You make bonus income, so you automatically think your total income will count for mortgage qualification. Unfortunately, you might be wrong. There are only certain circumstances that lenders will allow the use of this time of income.
We’ll review these situations for you below.
What is Bonus Income?
First, let’s look at the definition of bonus income. It’s income you receive above and beyond your regular salary. It doesn’t matter if your receive salary, hourly, or commission income. If you receive something outside of what you expected, it’s a bonus.
How Do Lenders Look at Bonus Income?
Now comes the tricky part. How do lenders look at this income? Can you just add it to your total income for the year?
Unfortunately, lenders don’t often use bonus income and you can’t just add it to your total income. If a lender uses it, they will need an average over the last 2 years, at a minimum. This is because bonuses are not consistent income. You can’t count on them like you can count on your salary or hourly income. They can go just as fast as they came without a word of warning. Lenders like to see consistency when figuring out your income and this is one instance that is not consistent at all.
Consistency is the Key
If you want a lender to use your bonus income for qualifying purposes, you must have a history of receiving it. At the very least, you’ll need 2 years of receipt of the same amount or more. If the bonus was less the second year, the lender will determine how much less. If there is more than a 20% decrease, the lender won’t count it at all.
Again, they need consistency. Regular income is consistent. The lender can rely on it. This is what they use to calculate your debt ratio. Income that you might or might not receive every once in a while is not consistent. Lenders usually won’t use it for qualifying purposes.
However, if you have a history of receiving the bonus over several years, a lender may use it. Let’s say your employer, who you’ve been with for the last 5 years, always gives you a Christmas bonus. You receive the bonus around the same time each year and for the same amount. This last year, your employer even increased the bonus. In this case, a lender will likely allow its use.
Now, let’s say you have been with the same employer for 10 years, but this last year was the first time he gave you a bonus. There’s no consistency or history there. Most lenders won’t use this income for qualifying purposes. They may, however, use it as a compensating factor. We will discuss that below.
Bonus Income as a Compensating Factor
Sometimes borrowers are on the border of being approved and denied for a loan. Maybe their debt ratio is right on the fringe or their LTV is pretty high. A lender teeters between approving and denying the loan. As they go through the file, they see sporadic bonus income. This might help push them towards approval rather than denial. That bonus income can be seen as a way to help get the mortgage paid if the borrower has financial trouble.
You can look at is another positive factor in the loan file. Of course, it’s up to the lender’s discretion. Compensating factors are not something that Fannie Mae, the FHA, or VA governs. If a lender feels the income can help the borrower pay their loan on time, they can use it.
How Lenders Calculate Bonus Income
Another surprise you might be in for is how lenders calculate this income. You can’t just say that you got a $2,000 raise and increase your income by that amount. Instead, you’ll need to show a history of receipt of the income. The lender will then take a 24-month average of the bonuses.
Let’s say you do receive a $2,000 bonus this year. But, last year you received $1,500. The lender will average the income over 2 years. It comes out to $1,750 per year on average. The lender then divides that amount by 12 to get a monthly average. In this case, it would add $145 to your monthly income.
Different Lenders Have Different Opinions
This doesn’t mean that every lender will use your bonus income if you receive it for 2 years. They have to be convinced that it’s a regular thing. They may quiz your employer on the income when they request the Verification of Employment. They want to get a feel for the income and why you received it. Was it a particularly good year for the company so they rewarded their employees? Maybe it was a one-time reward that won’t repeat itself.
Just like your regular income, lenders want to know any additional income will continue for the foreseeable future. If you are close to an approval, but not quite perfect, a lender may be leery of using this income. If they push you too hard, you might not be able to afford the loan in a year or two down the road.
If you have bonus income, make sure you get as much proof of it as you can. At the very least, make sure you have at least 2 years’ of income receipt. You should also make sure you have ample proof of its origination and when and if it will continue. If you get to use it, consider it a “bonus.” It might give you the edge you need to secure loan approval.