How To Refinance a Mortgage When You’re Self-Employed

Refinancing your mortgage has many benefits, such as more affordable monthly payments and the chance to save money on interest. To refinance, you need to apply with a lender — which can feel like a challenge if you’re self-employed. That’s because you’ll need to document your income and expenses more fully than someone paid by an employer.

The more you understand the refinancing requirements for a self-employed homeowner, the easier the mortgage refinancing process will be to navigate.

Challenges With Refinancing When Self-Employed

Mortgage lenders want to know borrowers can repay their loans. That means you need to provide documents showing your income, assets, and debts to give your lender a complete understanding of your finances.

For traditional employees, income is easier to document as you can produce a W-2 form or a few recent pay stubs and be done. If you’re self-employed, refinance requirements may be more stringent because you don’t have an employer to document your income for you — you need to do that yourself.

Documentation challenges

For most types of mortgages, lenders require one or two years’ worth of tax returns, pay stubs, and W-2s, which self-employed applicants might not have. Plus, since you are technically your own employer, you may have to provide a business license or some other document that proves the existence of your business and identifies you as the owner. To provide proof of income, lenders may require you to produce two years’ worth of profit and loss statements in lieu of pay stubs.

Even if you can provide this documentation, lenders still may be wary of approving refinance loans for self-employed individuals.

“The main challenges self-employed homeowners face mainly revolve around income documentation and verification,” says David A. Krebs, a mortgage broker at DAK Mortgage in Miami. “Self-employed borrowers’ tax returns may not show steady income, as they often write off a lot of expenses, so it may affect other factors, like their debt-to-income ratios, making it harder to meet conventional loan requirements.”

Lender Requirements for Refinancing When Self-Employed

Lenders will decide whether to refinance your mortgage based on your personal finances — not your business finances. Lenders generally apply the same standards to self-employed borrowers as to borrowers employed at traditional jobs.

Credit score

Your personal credit score is one of the main factors that lenders consider because it’s an indicator of how likely you are to default on your loan. Most lenders have minimum credit score requirements, and also may consider your credit score when deciding your loan’s interest rate. The higher your credit score, the more likely it is you’ll be approved for a refinance — and at more-competitive interest rates.

DTI ratio

Your debt-to-income ratio, or DTI ratio, is the percentage of your gross monthly income that goes toward paying your debts. It’s used to assess whether you have room in your budget to afford your new monthly mortgage payment.

There are two types of DTI ratios:

• Front-end DTI ratio. This DTI ratio looks at your total housing expenses in comparison to your gross monthly income.
• Back-end DTI ratio. Instead of only looking at your housing expenses, this DTI ratio considers all of your monthly loan obligations compared to your gross monthly income.

Although there are exceptions, most lenders prefer your front-end DTI ratio to be 28% or less, and the back-end ratio to be 36% or less. Some lenders may accept a back-end DTI ratio as high as 45% if the applicant meets other eligibility requirements. You can use a DTI ratio calculator to figure out where you stand.

Credit utilization

Your credit utilization ratio is the percentage of available revolving credit — like credit cards — you’re using. The higher your credit utilization ratio, the more likely it could appear that you need to rely on credit and may have trouble meeting your daily financial obligations.

Payment history

Lenders typically look at your credit history to see your payment history. They will check for negative remarks, such as excessively late payments or loans that have gone to collections.

Income

Lenders want to see that you make enough money to meet your financial obligations. They may want to review your paperwork in more detail because self-employed individuals who want to refinance their mortgage may have fluctuating income.

Is it More Difficult To Refinance When You’re Self-Employed?

Self-employed homeowners who want to refinance may discover it’s more challenging to find a willing lender.

“It can be harder to refinance when self-employed, primarily due to the stricter income documentation requirements from lenders,” Krebs says.

That’s not to say you need to give up. Krebs says there are many lenders willing to work with borrowers who may not meet the traditional requirements for a refinance but have the means to repay a loan on time.

“Many of these lenders understand that not all borrowers can provide traditional documentation and may offer loan programs designed to address the most common issues leading to loan rejection, such as proof of income and DTIs,” he says.

Best Practices for Refinancing When Self-Employed

To improve your odds of being approved for a refinance when you’re self-employed, consider the following best practices.

Document income and expenses

Be sure to thoroughly document your income and expenses. Some documents you may need include detailed profit and loss statements for the past several years; two years of business and personal tax returns; your business license; and bank statements from your personal, business, and investment accounts. The more documentation you can provide to lenders, the easier it may be for them when it comes time to go through the underwriting process.

Prepare your credit

Before applying for a refinance, check your credit score. This can help you spot and correct errors that may be bringing down your score. If your credit score is lower than you’d like, you also can use the insights gained from looking at your credit report to work on improving it.

Find the right lender

The good news is that many lenders are willing to work with self-employed homeowners who want to refinance their mortgage. As you shop around for a lender, consider asking friends and family members who also are self-employed for recommendations. Or ask lenders upfront if they work with self-employed homeowners.

What To Do If You’re Denied for a Refinance

If your application for a refinance is denied, there are several steps you can take.

Improve your credit score

A higher credit score improves your chances of being approved for a refinance. Look at your credit report to see if there are any factors that may be holding back your credit score. For instance, if you’ve had a series of late payments, you can work on consistently paying your debts on time.

Lower your DTI ratio

If your DTI ratio is too high, lenders may be wary of letting you borrow money. You can lower your DTI ratio by decreasing your debt obligations, increasing your income, or both.

Some ways you can lower your DTI ratio include:

• Making extra or additional payments toward your current debts.
• Avoiding new debt.
• Increasing your gross income, possibly by taking on additional work or a side hustle.

Explore alternative financing options

Some lenders may look at other types of qualifying criteria instead of relying on typical tax returns and income statements.

You also can seek lenders that offer nonqualified mortgages, which don’t meet requirements designed to ensure the borrower can reasonably repay the loan. However, these loans carry more risk and may come with higher interest rates and fees. That’s not to say you won’t find a reasonable rate — you may just have to look harder to find one.

FAQ: How To Refinance a Mortgage When You’re Self-Employed

Check out these frequently asked questions about refinancing your mortgage when you’re self-employed.

The Bottom Line on Refinancing a Mortgage When Self-Employed

You may feel like you need to go through a lot of bureaucracy to qualify for a refinance when you’re self-employed. But as your own boss, you’ve been in some tough situations before, and this one is no different. If you have enough detailed paperwork and a rock-solid credit profile, it’s more than possible that you’ll find a lender willing to help you refinance your mortgage.