When you are self-employed, the most challenging part of the mortgage application process often has to do with gathering proof of income and employment verification. (Photo: Anna Shvets/Pexels).

Tom Kalinski, RE/MAX of Boulder

Millions of Americans chose to leave their jobs over the past 18 months, but not everyone left one payroll to jump on another. Many seized this unique pandemic-caused situation to go from worker to boss.

The result: nationwide, a record high number of new business applications were filed in 2020 – nearly 4.5 million – an increase of 24% from the year before, according to Census Bureau data’s business formation statistics.

Colorado had a record number of new business filings in the second quarter of 2021, which grew 25.7% compared to last year, according to the Quarterly Business and Economic Indicators report released by the Leeds Business Research Division (BRD) at CU Boulder and Colorado Secretary of State Jena Griswold.

Even before COVID-19, individuals were working outside of a company structure and the gig economy was on the rise. By choice or necessity, more and more people worked on their own. Here in Boulder County, the availability of freelancers, task rabbit workers, or temp workers is ample.

When you are self-employed, the most challenging part of the mortgage application process often has to do with gathering proof of income and employment verification. Whether you are a freelancer, a gig worker, or a new business owner, it affects what you need to prove your income.

Here’s what to expect and steps you can take to be successful.

Pre-approval for a mortgage
Pre-approval for a mortgage is still the standard starting point to confirm your income is sufficient to buy a home. To document your income, typically borrowers need two years of tax returns and proof that their business was in operation. This provides a financial statement of losses and gains for a business over a period of time.

In addition, like all borrowers, prospective lenders require a minimum credit score and maximum debt-to-income ratio. It’s important to find a lender with competitive mortgage rates who can help with pre-approval.

Post-pandemic mortgage approvals
The pandemic-era economy makes lenders even more cautious about loaning money. The qualifications are stringent and based on who can realistically repay the loan. For the self-employed and new business owners, the big change is that documentation requirements have increased significantly.

Prior-year tax returns are no longer enough. Now lenders need a year-to-date profit and loss statement along with supporting documents such as a business bank statement.

In other words, lenders need a lot more proof that you’re able to pay that mortgage.

Lenders want to see that earning from your self-employment is steady or increasing over time.

For the self-employed, you will likely be required to show:
• Two years of personal tax returns
• Two years of business tax returns including schedules K-1, 1120, 1120S
• Year-to-date profit and loss statement

Employment history
You most likely need to show evidence of at least two years of consistent self-employment in the same industry, so it’s important to keep good records. According to My Home by Freddie Mac, the following documents can be used to show consistent self-employment:

Letters from current clients
• Signed CPA statement
• Business license
• Proof of insurance for your business

If you are newly self-employed, lenders may accept a W-2 from a previous employer in combination with these documents to cover the most recent two years of work history.

Increasing your chances of mortgage approval
It’s important to put first thing first. You need to take the usual steps like ensuring your FICO® credit score is 740 or higher and that your debt-to-income ratio is smaller than 36 percent, with no more than 28 percent of the debt going toward servicing your mortgage.

Here again, you’ll need documents to prove your income. To prevent any hold-ups, document as far back as you can. If possible, document 24-months of income flow. The goal is to prove you can consistently afford loan payments.

The best plan is to be prepared and get these documents ready before you start the process.

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By Tom Kalinski is the broker/owner of RE/MAX of Boulder, the local residential real estate company he established in 1977. He was inducted into Boulder County’s Business Hall of Fame in 2016 and has a 40-year background in residential and commercial real estate. For questions, e-mail Tom at [email protected], call 303.441.5620, or visit boulderco.com.