Everett, Wash.
Published: Sunday, January 11, 2009

Fudging on income can hinder refinance

By Steve Tytler

 Question: We run our own business and even though we have pretty good cash flow to pay our bills, our income tax return shows very little taxable profit. This makes it difficult for us to qualify for loans. How can we refinance to take advantage of today's low mortgage rates?

G.H., Snohomish

Answer: Unfortunately, a lot of homeowners are not able to cash in on the mini- refinancing boom going on right now because of falling home values and tighter lending standards.

In your case, you are a victim of the vanishing stated income loan programs. As its name implies, on a stated income loan you simply say the amount of money you earn on the loan application but you are not required to supply any documentation to prove it.

Stated income loans were originally designed for business owners like you who have trouble documenting their actual income. Many small-business owners have money coming in, but their tax returns show little net profit.

Now before I go any further, let me clarify that I believe it is illegal, immoral and unethical not to properly report all earned income on your federal tax returns. I do not condone or recommend that anyone should deliberately lie or under-report their income on their income tax returns.

In fact, I sometimes tell my mortgage clients to claim fewer deductions and declare more income on their tax returns. That's because if you can fully document your income, you will get the best mortgage interest rates available.

The problem with stated income loans is that the program was easy to abuse. Many unethical mortgage loan officers used that program for what became to be called liar loans. They encouraged their customers to make up high income numbers that had no basis in reality. As a result, many of those borrowers are now in foreclosure because they never should have qualified for the high mortgage amounts in the first place. That's why stated income loan programs have almost totally disappeared from the mortgage marketplace.

And even if you could find a stated income loan program today, the terms are likely to be highly unfavorable. For example, you might be limited to a loan amount equal to 60 percent or less of the home's appraised value and the interest rate might be 10 percent or 11 percent. Obviously, that kind of loan is not going to help the average homeowner very much.

So there are no easy answers for business owners like you.

You can take advantage of the tax laws to reduce your taxable income and cut your tax bill to almost nothing, or you can show a lot of income to qualify for a mortgage -- but you can't do both simultaneously. You have to decide what is more important to you.

I have been self-employed for more than 22 years and since I buy, sell and refinance real estate on a regular basis, I have decided to be very conservative in my tax deductions so that I show a significant amount of income on my federal tax returns each year. That costs me more income tax than I'd have to pay if I were more aggressive in writing off all of my expenses, but to me the ability to qualify for a mortgage is more important than saving a few thousand dollars in taxes.

As I said, you have to decide which is more important to you and plan accordingly. You might consider showing more income when you file your 2008 tax return this year so that you may be able to qualify for a mortgage.

Mail your real estate questions to Steve Tytler, The Herald, P.O. Box, Everett, WA 98206, or e-mail him at economy@heraldnet.com.
© 2009The Daily Herald Co., Everett, WA