July 24th 2011
Crain's New York
When Brian White, a self-employed theater production manager, tried to obtain a bank mortgage for a co-op apartment in Harlem, he found the task shockingly insurmountable.
Mr. White, 40, spent much of 2010 seeking financing for his new home—a two-bedroom unit at West 152nd Street and Amsterdam Avenue selling for $150,000. During that time, he consulted with two mortgage brokers and filled out applications at five banks.
The ol’ Bank of Mom and Dad
“Half the time, the banks wouldn’t return phone calls,” complained Mr. White, who has supported himself as an independent contractor since 1996. Eventually, he says, he borrowed the money directly from his parents in an intra-family mortgage.
While the financial collapse of 2008 has resulted in tighter credit all around, many self-employed people are having an especially difficult time obtaining mortgages as banks toughen their lending criteria, said professionals involved in the housing industry.
“The rigid climate is really causing havoc for the sole proprietor,” said Manhattan-based real estate broker Shirley Hackel, executive managing director at Warburg Realty Partnership. She says that many of her clients, who typically have high incomes, are simply paying cash for property, rather than attempting to find financing.
One major factor driving the heightened requirements from banks stems from independent contractors’ fluctuations in cash flow.
“At any point, you could go through a period without any income,” said Kristie Arslan, executive director of the National Association for the Self-Employed, which has 650 members in New York state.
The result, she says, is that her organization’s members are often subject to more scrutiny from banks than salaried borrowers are, even if they have comparable credit histories.
Bob Donovan, a senior vice president in the home mortgage division at Bank of America, acknowledged that banks require more paperwork from self-employed borrowers, but said that BofA does so to assure itself that an applicants’ income is sustainable.
“It’s only responsible that we verify somebody’s ability to repay,” he said. “As opposed to a W-2 [form] and two pay stubs, we may be asking a sole proprietor for two years of tax returns, including Schedule C’s.”
Mr. White says that one reason for his trouble centered on his business expenses. While he typically earned between $40,000 and $65,000 annually, he also was able to claim many more deductions than his salaried counterparts. For instance, he says, taking a client out for drinks or to a Broadway show was a legitimate business expense, but such deductions deflated his taxable income.
Many self-employed people find themselves in the same position, according to Jeff Appel, sales manager at MetLife’s home loans division.
“The only measure we have for income is what is filed,” Mr. Appel said. “In certain instances, people can be very aggressive in the way they handle their taxable income.”
Kathleen Stevens, 56, a self-employed accountant who works mainly with clients in Manhattan, didn’t anticipate any problems obtaining a mortgage for a $160,000 three-bedroom townhouse in North Carolina, where she plans to eventually retire. She was taking in $3,400 a week when she applied and, she says, her credit score exceeded 700.
But Ms. Stevens’ attempts to obtain financing hit a snag: For the past seven years, she has worked as an independent contractor, a fact that didn’t go over well with bankers. “You could hear the change in their attitude and voice once I said I was self-employed,” she said. “It was like I said, ‘I’m retired; I’ve no money.’ “
Ms. Stevens ultimately obtained a 30-year, fixed-rate mortgage at 5.125% from Centex Mortgage, a subsidiary of homebuilder Centex; she closed in March 2009. Even so, she was able to obtain only a “conditional” mortgage that didn’t become final until five days before she closed on the house, preventing her from locking in a rate early.
Meanwhile, in the six-month period leading up to the closing, the lender asked for three years’ worth of tax returns, copies of all invoices that she sent to clients, monthly bank statements and various deposit slips, according to Ms. Stevens.
“They would look at every deposit I made and asked for proof of the source of this money,” she recalled.
In the past, some small proprietors with good credit scores bypassed questions about their tax returns by obtaining “no-doc” mortgages, notes Michael D’Alonzo, president of the National Association of Mortgage Brokers, based in Lanham, Md. These mortgages typically came with a slightly higher interest rate but didn’t require proof of income.
No-doc mortgages all but disappeared from the market in 2008. But some brokers say they’re slowing starting to return—though only for buyers who can put down a minimum of 50% of the purchase price and have credit scores of at least 740.