Lending guidelines today ask lenders to verify and provide proof of income. This is necessary in order to calculate affordability and to prequalify someone for a certain amount. Lenders can send out a Verification of Employment form to the applicant’s employer. The completed form will provide the lender how much the employee makes each month and a year to date figure as well. It can also show the employee’s original start date. Applicants will also be asked to provide the most recent copies of paycheck stubs covering a 30 day period.
Lenders also look for the last two years of W2 forms which shows proof of a two year history of employment as well as being a cross-check of sorts with the information shown on the employee’s paycheck stubs. But verifying someone who is not an employee but self-employed or receives commission or bonus income, there won’t likely be any paycheck stubs or W2 forms. Instead, the applicant receives 1099 forms from the various sources of revenue.
It’s understood that someone who is self-employed or identified as an independent contractor won’t typically receive a paycheck stuff on the 1st and the 15th. Instead, money comes in as services are performed. Some clients can pay immediately while others pay within 30 days. To verify income for an independent contractor, bank statements are needed, both personal and business. The business bank statements will show deposits at various times throughout the statement period.
Income tax returns from the previous two years are also required for most programs. Two years of personal and business tax returns do two things: verify two years of self-employment, a requirement, and show year-over-year income. The reported income from one year to the next should be consistent. Better, income from one year to the next shows an increase. If there is a significant decrease from one year to the next, it’s likely the income cannot be used and thus the application will be turned down.
Many independent contractors start out working as employees for other companies but might start doing some side jobs. A plumber might work for a local plumbing company but does some extra work for personal clients on the weekends. As long as there are two years of history for the extra income, it can be used to help qualify. Again, as long as the income is relatively consistent. 1099 employees must also provide a year-to-date profit and loss statement for the business being operated.
Let’s say that one day the plumber decides to quit his plumbing job and become a full time independent contractor. In this instance, the self-employment income probably won’t be counted. Why? Refer back to self-employment guidelines which requires a two year history of employment. There is a history of 1099 income but there is no history of being self-employed full time. Lenders have this guideline not only to see if the income and self-employment is secure, but the individual can handle being self-employed and not rely on getting a regular paycheck.
1099 employees may also see a bit more stringent credit scores, although with most programs that’s not the case. It also depends upon the type of loan being applied for. If it’s an FHA loan, the minimum score for FHA loans is 580 when using the minimum down payment. For conventional loans, the minimum credit score is 620.
1099 income and W2 income are both verified. It’s just that the 1099 version takes a few extra steps.