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Here’s how the banks will assess your income

It’s not surprising New Zealand is often referred to as a nation of small businesses. We’re an entrepreneurial bunch, with a reported 400,000+ self-employed small businesses in New Zealand. Leaping into self-employment can be an extremely fulfilling way to work – but when it comes to applying for a mortgage, it can make things a little tricky.

If you’re self-employed and ready to buy your first home, you’ve probably been told that to borrow money from a bank, you’ll need to jump through a few extra hoops. Compared to regular PAYE income earners this is true, but that doesn’t mean accessing the finance to buy your dream home is impossible.

From a bank’s perspective, self-employed borrowers are riskier because their income isn’t guaranteed or consistent. There’s also the potential for your business to go belly-up so you fail to meet your mortgage repayments on time. That is why banks require substantial proof of regular income as part of their loan-approval process.

If you can convince the bank that you can service a mortgage, then you have a great chance of being approved for a home loan.

Here’s how banks assess self-employed income:

What a bank lender looks for in self-employed applicants

The most important thing to understand about any lender – bank or non-bank – is that what they are looking for in your financial history is stability. Banks will always rely on historical figures to assess your income, so it’s your job to show through your financial documents that your risk is as low as possible.

Here’s what you’ll generally need:

  • Tax returns for the last 12-24 months
  • At least two years’ proof of income
  • Financials from your accountant to confirm your profitability

Not every bank uses the same method to figure out what your income is. Some will average your income from the last two years, others will look at your most recent figures. It’s about proving your income, not your business turnover.

New to the world of self-employment? You’re probably feeling a little disheartened. It’s true that banks will be apprehensive about lending to self-employed people in their first year of trading because most new sole traders or small businesses don’t make a profit immediately. Some lenders will settle for one year’s worth of income, but you might find there are fewer options available than if you had two years’ worth of documents. In this case, you’re best to speak with a broker.

Full-doc loans

If you can provide the bank with everything it needs to assess your income in detail, you’ll be able to apply for full-doc loans. They are arguably the best option for self-employed people and rely on in-depth income verification.

The benefits of full doc loans:

  • Less risk for you as a borrower
  • Good interest rates
  • Lower fees
  • More options, less restrictive lending policies
  • Lots of flexibility
Low-doc home loans – non-bank lenders

Perhaps you have no tax returns (yet!) or you want a loan without the hassle of compiling a novel out of your financial history. Your option is to move away from the banks to a non-bank lender – and a low-doc home loan.

Several lenders on the market are more flexible in how they assess self-employed income, with loan packages tailored specifically to meet the needs of the entrepreneurial. These lenders accept alternative or minimal forms of documentation to verify your income, like:

  • Bank account statements
  • BAS statements
  • Financials from account with history between 6-12 months.
  • An accountant’s letter in lieu of one of the above.

Even though low-doc home loan lenders require different paperwork, and are a great option for those who don’t meet traditional loan requirements, the application process is the same. You still need to provide evidence you’re able to repay your loan with some kind of income.

Low-doc home loans almost always come with slightly higher interest rates, and you’ll likely incur larger fees to offset any perceived risk. However, they can be a good interim measure until a bank is more comfortable with your income.

Getting your head around the numbers

If you’re a salaried worker, things are more straightforward, but taking out a mortgage is anything but plain and simple. Just as all borrowers are different, so are all lenders. Being self-employed won’t stop you from getting into your dream home – you might just have to take the 4-wheel-drive track rather than the tar-sealed road.

As with any type of lending, it’s important you thoroughly research these types of loans to ensure they meet your needs. If you want as many options as possible, speak to a mortgage broker. Take advantage of the relationships Global Finance have with various lenders, their inside knowledge of which banks are more non-traditional or borrower-friendly, and how you can maximise your borrowing power as someone self-employed.

Self-employed and ready to buy? Talk to one of the brokers at Global Finance now.

**These are general guidelines and are by no means a reflection of bank or lending policies