Tag: Self-employed

Mortgage

Guide to Getting a Mortgage When You’re Self-Employed

Advertiser Disclosure

The editorial content on this page is not provided by any financial institution and has not been reviewed, approved or otherwise endorsed by any of these entities.

For some Americans, self-employment is the ultimate dream. Roughly 15 million people (10.1% of the total U.S. workforce) were self-employed in 2015, according to the U.S. Bureau of Labor Statistics. Self-employment offers workers the kind of flexibility that can be hard to find in a traditional 9-to-5 job, not to mention the potential for higher earnings.

However, self-employment does come with its own challenges, and, unfortunately, one of these difficulties can be homeownership. Despite earning a solid income, self-employed borrowers face a unique set of hurdles when it comes to determining whether they are eligible for a mortgage. In this guide, we will cover a number of requirements borrowers should begin preparing for as early as possible into their home-buying journey.

The Self-Employed Challenge

In order to gain a deeper understanding of what it takes to be approved for a mortgage as a self-employed borrower, it’s helpful to know how mortgages work in the U.S. For starters, most banks bundle up mortgages and sell them to Fannie Mae, Freddie Mac, or private investors.

To make those investments as safe as possible, Fannie Mae and Freddie Mac have a strict set of guidelines for lenders to follow when deciding which borrowers qualify for a mortgage. Because self-employed borrowers’ income can be unpredictable, they are considered higher-risk borrowers than W-2 workers. That means these guidelines are especially strict for self-employed borrowers.

Requirements for Self-Employed Borrowers: Fannie and Freddie

Although there are a variety of options for mortgages available, we are going to focus on eligibility requirements for self-employed borrowers seeking financing through Fannie Mae and Freddie Mac. Why? If you’re eligible for these loans, you will have access to the lowest interest rates and safest mortgages.

Fannie Mae

Fannie Mae’s Selling Guide outlines a strict set of rules about income for self-employed borrowers. Fannie Mae notes your business income (from a partnership or S corporation) reported on IRS Form 1040 may not necessarily represent the income that has been distributed to you. They point out it’s important to review business income distributions that have been made or could have been made while determining the viability of your business.

Eligibility for Fannie Mae

First and foremost, all borrowers (whether self-employed or not) need to meet Fannie Mae’s normal eligibility requirements:

  • You must be a natural person (living human being) who has reached the age at which a mortgage is legal in the area where the property is located. There is no maximum age limit for the borrower.
  • You must have a valid Social Security number or Individual Taxpayer Identification Number.
  • Per Fannie Mae’s Eligibility Matrix, credit scores must meet the following criteria:
    • Manually underwritten loans – 620 for fixed-rate loans, 640 for adjustable-rate mortgages (ARMs)
    • Desktop Underwriter loans – 620 for both fixed-rate and ARMs
    • Mortgages insured or guaranteed by a federal government agency (HUD, FHA, VA, and RD) – 620
  • The purchase of a single unit principal residence must have a loan-to-value (LTV) of no higher than 97%. If your loan-to-value ratio is less than 75%, a credit score as low as 620 is allowed.
  • Your debt-to-income (DTI) ratio should be no greater than 36%. If your DTI ratio falls between 36% and 45%, a credit score above 680 is required.
  • Fannie Mae now offers a 3% down payment option.

In addition to these requirements, self-employed borrowers have some additional hoops to jump through.

Verification of Income

In order to verify your employment and income, a lender will ask for a copy of your signed income tax returns (individual and sometimes business, as well) from the past two years. This paperwork must include all applicable forms.

A lender may also use IRS-issued transcripts from your individual and business federal income tax returns from the past two years. If you are using these, the information must be complete and legible.

If you use two years of signed individual federal tax returns, the lender may waive the need to see your business tax returns if:

  • you are using your own personal funds to fund the down payment and closing costs and can satisfy the reserve requirements;
  • you have been self-employed in the same business for at least five years; and
  • your individual tax returns show an increase in self-employment income over the past two years.

