Lender requirements vary

Certain rules apply to self-employed borrowers

Globe and Mail - Special Supplement

     You’d think being a self-employed professional or running an established small business would make someone an appealing prospect for a mortgage.
     Often though, these successful individuals find mortgage shopping a frustrating experience, because they don’t fit traditional mortgage lending criteria, says Garth Ellis, president of Verico Ellis Mortgages in Vancouver. Without an established stream of pay stubs or a salary confirmation letter from an employer, lenders have few of the conventional assurances that you can handle your mortgage obligations.
    Making it even more difficult to assess your finances is that much of the money coming in to the business may be going to deductible overhead costs. These deductions reduce your net income-the number underwriters typically rely on to determine credit-worthiness.
     “In many ways, you’re penalized for running an efficient operation,” Mr. Ellis says. “Good business planning means taking advantage of all the perks and tax breaks self-employment can create. Unfortunately, this makes the borrower’s financial position look worse than it actually is.”
     Small business owners are usually expected to provide detailed financial statements for their company for at least the previous two years.

In order to meet lender requirements, it’s important to calculate and highlight all the “add backs” to determine the true net income from your business. A mortgage professional can help you identify deducted items, such as depreciation or home-office expenses, that you can include.

Since your corporate structure can also affect a lender’s interpretation of your actual income and future prospects, it’s also important to identify whether you’re operating as a sole proprietorship, a partnership or a limited or incorporated company, Ellis adds.

It’s all about establishing the long-term health of your business, says Cara Savege, a mortgage consultant with Invis in Vancouver. “Lenders want some evidence that payments can be made for the life of the mortgage – not just over the next couple of years”.

For this reason, she recommends maintaining thorough financial records so you’re ready when it’s time to apply for a loan. And that means filing your tax returns on time as well, Mr. Ellis warns. “If you’re not up to date on that one, you’re in big trouble.”

Other factors, such as a solid credit score or offering a larger amount as a down payment, can also improve your chances, says Paula Roberts, a mortgage broker with The Roberts Group in Unionville, Ont.

“If you have a good credit history and require a fairly low loan-to-value, then this will certainly help with your application,” she says.

In some instances, small business owners opt for “stated-income” mortgages where lenders don’t verify the borrower’s income so closely. These are available even if you’ve been self-employed for only a short time, providing you have experience in the relevant industry.

But they can be costly. Since it’s a riskier loan from the lender’s perspective – applicants might overestimate or even exaggerate their income – the interest rate is usually higher, as might be the insurance premiums.

Earlier this year, CMHC started tightening the rules for self-employed borrowers who don’t provide detailed tax records, requiring a down payment of at least 10 per cent when purchasing a home, rather than the previously required five per cent.

All of which means that while searching for a mortgage on your own is certainly possible, it’s not recommended, says Mr. Ellis. “An experienced mortgage broker has access to a wider network of lenders and can assemble the right kind of paperwork for a particular file. That’s pretty tough to do when you’re already working full time in your own business,” he maintains.

Source: Globe and Mail