Qualifying for a Mortgage When You’re Self-Employed

Being an entrepreneur takes serious drive and dedication. You take the risks, you put in the long hours, and you build something from the ground up. But when it comes time to buy a home, you might feel like you’re being penalized for your success… which is more than a little frustrating.

As a former entrepreneur who went through my own share of business struggles in my 20s and 30s before building PMT Mortgage Corp., I know exactly what it’s like… and it can require a strategic approach.

In the new age of mortgages, lenders are scrutinizing files more than ever, here is the plain English guide on how we get our self-employed clients approved.

The Tax Write-Off Catch-22

If you are self-employed, your accountant’s job is to write off as many business expenses as legally possible to lower your tax bill. While this is fantastic for keeping more hard-earned cash in your corporate accounts, it can create a massive headache for mortgage qualification.

Why? Because traditional “A” lenders generally don’t care how much your corporation earned in gross revenue; they only look at your personal declared income.

If your company made $500,000 last year but you only paid yourself $80,000 to keep taxes low, the bank is going to qualify you based entirely on that $80,000. This is one of those areas of the mortgage industry that completely defies common sense. The business owner obviously has the ability to pay themselves more at any time to cover their mortgage payments, but the banks simply don’t see it that way.

So what’s stopping them from looking at total business health? Rigid underwriting guidelines. That’s where working with an expert broker who is well versed in the myriad of options for self-employed borrowers. 

What Lenders Actually Look For

For self-employed applicants, lenders need to see a two-year track record to prove business stability and consistent earnings. They will take a two-year average of your income to determine your maximum purchasing power.

To prove this, here are the four standard documents you must have ready:

• T1 Generals: These are your tax returns. Mortgage lenders will need the full, complete document for the past two years, not just the summary page.
• Notice of Assessment (NOA): You must provide NOAs for the last two years. Most importantly, if there is an outstanding tax balance on your most recent NOA, you must provide confirmation that the balance to the CRA has been paid in full.
• Articles of Incorporation or Business License: This proves ownership and confirms how long the business has been established.
• Financial Statements: If you are incorporated, lenders require two years of corporate financial statements prepared by your accountant, including the balance sheet, income statement, and statement of retained earnings.

What Income Does a Lender Use?

This depends on your type of self-employment.

Sole proprietor / partnership

If you’re a sole proprietor or in a partnership, a lender will use the two year average of your net business income as reported on line 13500 of your T1 General (tax return).  This rule applies providing the income is increasing year over year. If it’s declining, then a lender will only consider the lower income from the most recent year. 

In either case, most lenders will allow us to gross up your income by 15%, and/or account for add backs of certain expenses. 

Incorporated 

If you are incorporated, then lenders will look at lines 101 and 120 in particular . Line 101 is your employment income if you pay yourself a salary. Line 120 is where you’ll find the dividends you’ve paid yourself. Some lenders will allow us to gross up your line 101… but not line 120. The same rule of using a two year average applies, assuming the income is increasing year over year.

“But I pay myself a consistent salary. Can that be used for my qualification?”

The quick answer here is no. While you may have been paying yourself a consistent salary, you have the power to change this at any time. After all, how does the lender you didn’t just temporarily boost your salary to qualify for a higher mortgage? Even if you pay yourself a consistent base, lenders will still only look at your last two years. 

What If the Average of Your Line 15000 is higher?

Regardless of your employment type, mortgage lenders do not consider your line 15000, which is the combined total of all income received. It includes other sources of income, which could include RRSP withdraws, capital gains, or rental income from an investment property. The first two are not considered towards your income as they are not sustainable. Rental income can be used, but it doesn’t get added solely based on the information reported on the T1, and it’s inclusion can be a bit more complex. The exact method in which rental income gets considered can vary from lender to lender. 

What If Your Declared Income is Too Low?

If you’ve done such a great job minimizing your taxes that your declared income won’t qualify you for the home you want, don’t lose hope.

There may be a few different ways forward, depending on how your business and personal finances are structured:

1. Corporate Net Income After Taxes (NIAT) programs
Some lenders offer programs that will look at your corporation’s net income after taxes (NIAT) rather than relying only on the salary or dividends you reported personally. In plain English, they are looking at your corporation’s bottom line after taxes and then applying a percentage of that amount to determine qualifying income. That percentage typically falls between 40% and 60%, less dividends paid. The exact amount used can vary from one application to the next. This can help bridge the gap between smart tax planning and your business’s actual earnings.

2. Net Worth qualification programs
For high-net-worth individuals, certain lenders may focus more on your liquid assets, real estate holdings, and overall net worth than on traditional annual income alone. This can be a viable route for business owners who retain significant capital within their corporate or personal holdings and may not show enough declared income on paper to qualify through standard channels. Most lenders will require a minimum of $250,000 in financial assets after your down payment has been considered. The general rule of thumb is that you’ll need $1 in net worth for every $1 you go over the standard maximum allowable debt to income ratios.

3. Alternative lending (stated income / “B” lenders)
This is where alternative lending comes into play, often referred to as B lenders. These lenders offer stated income programs designed specifically for self-employed Canadians. Instead of just looking at your income average, they look at the overall health of your business, your gross deposits, and your corporate bank statements to verify that you have sufficient income to comfortably afford to carry the mortgage. While alternative lenders usually charge a slightly higher interest rate and a 1% lender fee, this route can be the key to getting you into your dream home rather than being forced to settle for a property that doesn’t fit your family’s needs.

Frequently Asked Questions

Q: How many years of tax returns do self-employed mortgage applicants need?
A: Traditional “A” lenders generally require two years of T1 Generals and Notices of Assessment (NOAs) to calculate a two-year average of your net declared income.

Q: Can I qualify for a mortgage if my net taxable income is low?
A: Yes. If your write-offs reduce your personal taxable income too much for traditional lenders, alternative (“B”) lenders offer stated income programs that look at your business bank statements and gross cash flow instead.

Q: Can my corporation’s net income after taxes (NIAT) be used to qualify?
A: Yes, with some lenders. Under NIAT programs, lenders may look at your corporation’s bottom line after taxes and use a portion of it to help determine your qualifying income. The inclusion rate typically falls between 40% and 60%, less dividends paid, depending on the overall strength of the application.

Q: Can I qualify for a mortgage based on my net worth?
A: In some cases, yes. High-net-worth programs may focus more on your liquid assets, real estate holdings, and overall net worth than on traditional annual income, which can help business owners who retain significant wealth in corporate or personal holdings.

Q: What is the difference between sole proprietorship and incorporation for a mortgage?
A: Sole proprietors are evaluated based on their net business income (Line 13500 of the T1), whereas incorporated business owners are evaluated based on their declared personal salary (Line 10100) or dividends (Line 12000), supplemented by corporate financial statements.

Final Thoughts

Qualifying for a mortgage as a business owner doesn’t have to be an uphill battle. and in many cases, it’s not. It all comes down to what you’re reporting on your personal taxes. Even if you keep most of your money in your corporation, mortgage lenders will look at your business as a separate entity. They are mostly concerned with what you pay yourself personally… not what the corporation is earning… even though you’re the owner and have full control over what you pay yourself. This may seem ridiculous… and believe me, many things are in the mortgage world. As I say in my book, the mortgage industry can flat out defy what is seemingly common sense at times.

If you’re self-employed and looking to purchase a new home or condo, then reach out to us and one of my talented account mangers will assess your situation and let you know exactly how much you can expect to qualify for.