In certain situations, Desktop Underwriter, Fannie Mae’s automated underwriting system, will only require one year of personal and/or business tax returns if lenders document your income by:

  • obtaining signed individual and business federal income tax returns for the most recent year,
  • confirming the tax returns reflect at least 12 months of self-employment income, and
  • completing Fannie Mae’s Cash Flow Analysis (Form 1084) or any other type of cash flow analysis form that applies the same principles.

Analysis of Your Personal Income

Your lender will prepare a written evaluation of your personal income, including your business’s profit or loss, as reported on your income tax returns. This will help them determine how much stable and continuous income you have. It’s important to note this step isn’t required if you qualified using income you didn’t receive from self-employment. Examples include qualifying for the loan using a traditional W-2 salary or your retirement income.

Freddie Mac

Freddie Mac’s Selling Guide also provides an outline for lenders on how to assess the income for self-employed borrowers. Although there are differences, Freddie Mac and Fannie Mae use similar criteria when it comes to assessing self-employed borrowers.

Freddie Mac uses Loan Product Advisor, an enhanced automated underwriting system, to help ensure loans meet their eligibility requirements. Even if you aren’t using self-employed income to qualify for a Freddie Mac mortgage, they must enter your self-employed status into this software.

Verification of Income

Your lender will calculate your average monthly income based on a review of your complete federal individual income tax returns (Form 1040) including W-2s and K-1s and your complete business tax returns (Forms 1120, 1120S, and 1065).

Analysis of Your Personal Income

If you are self-employed but not using self-employment income to qualify, your lender will request to see your individual federal tax returns to see if there is a business loss that may have an impact on the stable monthly income used to qualify. If a business loss is reported on your individual tax returns, your lender may need to obtain additional tax returns to fully assess the impact of a business loss on income for qualifying.

Eligibility for Freddie Mac

In addition to these special requirements for self-employed borrowers, you also must meet Freddie Mac’s normal eligibility:

  • If you are a non-U.S. citizen who is lawfully living in the U.S. as a permanent or nonpermanent resident alien, you are eligible for a mortgage on the same terms as a U.S. citizen.
  • For a manually underwritten mortgage, your credit history must have at least three credit accounts (on or off your credit report) or four noncredit payment references. Noncredit payment references must have existed for at least 12 months.
  • You must have a valid Social Security number or Individual Taxpayer Identification Number.
  • Per Freddie Mac’s Minimum Indicator Score Requirements, credit scores must meet the following criteria:
    • For a single unit and primary residence with an LTV less than or equal to 75%, you must have a minimum credit score of 620.
    • For a single unit and primary residence with an LTV greater than 75%, you must have a minimum credit score of 660.
  • Your monthly housing expense-to-income ratio should be no greater than 25% to 28%.
  • Your monthly debt-to-income ratio should be no greater than 33% to 36% of your stable monthly income. If your debt-to-income ratio exceeds 45%, you won’t be eligible for a Freddie Mac loan.
  • The purchase of a single unit principal residence must have an LTV of no higher than 97%.
  • Freddie Mac now offers a 3% down payment option.

Requirements for Your Business

In addition to looking at your personal financial situation, Fannie Mae and Freddie Mac also are required to evaluate the financial health of your business.

Fannie Mae

Fannie Mae says you are self-employed if you have 25% or greater ownership interest in a business. In order to qualify, Fannie Mae also analyzes several components of your business.

Length of Self-Employment

Fannie Mae asks lenders to review a two-year history of your previous earnings. However, if you have a shorter period of self-employment (12 to 24 months), your most recent signed federal tax return must reflect your income. It’s important your past income was earned in a field similar to your current business. In these cases, the lender will give careful consideration to your level of experience and the amount of debt your business has acquired.

Analysis of Your Business Income

If you are relying on self-employed income to qualify for a mortgage, and you don’t meet the requirements to waive your business tax returns (as mentioned in the previous section), your lender will also prepare a written evaluation of your business income. Your lender will use their knowledge of your industry to help determine the long-term stability of your business.

