worst case, may throw out the income entirely).

 

Determining qualifying self-employment income isn't terribly difficult, but I recommend using a Cash Flow Analysis so it's all documented (this is what we use and submit to the underwriter for self-employed applicants).  http://www.radian.biz/page?name=SelfEmployedCFAnalyzer is an easy to use one (it's in Excel format so it'll do calculations after figures from the tax returns are entered).

 

An abbreviated explanation though is you take your W-2 earnings from self-employment +/- Ordinary Income (Loss) from K1's +/- Net Real Estate Income (Loss) from K-1's +/- Nonrecurring Income (loss) from 1120S + Depletion/Depreciation/Amortization from 1120S - Mortgages payable in less than 1 year from 1120S - Non-deductible travel/entertainment from 1120S (1120S items are multiplied by your ownership %, as per the K-1).  You do that for each year. 

 

Then you average the W-2 income for 2 years + K-1 income for 2 years + 1120S income for 2 years = qualifying income.

 

It wouldn't matter where you deposit the distributions, because if they are on the K-1/1120S then it'll be counted in the above calculation.

 

You can then use the distributions to pay off the student loans, then it'll count as income and also eliminate the debt from your DTI.  You could not take the distribution and instead have your S-Corp pay off the student loan, then it'll eliminate the student loan from the DTI but wouldn't be counted as income (since instead it'd be an expense on your 1120S). 


I can't tell you the proper way to file or to use the funds (you should only accept that type of advice from a tax professional), all I can tell you is how your W-2's, K-1's, and 1120S figures would impact your qualifying income.  If the student loans are no longer owed, then that eliminates them from the DTI no matter how they get paid off.

 

Any large deposits will need to be documented, but if you are just transferring funds from one account to another then as long as both statements show the transfer then that is sufficient documentation by itself (unless you used a check to withdraw/deposit, then a copy of the check is needed).  kc is correct about needing a CPA letter if you will be using any business funds to qualify, just needs to state that it won't have any negative impact on the profitability of your business.  Underwriters won't have a problem if personal/business account balances change dramatically just before applying or throughout the process... as long as it can be documented and the final funds figure still qualifies you.

Free Mortgage Advice & Pre-Approvals (FHA, VA, USDA, Fannie, Freddie, Non-Prime, Construction, Renovation/Rehab, Commercial) since 2002
Located in Southern California and lending in all 50 states
Message 3 of 5
Anonymous
Not applicable

Re: Self employed mortgage -- how do I optimize my chances for approval

I know that they average the AGI incomes from the last 2 years on tax returns.

 

My question is if I pull that distribution out of my business bank account, is the underwriter going to flag that as a negative?

 

Lets say my business bank account is 100k, and I pull out 10k as a distribution.  Is the underwriter going to look at that say "the business account is declining so that's a red flag"

 

 

Message 4 of 5
ShanetheMortgageMan
Super Contributor

Re: Self employed mortgage -- how do I optimize my chances for approval

No one uses AGI (line 37 of Form 1040) to determine income.  AGI takes into account IRS deductions, alimony, student loan interest deduction, health insurance deduction, moving expenses, etc.  To determine qualifying self-employment income, it's much more complex that just averaging your AGI.  Someone who has Schedule C self-employment is calculated differently than someone who has an S-Corp is calculated differently than someone who has a C-Corp is calculated differently than someone who has a Partnership.  In your situation, with an S-Corp, the calculation was detailed in my previous response.

 

It doesn't matter if the funds from your business account go into your personal account first then are used to purchase the home, or if the funds from your business account go directly to purchase the home.  If you are using business assets for the down payment or closing costs, then you'll need a CPA letter stating that it won't have any negative impact on the profitability of your business.  If the underwriter doesn't get that letter then they will be very hard pressed to allow business funds to be used.  Nothing more than that is needed to use business funds.

Free Mortgage Advice & Pre-Approvals (FHA, VA, USDA, Fannie, Freddie, Non-Prime, Construction, Renovation/Rehab, Commercial) since 2002
Located in Southern California and lending in all 50 states
Message 5 of 5
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