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No Doc Mortgage Options for Self-Employed Homebuyers

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Are you looking for the traditional no doc mortgage options that were available years ago? Unfortunately, they are gone by the wayside. The housing crisis put an end to the mortgage program as we know it.

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Luckily, it’s been replaced by another similar program that goes by the same name. You’ll just have to provide more verification for the loan program. It’s a good option for the self-employed homebuyer whose taxable income is much lower than what they actually make.

Keep reading to see how the new no doc loans work today.

The Ability to Repay Rule Changed the No Doc Mortgage

There’s one reason you won’t be able to find the traditional no doc mortgage anymore – it’s the Ability to Repay Rule. This rule states that the lender must determine beyond a reasonable doubt that the borrower can repay the loan. Without verifying your income, there’s no way for the lender to make such a bold statement.

So where does that leave you? For starters, you will have to verify your income. But, it won’t be in the way that you think.

Your Bank Statements Tell a Story

Rather than providing a lender with your tax returns and allowing the lender to use your adjusted gross income plus any depreciation, you can provide your bank statements.

Just what do lenders look for on the bank statements? They look for income or deposits. They want to see consistent deposits either pertaining to the date or the amount. They will ask for at least 12 months of your bank statements to ensure consistency of the income.

The good news is that your bank statements likely show a much larger amount of income than your tax returns. This gives the lender a larger amount to work with, which hopefully means you have a lower debt ratio. Keep in mind, though, the lender will take an average. Some lenders require 12 months of bank statements while others prefer 24 months in order to get a true average of your income. Either way, they end up averaging your income. This accounts for the various cycles your business likely goes through in a year.

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With the average income calculated, the lender can determine if you qualify for the loan based on your current liabilities and the amount of mortgage you are trying to obtain.

The Other Qualifying Factors

Before you get too excited, know that you’ll need some pretty hefty qualifying factors in order to qualify for this no doc mortgage, which many lenders call Alternative Documentation Loan.

For starters, you’ll need a good credit score. Just how good depends on the lender. On average, you can count on needing at least a 700 credit score to use this program, though. You’ll also need a decent size down payment. Again, the amount varies by lender. Count on needing at least 20% down, but many lenders may require more. The more you have invested in the home, the more likely you are to make your payments on time.

You’ll also need reserves available. Reserves are money you have in excess of what you use to make a down payment. The lender calculates your reserves based on the number of months of mortgage payments it covers. For example, $5,000 would cover 5 months of a $1,000 mortgage payment. The more reserves you have, the better your chances of approval.

You’ll also want to pay attention to your debt ratio. Most lenders won’t allow a DTI higher than 43%. This includes all debts, such as the new mortgage, your car payment, credit cards, and student loans. Some lenders may even require a lower DTI; it depends on their risk tolerance.

Last, most lenders will require third-party verification of your income. This could be something as simple as a letter from your CPA stating that you are self-employed. Some lenders also require a year-to-date Profit & Loss Statement to ensure that you are on target for the same amount of income this year.

As you can see the no doc mortgage isn’t the same as it was, but it’s still a good opportunity for the self-employed borrower to secure a mortgage. If you have good qualifying factors, you could be in good shape to find a loan with a lender. Remember, these loans are kept on each lender’s books; this means each lender will have different requirements. Shop around and find the deal that is the best for you.

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What do Mortgage Underwriters Look for in Bank Statements?

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If we had to pick one area that underwriters spend a lot of time when evaluating a mortgage application, it’s the bank statements. Underwriters can tell a lot from the bank statement. It’s more than a way for them to verify that you have the funds necessary to close the loan.

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Your bank statements also let a lender know how comfortably you can afford your monthly mortgage payment among other things. Keep reading to see what red flags lenders may see on your statements.

Do You Have Enough Money?

First, a lender is going to make sure you have enough money for the down payment and closing costs. If you don’t have enough money, then the loan will not go through. The underwriter’s job would be done until you could come up with the money for the closing costs and down payment.

If you are receiving gift funds, you’ll have to supply the Gift Letter from the donor as well as the donor’s bank statements. Don’t think you’re off the hook with your bank documents, though. The lender will need proof that you deposited the gift funds into your account as well. This still gives them access to your bank documents, allowing them a peek inside your financial life.

Do you Have Large Deposits?

Speaking of gift funds, lenders look very closely at any large deposits you put in your bank account. If the money doesn’t coincide with your regular income, you can bet the underwriter will ask questions. They will flag the deposit and need to source it. In other words, they need proof of where the money originated.

