Curve

When is income not income for mortgage qualifying?

Peter Warden
The Mortgage Reports editor

How much income do you need for a mortgage?

What kind of income for mortgage approval do you need? No, not how much. But what sorts of income will lenders accept? And which types will they likely refuse to take into consideration?

Chances are, this won’t bother you much. Most homebuyers have pretty straightforward finances. Indeed, for many, a single income stream from one employer is all they have — and all they need.

Check rates and programs for people with different kinds of income (Apr 25th, 2019)

Multiple sources of income for mortgage qualifying

But others have multiple streams from different sources. Or one stream made up of different elements. For example, will mortgage lenders count tips, annual bonuses, sales commissions and so on?

And what do they make of other income sources, such as alimony, child support, trusts and social security? Read on to find out.

Ability to repay

All lenders have a legal obligation to “make a reasonable, good faith determination of a consumer’s ability to repay any consumer credit transaction secured by a dwelling.” In other words, they must examine your finances in detail. Because they must make sure you can comfortably afford to pay back your mortgage, home equity loan or home equity line of credit.

This is called the “ability to repay” provision. And it ends predatory lending to people who had little chance of repaying their mortgages.

Rules and rule setters

While lenders may all have the same legal obligation, some interpret that duty differently. So, if you’re turned down by one, it may be worth trying others.

If you want a government-backed loan, the rules on income for mortgage qualification are written pretty tightly. Those government-backed mortgages are from the Federal Housing Administration (FHA loans), Veterans Affairs (VA loans) and the Department of Agriculture (USDA loans).

Fannie Mae and Freddie Mac also closely specify the income streams they’re prepared to accept. However, those aren’t chiseled into stone tablets, as you’re about to find out.

Rules may vary

In very exceptional circumstances, lenders may bend some income rules for favored borrowers. For example, suppose you’ve been with a local institution for decades. If it knows you have an unblemished payment record and a stellar credit score, it may be willing to bend policy a little.

Equally, Fannie and Freddie write their rules for particular mortgage products. So Fannie usually excludes any income you receive when you rent out accommodation within your home.

But it makes an exception for its HomeReady mortgage. If you apply for one of those, Fannie will count all the income you receive from boarders.

All you have to do is document that each boarder is in residence. And you also have to prove that you’ve been receiving the income consistently for at least the previous 12 months –a rental agreement, canceled checks or monthly deposits on bank statements can help.

Time matters

That’s a common rule about all forms of income. So expect to have to prove that any stream you want to be counted toward your mortgage is established and consistent.

Rules for how long you must receive a particular stream to count it differ based on income type. So let’s look at some of the most common sorts to see what you’re likely to face.

Rules applying to types of income

Now, we’ve already established that different mortgages and lenders can have different rules. And that they can apply them more or less strictly.

So there’s no such thing as a definitive list of the rules that apply to income streams. All we can do is sample some of the most common ones to give a guide.

So we’ve chosen to use Fannie Mae’s rule book. Your lender may have a different one.

But don’t expect huge variations from Fannie’s. After all, they’re all trying to achieve the same goal: “to make a reasonable, good faith determination of a consumer’s ability to repay.”

Alimony and child support

It’s not fair, but if your ex-spouse is a deadbeat who doesn’t make regular alimony or child support payments, you may not be able to count that income. Not even if you have a watertight court order or separation agreement. Because you’ll have to show you’ve received “full, regular and timely” payments going back at least six months.

Also, lenders will look at how long you can expect to receive child support. Suppose your child is 16 years old. And that your child support’s going to end when she’s 18. You can’t count that support toward your income for mortgage purposes, because qualifying income must continue for at least three years. Of course, if you have younger offspring who will be supported for three or more years, theirs will still count.

Boarder income

We mentioned this before. Rents from boarders generally count as income for mortgage purposes only with some specialist loans, such as Fannie’s HomeReady.

However, there is an exception. That’s when you have disabilities and your personal assistant lives in and pays you (or maybe Medicare Waiver funds pay you) for his accommodation. Still, you can only count 30 percent of that rent as income.

Bonuses and commissions

Generally, both bonuses and sales commissions will be taken into account by lenders. They’ll look back over those you’ve received over the last two years. Lenders look at this income fairly conservatively — if sales are going up, they’ll average the income. If they are going down, however, the lender may use the lower figure, and if the industry you’re in is failing, lenders may discount income even more.