The primary goal of this analysis is to:

  • consider the recurring nature of your business income, including identification of pass-through income that may require additional evaluation;
  • measure year-to-year trends for gross income, expenses, and taxable income for your business;
  • determine (on a yearly or interim basis) the percentage of gross income attributed to expenses and taxable income; and
  • determine a trend for the business based on the change in these percentages over time.

Your lender may use Fannie Mae’s Comparative Income Analysis or other methods to determine your business’s viability.

Use of Your Business’s Assets

If you are planning to use assets from your business for a down payment, closing costs, or financial reserves, your lender will need to perform a cash flow analysis to make sure this transaction won’t have a negative impact on your business. This may require additional documentation, like several months of recent business asset statements, to evaluate your cash flow needs over time.

Freddie Mac

Freddie Mac also characterizes self-employed borrowers as people who own at least 25% of a business. Your business can be a sole proprietorship, a partnership, an S corporation, or a corporation. You may notice several similarities when it comes to how Fannie Mae and Freddie Mac evaluate your business. However, there are some distinctions you should be aware of.

Length of Self-Employment

For Freddie Mac, the lender will be required to document a two-year history of your self-employment to ensure your income is stable. If your self-employment history is less than two years, the lender must evaluate your company’s products and services in the marketplace. They will also need to document your two-year history prior to self-employment to show you’re currently earning the same or a greater income in a similar occupation. The lender must consider your experience in the business before looking at your income, and your tax returns must show at least one year of self-employment income.

Analysis of Your Business Income

Your lender will analyze your tax returns and provide a written analysis of your self-employed income. Noncash items like depreciation, depletion, and amortization can be added back to your adjusted gross income. Documented nonrecurring losses and loss carryovers from previous tax years can also be added back to your adjusted gross income.

If you are using self-employment income to qualify, Freddie Mac requires lenders to analyze tax returns and provide a written analysis of your self-employed income. If your income has significantly increased or decreased, you will need to provide sufficient documentation to prove your income is stable. Additional tax returns may be needed if your self-employment income has fluctuated.

Freddie Mac recommends lenders be careful when including additional income you have drawn from your corporation, partnership, or S corporation as qualifying income. Your lender will need to confirm you have a legal right to that additional income. Your lender also needs to verify your percentage of ownership from a review of your business’s tax returns.

Location of Your Business

If you are moving to another region, your lender must consider your company’s service or products in the new marketplace before reviewing your income. You will need to document how your income will continue to be stable in a new location.

Use of Your Business’s Assets

If your business’s assets are used for a down payment, closing costs, financing costs, prepaid or escrows, and reserves, these assets must be verified and must be related to the business you own. The withdrawal of assets from a sole proprietorship, partnership, or corporation may have a negative impact on your business’s ability to continue operating. The impact of this transaction will be considered in your lender’s analysis of your self-employed income. You will need to provide documentation of cash flow analysis for your business using your individual and/or business tax returns. You can learn more about the required documentation here.

What Types of Properties Are Eligible for a Fannie or Freddie Mortgage?

When you are comparing mortgage options, it’s important to know which types of properties are eligible. Here are the basics to keep in mind as you are assessing each choice.

Fannie Mae

Fannie Mae is willing to purchase first-lien mortgages that are secured by residential properties for dwellings that consist of 1-4 units. However, there are some cases where the number of units may be restricted. The property must be located in the United States, Puerto Rico, the U.S. Virgin Islands, or Guam.

The property must be safe, sound, and structurally secure and must be adequately insured per Fannie Mae’s guidelines for property and flood insurance. It must be the best use of the property, must be readily accessible by roads that meet local standards, and must be served by local utilities. Lastly, the property must be suitable for year-round use.

