Being your own boss has a lot of benefits, but it can bring some challenges too. Home financing can be one of them if you are not prepared. Unlike a permanent employee who simply provides a letter of employment and pay stubs, you will have a few more steps to prove your income. Generally speaking, you will need to prove two years evidence of self-employment, and a two year average of your net income will be used to determine your qualifying income. There are some specialty products, such as stated income lending, that you may be able to access as well. You will pay for the privilege to use these products through a slightly higher rate or fees and lenders have tightened qualifying requirements.
Here are some tips that can help prepare you to purchase:
In an effort to minimize taxes or build a business, it is common for self-employed individuals to significantly under-pay themselves or not draw an income at all. This can be a huge issue when you go to purchase a home. If a lender can’t see the income, you can’t use it to qualify. Many lenders don’t allow the use of dividend income to qualify; now only allowing employment income. Those lenders that do allow dividend income need to see that it is consistent and that it does not negatively impact your company financials.
Tax Minimization vs. Purchasing Power
The goal of every self-employed person is to maximize your write offs and minimize what you hand over to the tax man. This can hurt your purchasing power if your net income is minimal. Keep in mind that your net income, not gross income, is what is used by lenders as your qualifying income. If you are a sole proprietor, some lenders allow you to take line 150 from your T1 Generals and gross that up by 15% or allow for capital cost allowance or business use of home add backs. This is not allowed for incorporated business owners. Lenders are tightening these areas and even with access to them, it may not be enough to compensate for significant write offs.
Know Your Score and Maintain Excellent Credit
In order to access specialty products for self-employed individuals, you need a positive credit bureau and healthy Beacon Score. Generally, try to keep your Beacon Score above 720 with no late payments or delinquencies. Know your score and prevent excessive inquiries on your credit bureau. It does not hurt your score when you pull your own.
Paper, Paper, Paper – It Pays to be Organized
Lenders will request more documentation from you than those who are employed. Keep at least the last 2 years of your documents up to date and readily available. These include:
- current T1 Generals (including the Statement for Business and Professional Activities)
- Notice of Assessments.
- If incorporated, you should also keep copies of your articles of incorporation, business license, and financial statements (accountant reviewed is required by many lenders).
File and Pay Your Taxes
Most lenders will request proof that your income taxes are paid. In order to have the necessary current documentation (ex. Notice of Assessments) and be in good standing with the CRA, file and pay your taxes on time.