Tax write-offs can hurt your mortgage, because conventional lenders qualify self-employed borrowers on the income left after business expenses on their tax returns. Not every deduction counts against you: under Fannie Mae guidelines, non-cash items such as depreciation, depletion, amortization and business use of home are added back. If your returns still show less than you earn, a bank statement, P&L or 1099 loan can qualify you on other documentation.
Do tax write-offs hurt your chances of getting a mortgage?
They can, and it surprises a lot of business owners. Your accountant's job is to keep your taxable income low. A conventional lender's job is to qualify you on that same taxable income. Lower net income on your returns means a higher debt-to-income ratio and a smaller loan.
The full answer has three parts:
- Real cash expenses count against you. Rent, payroll, supplies and marketing reduce the income a lender uses.
- Non-cash deductions often do not. Depreciation and similar items are added back to income in the lender's analysis.
- Tax returns are not the only path. When returns do not tell the story, alternative documentation loans qualify you on deposits, a P&L or 1099s.
Florida has no personal income tax, so there is no state personal return. Your federal returns and their schedules, such as Schedule C, Form 1120-S, Form 1065 with K-1s or Form 1120, are what a lender reviews.
How do lenders calculate self-employed income from tax returns?
Who counts as self-employed
Under Fannie Mae guidelines, anyone with a 25% or greater ownership interest in a business is considered self-employed. That includes owners who pay themselves a salary through their own company.
How much history you need
Lenders generally look for two years of self-employment. Less than two years can work if your most recent signed returns show a full 12 months of income from the current business, and you can document prior income at the same or a higher level in a field with the same products or services, or in an occupation with similar responsibilities.
Which returns
Expect to provide two years of signed personal returns with all schedules, or IRS transcripts. Fannie Mae can accept one year when the business has existed for five years and you have owned 25% or more of it for five consecutive years. Business returns can be waived in some cases: when you provide two years of personal returns, use your own funds for the down payment, closing costs and reserves, have been self-employed in the same business for at least five years, and your personal returns show the business income increasing over the past two years.
The cash flow analysis
The lender turns your returns into qualifying income with a cash flow analysis, such as Fannie Mae Form 1084. Freddie Mac uses a similar analysis. The underwriter also reviews the trend in gross income, expenses and taxable income from year to year, because a business that is growing reads differently from one that is shrinking.
S corporations and partnerships
Many Florida business owners operate as an LLC taxed as an S corporation or a partnership. For these, your share of business income on the K-1 counts only if the lender documents that it was actually distributed to you, or that the business has enough liquidity to support those withdrawals. This rule trips up owners who leave profits in the company.
Which business deductions can be added back for a mortgage?
Add-backs are deductions that lowered your taxable income without taking cash out of the business, or that will not happen again. Fannie Mae lists them by return type.
| Schedule C | S corporation | |
|---|---|---|
| Added back | Depreciation, depletion, business use of home, amortization, casualty losses | Depreciation, depletion, amortization, casualty losses, other losses that are not consistent and recurring |
| Subtracted | Non-recurring income, the meals and entertainment exclusion | Non-recurring income, the travel and meals exclusion, notes payable in less than one year |
| Not added back | Ordinary cash expenses | Ordinary cash expenses |
On S corporation returns, notes payable in less than one year are not subtracted when they are lines of credit, are regularly rolled over, or are covered by liquid assets.
The general rule is simple: only non-cash or non-recurring items come back into income. A large depreciation deduction on equipment or a vehicle may cost you little on the mortgage side. A large payroll or rent expense will.
What if your income dropped from one year to the next?
Lenders look at the trend, not just the average. Fannie Mae's income calculator classifies self-employed income as increasing, level or declining. Declining income is averaged over 12 months, and the file must show that the income has stabilized before it can be used.
In plain terms, a drop usually means the lender works from the lower, more recent year and wants evidence the decline has stopped. If a lower income going forward is already known, the lender must use the lower amount. A year-to-date P&L and recent bank statements can help show where the business stands now. Final treatment depends on underwriting.
Not sure how a lender will read your returns?We run your returns the way underwriting will, then compare them with alternative documentation programs.