Freddie Mac

Freddie Mac expects lenders to equally assess both a borrower’s eligibility and the adequacy of the property as collateral. Freddie Mac is willing to purchase mortgages secured by residential properties in urban, suburban, and rural market areas. The property must be residential, be an attached or detached dwelling unit(s) located on an individual lot.

The property must be safe, sound, and structurally secure and must be covered by property insurance that meets Freddie Mac’s hazard requirements. It must be the best use of the property, have legal access, and have utilities and mechanical systems that meet local standards. It must be suitable for year-round use and not be subject to a pending legal proceeding.

Where to Go if Fannie and Freddie Reject You

If you don’t qualify for a mortgage backed by Fannie Mae or Freddie Mac, there are a number of private lenders worth exploring. These are considered nontraditional lenders. Some of the more reputable ones include SoFi, Quicken Loans, and PenFed, among many others. Additionally, you may want to reach out to major banks to learn about their nonconforming product options.

SoFi

SoFi’s unique proprietary underwriting uses free cash flow as the primary criterion in determining your eligibility. They also look at a history of financial responsibility and professional responsibility. For qualified borrowers, they offer mortgages with 10% down payments and no mortgage insurance for their 15-year and 30-year mortgage products. They also offer a 30-year 7/1 ARM. This is a hybrid mortgage that begins with seven years at a fixed rate, and changes every year after that.

Interest rates depend on your qualifications and the overall mortgage rate environment, but typically fall in the low 3% to low 5% range for both 15-year and 30-year mortgages.

SoFi estimates 10% of their borrowers are self-employed, so they are well equipped to assess each individual’s unique financial position. They cite their unique underwriting model and commitment to personal service as creating a friendly environment for self-employed borrowers. Additionally, SoFi doesn’t impose restrictions or rate adjustments for self-employed borrowers.

Quicken Loans

According to Quicken Loans, self-employed borrowers are eligible for all the same loans and terms as traditionally employed W-2 borrowers. The key difference is self-employed borrowers need to provide tax returns documenting their business’s income. They like to see two full years of tax returns with stable to increasing income. However, there are some situations on conventional loans that only require one year of tax returns if your business has existed for 5 or more years.

Quicken Loans points out some self-employed borrowers tend to keep all of their assets in business accounts. This can complicate documentation requirements when funds for closing are not from personal accounts. In these types of situations, they usually require business tax returns to review cash flow. This ensures the funds being used to buy a home won’t jeopardize the health of the company.

Conventional loans over 80% LTV require mortgage insurance, while FHA and VA loans have insurance built into the program, regardless of LTV.

Here are their general credit and debt-to-income guidelines for each type of loan:

  • Conventional – minimum FICO 620 and maximum DTI 45%.
  • FHA and VA – minimum FICO varies but is typically 580. DTIs will vary by lender but typically are permitted to 50%.
  • Jumbo – minimum FICO is typically 700 and the maximum DTI is typically 43%.

When it comes to eligibility, there is no difference between self-employed and traditionally employed borrowers for credit score, loan-to-value, or debt-to-income ratios. Quicken Loans also noted self-employment isn’t a deciding factor for interest rates. However, it’s important to know you probably won’t be approved with an income decline of more than 25%.

PenFed

PenFed, a national credit union headquartered in Alexandria, VA, verifies income of self-employed borrowers through copies of personal and business federal tax returns from the past two years. You are required to provide complete tax returns, including all schedules and supporting documents. In some cases, you may also need to provide corporate tax returns for companies you have significant ownership in.

PenFed reviews and averages your net income from self-employment that is reported on your tax returns to determine your income that can be used to qualify. If your income hasn’t been reported on your tax returns, it won’t be considered. Usually PenFed requires a one-year and sometimes a full two-year history of self-employment to prove your income is stable.

Nonconforming Loans from Traditional Lenders

It may not be the first option that springs to mind, but some banks do originate loans. These loans tend to be nonconforming and have higher interest rates.

For example, Chase offers jumbo mortgages for loans between $417,000 and $3 million. These are both fixed-rate and ARM loans for up to 30-year terms.

