What You Need to Know if You’re Self Employed
Because of increasingly strict lending rules being handed down by the big banks and other traditional lenders, it can be difficult, at the best of times, to get a mortgage in Canada. If you’re self-employed it can be even more difficult to secure a mortgage. That’s because traditional lenders don’t like to give loans and mortgages to those with unpredictable, unreliable income streams; they’re seen as being a higher risk to default.
To ensure self-employed Canadians can pay their loans back, banks look at three factors: income, net worth, and credit score. Unfortunately, these tougher mortgage requirements place an unfair burden on the 20% of Canadians who are self-employed.
Part of the problem is that the big banks know that entrepreneurs, independent contractors, and small business owners have difficulty proving their income. On top of that, they understand that self-employed Canadians write off as much as they can to reduce their income and minimize their taxes. The big banks don’t care though.
If you’re self-employed, traditional lenders can ask for any number of documents to prove your income. Pay stubs are the most obvious proof of income, but again, if cash flow is unreliable, big banks will need to see more, such as a tax return or bank statements.
If they’re looking at tax returns to verify income levels, they’ll ask to see a Notice of Assessment, which you can get from Revenue Canada. Lenders will usually ask to look at your income for the past two or three years, which the Notice of Assessment will reveal. Admittedly, some traditional lenders will approve someone who is self-employed for a mortgage with less than a three-year history of income. But there are strings attached; the mortgage will come with a much higher rate and restrictive terms and conditions.
In addition to the Notice of Assessment, the big banks will want to see other supporting documents when you apply for a mortgage.
They can include:
- Proof that you are the owner of the business
- Financial statements for the business
- Contracts showing expected revenue for this year and next year
- Documents showing your HST and/or PST is paid off
- Both your personal and business credit scores
- Written proof that your down payment is not a gift
Lending Standards for Self-Employed
As already mentioned, the lending standards that traditional mortgage lenders impose on those who are self-employed are onerous. This includes looking at tax returns over the last two or three years. But, as we already know, because of tax deductions, how much you make each year may not actually be reflected in the net (take-home) income.
Lowering your taxes is a great idea if you’re self-employed, but traditional mortgage lenders see this as a disadvantage. Big banks calculate your debt-to-income levels, which measures how much of your income is used up to service your debt. This is done by looking at your net income, which is the after-tax amount you take home.
If, like virtually every self-employed Canadian, because of deductions, you have a lower net income. This means your debt ratio will be higher, and most likely, your mortgage application will be rejected.
Higher Down Payment
Banks may tell you that you can get a mortgage, but the terms and conditions will not be as favourable as if you were not self-employed. If you work for someone else, you need to save up a 20% down payment.
If you’re self-employed though, the banks penalize you by saying you need to have a minimum down payment of 30% or even more. It’s tough to save up a 20% down payment, asking for a 30% down payment means most self-employed Canadians will never qualify for a mortgage.
How to Improve Your Chances of Getting Approved for a Mortgage
Get Your Documents Ready/Be Organized
Being self-employed, you know how important it is to keep your records up to date, especially when it comes to doing your taxes. The same can be said when it comes time to apply for a mortgage. Have all supporting documents that prove your income, net worth, and credit score close at hand.
Don’t Miss Tax Payment
When you work for someone else, all of your tax deductions come off before you get paid. When you’re self-employed, you’re 100% reliable for make all of those deductions and paying your taxes and GST/HST on time.
Your Notice of Assessment from the CRA will show whether or not you owe taxes or are up to date. Keeping up with your tax obligations shows lenders you are responsible.
Keep a Good Credit Score
A good credit score is another way to prove that you are good with paying bills on time. The higher the score (300 to 900), the more reliable you are. The lower your credit score, the higher the odds are that you’ll default on a mortgage or loan.
To get a mortgage with the best rates and terms, traditional mortgage lenders will need you to have a credit score of at least 680. The average credit score in Canada is 650. A credit score of 650 or below makes it more difficult to qualify for a mortgage. If you are approved, you’ll be hit with paying much higher interest rates.
A low credit score will impact more than just a mortgage application. It will make it difficult to rent an apartment, get a car, or secure any kind of loan.
To get and maintain a high credit score, make bill payments on time.
Canadalend.com, Helping Self-Employed Canadians Secure a Mortgage
If you’re self-employed and thinking of getting a mortgage, it can be difficult to determine which lenders will even give you a loan, or which ones will provide you with the best rates and terms. The self-employed mortgage professionals at Canadalend.com can help.
Because the mortgage experts at Canadalend.com are independent, they have access to hundreds of different lenders. Many of whom specialize in providing mortgages to those who are self-employed, have unreliable income, bad credit, or even no credit. Traditional lenders on the other hand, will only offer you their financial products, even if it’s not in your best interest.