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Let’s say it was something as simple as you sold stocks to help you have enough for a down payment. That’s great, but you have to prove it. You cannot just tell the lender that you sold stock XYZ and put the proceeds in your bank account. You’ll have to show the lender the sale of the stocks, proof of the receipt of the funds, and the deposit ticket for depositing the funds. Every dollar amount must match to the penny, or the underwriter will continue asking questions.

Any large deposits that you cannot source cannot be used. There is too high of a risk that the money is borrowed money and could leave you with a higher debt ratio than the lender assumes.

Do You Have Many Overdraft Charges?

If you consistently overdraft your bank account, it will give the underwriter another red flag. Overdrafts are a sign of poor financial management. This could lead to difficulty securing the loan. Generally, though, the lender only needs the last 2 months of bank statements for loan approval. If you don’t have any overdrafts during that time, you might be okay.

It’s a good rule of thumb to stay within your financial means, though. You don’t want any type of slip up to cause your loan to get tossed out the window. Underwriters are supposed to use your bank statements to make sure you have the cash to bring to the closing that you said you would. It shouldn’t be another way for them to question your ability to afford the loan after you already worked hard to prove that you could afford it.

Your bank statements are supposed to be confirmation to the lender that you can afford the home you agreed to buy. It’s a way to show the lender that the funds you will use are yours or those from a documented gift. Be aware, though, that lenders could use these statements to further scrutinize your income and financial management. Make sure your last two months of bank statements are as clean as possible to ensure that you get the approval you need.

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Low Doc Loans – Are They Out There?

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Mortgage applications today mean supplying what feels like pounds of paperwork. The days of the low doc loan seem long gone. Just when you think you’re done, the underwriter asks for more. What if you don’t have the paperwork they need? Are you out of luck?

The good news is, you still have a chance at finding a mortgage. The bad news is it will require quite a bit of shopping around. You’ll need to find a lender willing to keep the loan on their books. A loan that doesn’t fully document their income the “right” way is a non-qualified loan. Not all lenders offer these programs because they can’t sell them on the secondary market.

That doesn’t mean there aren’t lenders out there. You just have to know what to look for and how to shop them.

Who Benefits from a Low Doc Loan?

First, let’s look at who could use a low doc loan. Generally, it’s the people who can’t fully document their income. This does not mean they can’t afford the loan. It means they can’t prove their income with paystubs or W-2s, the traditional way. Instead, they use things like bank statements or investment statements. These people may have a lot of money and can easily afford the loan. However, without those paystubs or tax returns, they can’t get a loan.

The most common people looking for this mortgage alternative are:

  • People who work for themselves or a family member
  • Borrowers with limited work history because they just started out or are at a new job
  • Borrowers living on their investments or on retirement income

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These people can’t verify their income the traditional way. But, what they can do is verify that they can afford the loan. This is a key factor for any loan. Whether a loan is qualified or not, lenders must make sure the loan meets the Ability-to-Repay Rule. Basically this means the lender made sure the borrower can afford the loan.

Don’t Shop for a Stated Loan – Look for Low Doc

If you haven’t shopped for a mortgage in a while, you might be used to shopping for a stated income loan. These loans don’t exist any longer. You have to verify your income in some manner. You can’t just state your income and let the lender give you a loan. That’s likely what led to the housing crisis. Lenders can’t do that anymore because of the Ability-to-Repay Rule. They must verify your income, even if it’s in an alternative way.

A low doc loan means the lender accepts alternative forms of income verification. Rather than paystubs, you might provide bank statements. In some cases, self-employed borrowers don’t want to supply their tax returns. They have too many expenses written off on them. Because lenders must use your bottom line income on your tax returns, this could hurt your chances of approval.

These borrowers are a great example of alternative documentation. They provide bank statements or Profit and Loss Statements rather than tax returns. Again, the lender can’t sell this type of loan to Fannie Mae or Freddie Mac. But, they can keep it on their books and service it themselves.

What Documents Will You Need?

Different lenders may require different documents. Don’t think it’s a one-size-fits-all approach. Ask each lender their specific requirements. In general, you can expect to supply some or all of the following:

  • 12 months’ worth of bank statements – You’ll need to include all pages of each statement to allow the underwriter to look closely at your deposits and withdrawals
  • Letter from your accountant proving your self-employment as well as how long you have been self-employed
  • Investment account statements for the last 12 months if you use investment income to qualify

These documents are a general idea of what you may need. Again, each lender differs in their requirements. Some lenders take bank statements; others may still want to see your tax returns, even if they don’t use them for qualifying.