Self-employment income

Similarly to commission and bonus income, you’ll need a two-year track record of successful earnings to apply for a mortgage. Lenders average the income if it’s going up, and take the lower figure (or worse) if it’s going down. You’ll also only be able to count your taxable income (after deductions), with a few exceptions for depreciation, depletion, and expenses that won’t recur.

Plan on providing your tax returns if you’re self-employed. And probably your latest financial statements and business license.

Part-time jobs

Wouldn’t it be nice if you could just run out and get a quick part-time job to boost your income right before qualifying for a mortgage? Well, you can’t. To count the income from an extra or part-time job, you’ll have to have been at it for at least 12-to-24 months. This also goes for seasonal work. Teaching skiing in the winter and golf in the summer all counts if there’s a two-year history.

Disability benefits

Long-term benefits from sources other than the Social Security Administration (see below) almost always count. Short-term ones may, depending on how close their expiration date is.

If you’re going to transition from short-term to long-term within the next three years, expect only the long-term benefits to be included in your lender’s calculations.

Foster care

Fannie Mae likes you to have been receiving income from fostering for two years. However, it may accept one year, providing the relevant income is 30 percent or less of your total gross income.

Interest and dividends

Yes, you should be able to count these in full. However, the amount you can use as income for mortgage purposes will be an average of your last two years’ receipts.

And, if you plan to liquidate any of the earning assets for your down payment or closing costs, you can expect your lender to deduct their income.

Maternity and paternity leave

Providing you write to your lender, confirming that you will return to work on a particular date, you’ll typically be fine. Your normal employment income will usually continue to apply, even if you’re on a reduced salary or will be unpaid at closing.

However, you’ll need a pile of paperwork, including correspondence from your employer confirming your return-to-work date.

Retirement, government, annuity and pension income

If your retirement includes savings in an IRA, 401(k) or other retirement accounts, you can use it as income to qualify for a mortgage. First, underwriters start with 70 percent of your investment balances, to account for fluctuations in the values of stocks and bonds (cash deposits are not subject to this).

They then divide your total by the number of months in your mortgage. So if you take a 30-year loan, they divide by 360. If you want a 15-year loan, they divide by 180. That number is your income for the month from what lenders call “asset depletion.”

Social Security

If you’re getting retirement or long-term disability benefits from the government, those should normally be accepted as income for mortgage purposes. It’s a bit more complicated when you’re receiving benefits on behalf of a family member. Then, you’ll have to show the income will flow for at least the next three years.

Tips

Your tips will be applicable to your lender’s income calculations, only if you’ve been getting them for two years. And you’ll have to back up your claims with documentation, including your last two IRS W-2 forms if your employer reports allocated tips, or Form 4137 if you report them yourself.

Trust income

If you’re the beneficiary of a trust, that money should be applicable income for mortgage purposes. You’ll have to show that you’ll receive it for at least three years. And the lender will need a copy of the trust documents confirming the frequency, amount and duration of the payments.

Unemployment benefits

You’re unlikely to get a mortgage when your only income is unemployment benefits. But you may get one if you’re a seasonal worker, who claims those benefits between jobs.

Your lender will want to see that you’ve been getting benefits and working in this way for a couple of years. And it will verify that you can reasonably expect to continue to do so.

VA benefits

These should normally count. All you have to do is prove you’re getting them and show they’ll last for at least the next three years.

You won’t have to provide that verification if you’re receiving your benefits owing to retirement or long-term disabilities.

“Grossing up” income

Some kinds of income are not subject to taxes — for example, child support and disability. In that case, lenders are allowed to count that income as worth more. Usually, non-taxable income is worth 25 percent more for mortgage qualifying. So, $1,000 a month in child support counts as $1,250 a month. They call this practice “grossing up” income because you’ll actually have more after-tax income.

Proof of income for mortgage purposes

Remember that legal obligation on lenders to ensure your loan will be affordable. They’re going to need to verify everything. So begin getting together your paperwork early.

All the above examples are necessarily broad overviews of what can count as income for mortgage purposes. There’s a whole lot more detail.

So either talk to your lender about what rules apply to you or ask us.

Verify your new rate (Apr 25th, 2019)