How to Get a Mortgage When You're Self-Employed
When a mortgage lender meets with a potential homebuyer, here's what they're hoping to see: A big, steady paycheck at a full-time job.
Well, that’s not how a lot of America works these days.
For years, society has been shifting gradually towards a gig economy, a term that refers to the legions of freelancers, contractors, and self-employed who don’t necessarily have a 9-to-5 job and a weekly paycheck.
In fact, 57 million Americans freelanced last year, or about 35% of the entire U.S. workforce, according to a 2019 “Freelancing in America” study by the Freelancers Union.
For both sides of a mortgage deal –- the independent worker applying for a loan, and the bank trying to figure out the risks of lending money -– this new normal presents a problem.
“Getting mortgages is a brutal process for freelancers, because of episodic income,” says Sara Horowitz, founder of the Freelancers Union and CEO of benefits platform Trupo. “Banks want to see a steady income. So the result is that you might get denied a mortgage, or they might add points so it becomes much more expensive.”
Of course, it’s not as if freelancers don’t have money coming in. It’s just that it’s not quite as predictable –- a contractor might have a huge income one month, and a slim one the next. While that might average out to a healthy amount, it still makes lenders nervous.
That’s because after the financial crisis of 2008 and 2009 –- sparked largely by easy credit and bad subprime home loans, many of which defaulted and blew up investment portfolios around the country –- banks became skittish, and prefer to see numbers as transparent and predictable as possible.
That being said, the reality is what it is: Freelancers are about a third of the economy, and mortgage lenders need to make loans to stay in business. The total residential mortgage market is almost $10 trillion, according to a new report by the New York Fed, and obviously not all of those borrowers have classic 9-to-5 jobs.
So what can those in the gig economy do, to make the process easier and unlock the home of their dreams? Here are a few tips:
Deal with those you know
Judging purely from the numbers, a freelancer might make a lender suspicious. But let’s say you have a longtime relationship with a particular institution and do the majority of your banking, investing, insuring and borrowing through them. Then they are more likely to take a longer-term view, and be comfortable with the fact that you will be able to pay your bills.
In particular, look at smaller credit unions, where you are more likely to be viewed as a real person rather than just a number in a docket. And if they tend to keep home loans on their own books, instead of selling them along to Fannie Mae or Freddie Mac, they will have more leeway in who they decide to approve. “Develop those steady relationships, and go back to where they know you,” Horowitz says.
Documentation is your friend
Even if freelancers have up and down months, you want to show lenders your long-term averages. That means furnishing at least a couple of years of documentation, which will let banks see the numbers in black-and-white and help them breathe easier. “In general, a lender will want to see a two-year history of earnings to establish an income pattern,” says Keith Gumbinger, vice president at mortgage information site HSH.com. If you can demonstrate more than that, even better.
Ideally, that documentation shows your income rising over time, a trend line that will please the bank. And if you have a couple of steady paying clients that are the anchor of your business, letters affirming that relationship can’t hurt.
Buy a home with your partner
This is highly unfair to singles, of course. But the reality is that if your loan application combines your own freelance income with that of a partner who has steadier income from a full-time job and a W2, then it is more likely to be approved.
Even when freelancers make more money than their partners, which can often be the case, that team approach can help make a powerful statement and secure that lender signature. “It’s ridiculous but it’s true,” Horowitz says.
Clean up your balance sheet
Since lenders hold freelancers to a higher standard, you really have no choice but to get your financial affairs in pristine shape. A credit score of 740 and up, for instance, will generally get you access to the best interest rates.
Keep your credit utilization rate –- the percentage of your total credit limit that you are currently tapping –- as low as possible, preferably 30% or below. Pay your bills on time, every month, and hack away at any revolving debt. Don’t open a flurry of new credit vehicles, which indicates you could be in some financial trouble.
When it comes to taxes, one fly in the ointment: Self-employed workers generally try to write off as much business expenses as they legally can. That reduces taxable income, which helps come April 15 –- but in terms of banks looking at a potential borrower, the higher income, the better. The moral of the story: Don’t go crazy with deductions.
Lenders’ nervousness about freelancers isn’t personal; it’s just business. So one potential strategy is to assuage their concerns with a higher down payment. Easy to say, harder to do, but if you can manage to put down 15-20% of the purchase price, say, instead of 5-10%, that creates a larger equity cushion and tips the scales in your favor.
If you do get turned down for a loan as a freelancer, don’t take it personally, and don’t give up. LendingTree and other websites allow you to compare rates from multiple lenders, and local mortgage brokers often specialize in handling difficult-to-place loans.
Says Gumbinger: “Just because one place may say ‘No,’ doesn't mean that all doors are closed to you.”
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