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Increase Your Compensating Factors

The best way to ensure that you get approved for a low doc loan is to enhance your compensating factors. These are factors the lender doesn’t use for qualifying, but can use as a “back up.” In other words, they make your loan application look less risky. Here are a few good examples:

  • High credit score – Each loan program has a minimum credit score they allow. But, if you have a score that far surpasses that minimum, it could boost your chances of approval. A high credit score usually means financial responsibility. That’s just what the lender wants to see.
  • Excessive reserves – Your loan program may require a specific amount of assets on hand. If you have money beyond that amount, though, they can be your reserves. The lender counts reserves based on the number of mortgage payments the money can cover. If you have 6 – 12 months’ worth of reserves, you may increase your chances of approval.
  • Low debt ratio – Each loan program will also have a maximum debt ratio requirement. If you have a DTI that isn’t even close to that amount, though, it can help. It shows lenders you aren’t in over your head in debt.

Shopping Around for a Low Doc Loan

Something to keep in mind, the low doc loan is a non-qualified loan. That means lenders aren’t restricted on what they charge. This doesn’t mean you pay through the nose in fees. But, you should shop around. We suggest getting quotes from at least three lenders. This way you know what the norm is for this loan type.

Don’t get caught up in comparing the interest rates alone, though. Look at the fees too. What does the lender charge? Are you paying origination fees? What about discount points? These factors should play a role in your decision.

If you plan to stay in the home for a long time, paying for the lower interest rate might make sense. Paying interest over 30 years can really add up, even if it’s only 0.5% higher. If, however, you know you’ll move in the near future, it might not be worth paying for a lower rate. You might be better off taking the lender with the higher interest rate up on his offer. You’ll pay the interest for a shorter amount of time, so paying slightly more won’t cost too much.

You’ll likely have an easy time finding a low doc loan when you prepare yourself. Make sure you shop around and find the best deal. But, the more organized you are, the more likely you are to get approved. Show lenders that you know what they expect and provide it to them. If you can supply them with compensating factors as well, it can increase your chances of approval.

Don’t forget to compare the interest rates and costs of each loan, though. Don’t jump at the first loan because you are excited to get approved. There are many lenders out there today that cater to the self-employed or non-traditional borrower. Find the one that meets your needs the most and secure the mortgage that will set you up for success.

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The Role of Bank Statements in Successfully Getting a Mortgage

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Whether you are applying for a stated income or a traditional mortgage, your loan officer could ask for your bank statements. These documents are used to verify and document your income. Lenders are required to do their due diligence on your ability to repay your debt and your bank statements and other asset documentation will prove that.

Because most loans are underwritten via an automated platform, e.g. Desktop Underwriter®, the need for bank statements may crop up during underwriting. Nontraditional loans such as bank statement loans are based off on the flow of money into bank accounts so that they go hand in hand with the loan application.

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Bank Statements and the Mortgage Process

When making loans, lenders must ensure that the borrower has the capacity to pay the debt to be incurred. They would look into the income of the borrower to make this determination.

Moreover, lenders need to check if the borrower has enough assets (readily convertible to cash) that can cover the down payment, closing costs, and reserve requirements.

Bank statements can cover both for the lenders in their quest to track the assets and income of the borrower. They are also helpful in verifying the identity of the borrower and the information as it pertains to asset accounts set forth on his/her mortgage application.

Usually, lenders look at deposits that fall outside of the declared income source of the borrower, e.g. an unexplained large deposit used for down payment. Or it could be recurring withdrawals that pertain to an undeclared debt obligation.

Mortgage borrowers like you can present your personal bank statements. If you are self-employed or are a majority owner of a business, both personal and business bank statements may be required.

Bank Statement Loans

These loans perfectly sum up the role of bank statements when applying for mortgages.

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Niche lenders who make these mortgages usually require personal/business bank statements for 12 consecutive months, thus dubbed as 12-month bank statement loans.

These lenders recognize the struggle of self-employed borrowers to have their real income verified because of write-offs on their federal tax returns. Interestingly, some bank statement loans don’t require tax returns and their related tax transcripts.

What’s important for the lenders is a reliable, steady cash flow that they will use to calculate income. To arrive at income, lenders take the average deposits during the given period, net of debits and withdrawals.

They will then take into account recurring monthly expenses to get average monthly income. From the average monthly income and recurring monthly expenses, they can come up with the debt-to-income ratio of the borrower.

Indeed, good credit, liquid reserves, and provable income via bank statements are the main ingredients to a successful bank statement loan.

As with any other loan, expect to meet loan-to-value ratios, down payment requirements and asset reserves as well.

Don’t estimate the power of bank statements especially if you have difficulty getting financing under standard mortgage programs. You can always look at alternative or nontraditional loan products like bank statement loans.

Happy shopping!

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