There are great advantages to being in business for yourself. This categorization includes business owners, freelancers, independent contractors, and on-demand workers. People who are self-employed however need to know that there is some advanced planning required to be able to qualify for conventional financing.
According to Statistics Canada, in 2017 there were approximately 2.8 million people self-employed in Canada. A study completed by Intuit Canada last year, projects that Canadians working in non-traditional jobs will increase to 45% by 2020. In other words, being self-employed is a viable way of making income. It however just doesn’t fit very well in the conventional lending “box”.
In order to fit in the conventional lending “box”, there is a measure that lenders require that each mortgagee(s) (the person(s) applying for the mortgage) must meet. Some of the documents that self-employed individuals have to provide for the lender are their two most recent years of tax returns that don’t always accurately reflect the actual take-home income that a self-employed person earned. Tax deductions related to operating their business results in reporting an income on their tax return that can be significantly lower than what they actually take home. However, the “box” requires that their tax returns show the required income to justify the mortgage.
So, how does one show enough income when they are self-employed? The following points are suggestions of strategies on how to plan ahead and be prepared when you are ready to move forward in arranging a mortgage to purchase a property.
- The easiest way to plan is to write off fewer expenses in the two years leading up to the property purchase. Yes, this means you will pay more personal taxes. However, your income will be higher which will easily qualify you for the mortgage amount that you are looking for.
- Set your finances up through a certified accountant. Many lenders want to see self-employed income submitted through a professional rather than being done by yourself. The truth is that the time that you spend doing your own taxes will not be as efficient both financially and time wise as a professional. A certified accountant knows what to look for and has enough experience to understand the tax implications. Make sure you discuss with them what your goals are so that they can set up your taxes appropriately.
- Choose your timing carefully. If you are leaving on an extended holiday or sabbatical within the two years previous to purchasing, your two-year average income is not going to be great. Take all the time off that you want AFTER your purchase. Plan your timeline with income in mind.
- Ask your Mortgage Broker about stated income. There are options with some lenders to “state your income”. The lender will take a close look at the industry you operate in, the length of time you’ve been in business (a minimum of 2 years), and the size of your business. Stated income is a complicated approach to showing income however, your Dominion Lending Centres Mortgage Professional will know what questions to ask and how to negotiate this kind of proof of income. Documents such as bank statements, showing consistent deposits, will be requested by the lender.
- Be prepared for higher interest rates. Lenders offer discounted rates to those that fit in the “box”. Those that are not conventional are seen as a risk and, therefore, are applied to a higher interest rate. There also could be lender fees attached to the mortgage.
- Offer a larger down payment. Lenders are somewhat handcuffed to the insurer when there is less than 20% down payment on a property purchase. But if you offer more than 20% down payment, depending on the lender, their flexibility increases, and it is up to the lender or even a particular banking branch if they want to take you on as a client.
- As a last resort, you can consider private financing. Even though it is an expensive option, it could result in the mortgage you are looking for. Rates are higher and there will be lender/brokerage fees. However, you could be in a private mortgage for only 12 months or even less, whereby giving yourself time to improve your credit (if need be) or topping off a two-year self-employed period to set yourself up to show stated income to the lender. The whole point of private financing is to use it as a short-term solution for a long-term plan.
Being self-employed does not mean that you have to show enough income on your T1 General in order to qualify for a mortgage. There are other possibilities to prove income when you are self-employed. And every lender has different guidelines as to how they view self-employment. If you are self-employed, plan accordingly and make sure you are well set up to show that the lender that you are a desirable candidate for a mortgage.