Talk to a brokerShould you write off less the year before you buy a home?
This is a question for your CPA, and we will not answer it for you. What we can lay out is the trade-off:
- Lenders qualify you from the returns you actually file
- Taking fewer deductions raises your taxable income, and your tax bill with it
- If you amend returns shortly before applying, lenders may ask why
- An alternative documentation loan may let you keep your deductions and still qualify
The best time to have this conversation is before you file, with your CPA and your broker together, so the tax decision and the mortgage plan fit each other.
What are the alternatives to qualifying with tax returns?
When your returns do not reflect what the business earns, Non-QM loans use other documentation. Our guide to Non-QM loans explains the category. The lender still has to verify that you can repay. Only the documents change.
- Bank statement loans use 12 to 24 months of personal or business deposits, adjusted for business expenses; see how bank statement loans work
- P&L loans use a profit and loss statement, often one prepared by a CPA or licensed tax preparer, depending on the lender
- 1099 loans usually apply an expense factor to your gross 1099 income
- Asset depletion qualifies borrowers with significant liquid assets on those assets
- DSCR loans qualify investment properties on rent instead of personal income; see our guide to DSCR loan requirements
Expense factors, down payment, reserves and how deposits are counted vary by lender. These loans usually cost more than conventional financing, which is why the first question is always whether your returns already work.
What is the best mortgage for self-employed borrowers?
There is no single best one. If your returns qualify you for conventional or FHA, that is usually the lower-cost path. If they do not, the right alternative depends on how your income shows up: steady deposits point to a bank statement loan, a CPA-prepared P&L to a P&L loan, and 1099 pay to a 1099 loan.
How we approach it
Self-employed borrowers are a core part of what we do. We start with your returns and run them the way an underwriter would, add-backs and trend included, because conventional financing is usually the lower-cost path. If the returns fall short, we compare bank statement, P&L and 1099 programs across our lender network, since each lender's worksheet differs, and show you where your income lands with each. Every option is subject to credit approval and underwriting. Talk to your CPA before you change how you file; we are glad to be part of that conversation.
Bank Statement loan programQualify on 12 to 24 months of depositsProfit & Loss (P&L) loansQualify on a CPA-prepared P&L instead1099 Income loansQualify on gross 1099s with an expense factorSources
- Fannie Mae Selling Guide: Underwriting Factors and Documentation for a Self-Employed Borrower
- Fannie Mae Selling Guide: Income or Loss Reported on IRS Form 1040, Schedule C
- Fannie Mae Selling Guide: Analyzing Returns for an S Corporation
- Fannie Mae: Form 1084, Cash Flow Analysis
- Fannie Mae: Income Calculator FAQs
- Fannie Mae Selling Guide: General Income Information
Common questions
They can. On a conventional loan, self-employed income is generally the income on your tax returns after business expenses, so real cash expenses lower your qualifying income. Some deductions, such as depreciation, depletion, amortization and business use of home, are added back. If your returns still show too little income, bank statement, P&L or 1099 loans qualify you on other documentation.
Yes, under Fannie Mae guidelines. On Schedule C, depreciation, depletion, business use of home, amortization and casualty losses are added back to income. S corporation returns have similar add-backs. Ordinary cash expenses such as rent, payroll and supplies are not added back.
Conventional loans generally look for two years of self-employment and two years of signed personal returns. Fannie Mae can allow one year of returns when the business has existed for five years and you have owned 25% or more of it for five consecutive years, with a cash flow analysis.
That is a question for your CPA, not your loan officer. Taking fewer deductions raises your taxable income and your taxes. Alternative documentation loans can sometimes avoid that trade-off, so talk with your CPA and your broker before you file.
Under Fannie Mae guidelines, anyone with a 25% or greater ownership interest in a business is considered self-employed, even if the business pays them a salary.
General information only, not a commitment to lend or an offer of credit. Loan programs, guidelines, interest rates and terms are subject to change without advance notice and vary by lender. All loans are subject to credit approval and underwriting.
My Liberty Loans is a DBA of Liberty Mortgage Associates Inc., NMLS #275236.