We have often heard of self-employed individuals and their troubles getting traditional mortgage products. With the write-offs and deductible expenses their self-employment income can be allowed of, the figures on paper look smaller and cast doubts over their ability to repay their mortgage. Things could get more complex if their self-employment history spans less than two years.
This discussion only makes one curious of the nature of the self-employment income. Who are the self-employed? What kind of taxes are they paying or the deductions they are getting? Let’s look at this type of earned income below.
What mortgage are you interested in?»
Are You Self-Employed?
You are considered self-employed by the Internal Revenue Service if you are one:
- Who carries a trade or a business as an independent contractor or a sole proprietor.
- Who maintains a membership in a partnership conducting a business or trade.
- Who is engaged in a trade or business for profit on a full-time or part-time basis.
Tax Obligations
Your tax obligations as a self-employed individual consist of an income tax and self-employment tax, which is basically your Social Security and Medicare tax. The components of this self-employment tax are similar to the taxes withheld from wage earners.
You are to file (i) a tax return annually and (ii) an estimated tax paid quarterly.
To know if you are required to pay both income and self-employed taxes, determine first your business’s net loss or profit. Subtract your business expenses from your business income:
- If your expenses are greater than your income, this results in a net loss. This can be deducted from your gross income, subject to limitations.
- If your expenses are less than your income, this results in a net profit. This forms part of your income.
We can match you with a lender.»
If your net earnings as a self-employed are at least $400, then you are required to file an income tax return on Form 1040. But if these earnings net less than $400, you are not required to file Schedule SE to Form 1040 subject to you meeting other filing requirements.
Meanwhile your estimated tax covers your (i) income tax and (ii) Social Security and Medicare taxes that may have been otherwise withheld by your employer. Use the Form 1040-ES to figure out your estimated tax payments.
For your annual tax return, you will use:
- Schedule C is for reporting income (or loss) from your business, or
- Schedule C-EZ is for reporting business expenses of $5,000 or less and so on.
The aforementioned Schedule SE is also used to report your Social Security and Medicare expenses.
Allowable Deductions
A self-employed individual is required to report all his/her income and claim all of his/her allowable deductions from expenses.
One deductible is the expenses you incur in using your home for business. This is called the home office deduction that is applicable to homeowners and renters and all types of homes.
Self-Employment Income and Non-Qualified Mortgages
The hurdles faced by the self-employed because of the nature of their income have been remedied partly by non-qualified mortgages whose guidelines vary lender to lender. One lender may not verify income as in stated income loans, another may base verification on liquid assets, and another one could forego tax returns in favor of bank statements.
However the lender considers your income, your loan application is hinged on your source of monthly mortgage payments, your self-employment income being that. Be responsible in keeping records of your income and expenses so it’s easier to document how much you make.
