When my then-husband and I were house hunting in 2007, just before the housing market crash and the global financial crisis, getting a mortgage loan was ridiculously easy.
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At one point, we were told we could get more than $500,000 with nothing down using a state income mortgage. The only thing we needed was the barest-bones documentation of my self-employed income.
After the financial crisis of 2008, things changed in the world of home loans. Stated income loans (also sometimes called no-doc or low-doc) fell out of favor. Lenders didn’t want to take the risk that homebuyers would default on their loans. Lending standards tightened across the board.
If I had applied for a mortgage in the three years following the crisis, I would probably have been denied because of my self-employed status. But as the financial crisis receded in the rearview mirror, stated income home loans became more popular.
In 2013, however, the Consumer Financial Protection Bureau (CFPB) issued a rule about verifying a borrower’s ability to repay a mortgage. This rule doesn’t prohibit lenders from making stated income home loans, but it does make it a little more difficult for them to pass muster.
What is a stated income mortgage?
At its most basic, a stated income mortgage is one where the borrower doesn’t have to provide tax returns for income verification.
A qualified mortgage, on the other hand, requires tax returns when determining whether or not a borrower can repay the mortgage. The process is much more rigorous for a qualified borrower, although current lending standards for stated income mortgages are tighter than they were before 2008.
Requirements of a stated income mortgage
While my pre-2008 lender was more than happy to lend me money with only a cursory examination of my income, the same is not true today.
The passage of the Dodd-Frank Wall Street Reform and Consumer Protection Act in 2010 makes it clear that more due diligence has to be performed even for these “no income verification mortgage” loans.
Today, many lenders require that potential borrowers who want stated income loans:
- Have excellent credit
- Be able to make a large down payment
- Show a large amount of assets
Even though you may not need to turn over tax returns to qualify for one of these state income mortgages, there is nothing “no documentation” about them. Lenders are required by law and by rule from the CFPB to make reasonable efforts to ensure that borrowers have the ability to repay the loan.
Who benefits most from state income home loans?
In many cases, according to My Mortgage Insider, these loans aren’t available to those looking to borrow for a primary residence. Instead, lenders are looking for small business owners and people who plan to buy homes to rent out or flip.
One of the reasons that business owners and the self-employed gravitate toward stated income mortgages is due to the fact that their tax returns might not accurately reflect an ability to pay.
Many small business owners claim deductions to save on their taxes, so a tax return might not be an accurate representation of their true income — especially as it relates to an ability to repay.
If you plan to buy a home to use as a rental property and you think you can show your ability to repay the loan without a tax return, a stated income home loan can be one way to get approved. Remember, though, you’ll still need to meet the lender’s credit and down payment requirements.
Another scenario where you might benefit from a stated income loan is if you have a big bank account, but not a lot of income.
If you don’t have monthly income to show, it can be difficult to get a traditional mortgage. A stated income mortgage can provide you with a way to qualify for a mortgage, as long as you have good credit and can make a large down payment.
What you need to know about stated income mortgages
While stated income mortgages can be great for business owners and the self-employed whose tax returns don’t accurately reflect their incomes, it’s important to be aware of some of the drawbacks. The biggest one? You might end up paying a much higher interest rate on your mortgage.
In 2007, the company that offered me a large no-doc loan wanted me to pay an APR of 10%. This was at a time when the best mortgage rates were right around 6%.
We decided to get an FHA loan, which required an income audit on top of turning in our tax returns, to get approved for the best possible mortgage rate. We saved thousands of dollars as a result.
Other fees and costs might also be higher if you choose a stated income mortgage over a qualified mortgage. Carefully research the possibilities and decide if it makes sense for you to pay more for one of these mortgages.
For most people looking to buy a home to live in, stated income home loans aren’t likely a good choice. You’re better off working on meeting the requirements for getting a qualified mortgage or going through federal programs like those offered by the FHA, USDA, and VA.