Guide: Applying for a Mortgage as a Freelancer

Applying for a mortgage is a stressful endeavor, and it may be more so if you are a freelancer or contract employee who doesn’t know about the options open to you. As a gig worker, there are some differences between what is expected of you versus folks who have a W-2 to report to lending offices — and you have to take a few extra steps in order to be viewed as a non-risky investment by said lenders.

Let’s take a look at several things you need to remember when working as a freelancer and how you can get the mortgage you deserve when looking for a new home:

1. Don’t take too many deductions

Tax deductions lower the amount of money you pay taxes against per year, and by decreasing your taxable income, you can feasibly save money in the long run. However, some lenders see a lot of deductions on your tax return as red flags. Plus, with more income, you may qualify for a larger loan.

2. Save, save, save!

No matter whether you’re a gig worker, salaried businessperson, or working hourly at the local department store, saving money is the number-one first step to buying a house. Creating designated savings specifically for your home-buying goals is something you should take advantage of. Some tried-and-true methods for saving money are:

• Set savings goals: Creating clear goals is important, and having clear savings goals is doubly so. Depositing even small amounts into a dedicated account can help you reach your mortgage goals. Make sure you save up enough for a down payment and for any home repairs that may pop up along the way.
• Set up an auto-debit from checking to savings: Even if it’s only $50, setting your account to automatically deduct a predetermined amount from your checking and deposit into your savings account is one way of setting and forgetting your savings strategy. No matter what, you shouldn’t spend that $50 — and you won’t have to remember to move it around, either.
• Form a limited liability company (LLC) for your gig work: With an LLC, you gain tax advantages as a freelancer and COVID-preneur. Since LLCs enjoy pass-through taxes and other key advantages, this is a great way to save money on a yearly basis.
• Cut business costs through creating efficiencies: Spending less money on your day-to-day business functions is a good way to save money so that you can add that extra cash to your funds for buying a home.

These are only a few ways you can save money for a down payment on a home. Remember: It’s recommended to save up to 20 percent of the cost of the home for the down payment, and have more money ready for emergency fixes and other home repairs. Owning a home is an expensive affair — make sure you’re ready for it!

3. Gather the proper documents

As a freelancer (and also just in general), you will need to produce documents that will prove to lenders that you are a worthy borrower. Lenders are more cautious in the underwriting process when it comes to contract workers, so instead of showing W-2s, you will need to produce tax returns, bank statements, and your business license from the last couple of years. You may even be asked to provide letters from your past clients proving that you have worked for them. In essence, the documentation-gathering phase of applying for a mortgage is more stringent than if you were a salaried worker.

Your income from the last two years will also need to show something important: year-over-year increases. Lenders want to see that your business is making money, and this has a lot of bearing on whether they decide to give you a loan. It may help to partner with a professional bookkeeping service for this reason alone, so that you have the expertise on hand and can produce all of this paperwork when necessary.

4. Know your debt-to-income ratio

Your debt-to-income (DTI) ratio is an important part of the equation when it comes to making sure you can afford a new home. When you apply for a loan, lenders assess your DTI to determine how much risk you are as an investment — essentially, how likely it is that you will pay off your loan.

It’s important to know these numbers going into your mortgage application. In order to calculate your DTI, take your monthly expenses (car payment, rent, credit card bills, medical debt, etc.) and divide it by the amount of money you make in a given month. This will give you a number, which is usually expressed in percentage form. The lower the percentage, the less risky you are to lenders (essentially, the more money you make and the less your monthly expenses are).

5. Do your research

This goes without saying, but before you make the huge leap into homeownership, you need to practice due diligence by researching every lender you consult and every loan you apply for far in advance of buying your home. It’s also wise to get preapproved for a loan before you start looking for a house — that way, you know how much you can afford and what you shouldn’t even look at, effectively giving you a more realistic outlook on your home search.

Now you’re ready for homeownership

As you continue to prepare to apply for your home loan by saving money, gathering documents, learning all about your finances, and doing your research, you gain more experience and take more steps toward someday owning your own home. Good luck out there!

 

Building your business effectively and efficiently is part of the process for freelancers to get the best deal on a home loan. For more professional, useful, and inspirational content about starting a business, creating your own efficient business practices, and developing the pertinent skills, visit The Total Entrepreneurs.