Boss Lady

How to buy a house if you’re an entrepreneur


Being an entrepreneur comes with a myriad of inherent perks. Many entrepreneurs can ditch long commutes in favor of home or location-independent offices.  That can even mean Skyping meetings from your choice vacation locale. In many ways, being an entrepreneur can feel like winning the lottery – pursuing your passion from the comfort of an ideal location, and sometimes swapping business suits for Bermuda shorts.

In fact, entrepreneurship is so attractive it’s reported that nearly two-thirds of all millennials want to go into business for themselves.

And who can blame them? Millennials have witnessed first-hand as their parents’ job stability became a thing of the past, along with lifetime company loyalty. Being an entrepreneur and working for yourself can seem like the only logical choice when considering discouraging realities. But successful self-employment and entrepreneurship isn’t quite so easy or straightforward, especially when it comes to buying a home.

While being self-employed has many benefits, entrepreneurs often struggle when it comes to securing a mortgage due to lower credit scores, increased debt-to-income ratios, and strict mortgage regulations.

Those tax deductions might be hurting your ability to buy a home

Entrepreneurs know that running a business can often be very expensive; add in a considerable tax burden, and that hurdle becomes even more challenging.  The good news, though, for many self-employed workers is that entrepreneurship comes with the ability to reduce liabilities by lowering their overall taxable income, thanks to online accounting software like ZipBooks that make finding applicable deductions easy.

Tax deductions can offer several ways to lower the amount of money you’ll have to pay taxes on including deductions for business expenses like education, operational equipment, transportation, operating a home office, and more. And while this can result in some genuine savings – and money in your bank account – it can be an additional challenge when it comes to applying for a mortgage.

The harsh reality is that when it comes to income, self-employed workers are often evaluated differently than traditional salaried workers, who are assessed on their gross annual income. Mortgage applications require entrepreneurs to report their net income.

Because entrepreneurs typically claim as many applicable deductions as possible, their net income may be dramatically lower than their salaried counterparts, creating an incomplete financial picture of the borrower. And that can be a roadblock to a mortgage and home ownership.

Debt-to-income ratio

When it comes to mortgage qualification, the most critical factor for every entrepreneur is the debt-to-income ratio, calculated by looking at the two most recent tax returns on file with the IRS and averaging both the year-to-date income and expenses and the borrower’s net income. To qualify for a mortgage, the debt-to-income ratio must be lower than 43 percent.

So if you’re looking to purchase a home before 2021, you might want to talk to a tax professional about balancing income and tax deductions to fully evaluate the pros and cons for your specific situation.

Additionally, working with a lender who has experience underwriting mortgages for entrepreneurs can be an asset to the process.

Lower credit scores

Entrepreneurs tend to have lower credit scores. In fact, a recent study by Zillow reported that many entrepreneurs have a FICO score below 680. And while we all know possessing a healthy credit score is a good thing, many people are often surprised to learn that our credit scores play a role in securing a mortgage.

If you do manage to qualify, a lower credit score can mean your mortgage will cost more. Borrowers with a FICO score of 740 or above are typically offered the best mortgage rates available.  A credit score lower than 740 can mean higher interest rates, fees, and in some cases, penalties.

To put yourself in the best position, be sure to look over your FICO score in advance of beginning the home buying process. Clearing up any issues or errors on your report can go a long way to helping you qualify for a mortgage.

The “risk factor” of entrepreneurship

Some lenders will have a threshold for how much of a company you own.  You activate the risk alarm if you’re a 100% owner of your own company and taxed on a 1099 vs. having a W-2 income in a company you only own a part of.

One thing some entrepreneurs will do is incorporate, through a C-corp or an LLC with an S Corp election, so that you’re taking salary on a W-2. Then, it might be smart to bring on partners or investors.  I know of at least some lenders that want your ownership in a company to be less than 25% in order to consider your entrepreneurial ventures less risky: if you’re close to that already, it might be smart to get under that threshold.

Think outside the box

If you’ve applied for a mortgage but have yet to secure a green light, it might be time to think outside the box. An excellent place to start is with an honest evaluation of the type and size of a home you need – as opposed to the dream home you want. A smaller dwelling in a neighborhood next-door to your dream location might position your application for approval. Condominiums and townhouses are good options for this, so visit a specialist such as Precondo.

Another thing to consider is fees, such as homeowner association membership fees which are included in the overall mortgage amount. By avoiding hidden costs, you’ll be looking at a smaller mortgage – and that might be enough to put you in the ‘yes’ column.

Can you squeeze extra cash into your down payment? It can be painful in the immediate, but being able to put a more substantial amount down lowers the amount of loan you need and can make approval easier.

Qualifying and securing a mortgage as an entrepreneur can be challenging, but it isn’t impossible. Just like running your business, being prepared for the task ahead will put you in a better position to achieve your goal.

British writer William Edward Hickson may not have been an entrepreneur, but he understood the key to self-employed success:

Tis a lesson you should heed: Try, try, try again.

And, if at first, you don’t succeed, try, try, try again.

About Jaren Nichols'

Jaren Nichols is Chief Operating Officer at ZipBooks Accounting. Jaren was previously a Product Manager at Google and holds an MBA from Harvard Business School.

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