For these types of products, Chase typically will only work with existing customers, depending on their assets. If you don’t have a prior relationship with the bank, you won’t be eligible. If you’re interested in a nonconforming product, Chase recommends starting by applying for pre-qualification here.

In order to be approved for these types of products, you must meet the following requirements:

  • Credit score – 680 minimum
  • Down payment – 15% without mortgage insurance
  • Reserve balance – 18 to 24 months
  • Debt-to-income ratio – no more than 45%

When it comes to interest rates, Chase factors in all the above criteria. However, the larger the loan, the better rates are available. They prefer to use your pre-qualification information as a starting point and work through interest rate options from there.

How to Comparison Shop for a Mortgage Loan

Did you know nearly half of mortgage borrowers don’t comparison shop? A recent Consumer Financial Protection Bureau (CFPB) study found 77% of borrowers only apply with one lender or broker. These same borrowers were quick to rely on salespeople rather than doing their own research.

As we have outlined, mortgages are available through a variety of types of lenders. Because the process of qualifying for a mortgage when you are self-employed requires additional legwork, and may be more expensive, it’s even more important to shop around.

The CFPB’s interest rates tool is a great place to start. By plugging in your credit score, state, home price, and down payment percentage, you can see a graph of lenders and interest rates being offered in your region. Although this tool doesn’t state which lenders are offering these rates, you can Google the rate + your state + mortgage to find out exactly where it is being offered.

Remember, lenders want your business, and knowing what else is available will only give you more leverage. Like any other mortgage, you will want to ask about points, mortgage insurance, and closing costs. You can compare each lender’s Loan Estimates before making a final decision.

For conforming loans, backed by Fannie Mae or Freddie Mac, you can try the above tactic for shopping around. You can also try local banks and credit unions. For private lenders like SoFi, Quicken Loans, or PenFed, you are better off reaching out to these companies directly. For nonconforming loans from traditional lenders, it’s easiest to start with banks you have an existing relationship with.

Here is an example to help you determine what is right for you:

Conforming Loan from Fannie Mae or Freddie Mac

This example is for the state of Tennessee:

Credit score – 680-699
Home price – $200,000
Down payment – $6,000 (3%)
Loan amount – $194,000
Rate type – fixed
Loan term – 30 years
Interest rates – 4%-4.625%
Total cost for interest rates at 4% – $333,360
Total cost for interest rates at 4.625% – $358,031

Nonconforming Loan from SoFi

Credit score – 680-699
Home price – $200,000
Down payment – $20,000 (10%)
Loan amount – $180,000
Rate type – fixed
Loan term – 30 years
Interest rates – 3%-5%
Total cost for interest rates at 3% – $273,240
Total cost for interest rates at 5% – $347,860

Keep in mind credit score, home price, and down payment will all affect your interest rates. You should ask about points, mortgage insurance, and closing costs, which are not included in these examples.

Start Preparing Now

The entire process may feel daunting, but there are a number of things you can start doing now in order to put your best financial foot forward:

  • Stay Organized Keeping pristine records of your company’s profits and/or losses is a smart practice whether you are applying for a mortgage or not. Staying on top of paperwork from the beginning will be helpful for both you and your loan officer.
  • Avoid Co-Mingling Funds One of the biggest mistakes self-employed individuals make is co-mingling personal and business funds. Lenders may want to see separate statements for your credit card, checking, and savings accounts. If you are feeling overwhelmed by the process, you can start by comparing our favorites.
  • Improve Your Credit Score A recent Zillow study found self-employed borrowers are twice as likely to have a FICO score below 680. It’s never too soon to start making improvements. Start by pulling free reports from all three credit bureaus — Experian, Equifax, and TransUnion — once per year from AnnualCreditReport.com. Once you are armed with your current scores, you can take action with our credit score guide.
  • Pay Down Debt Regardless of your employment status, it is nearly impossible to be approved for a mortgage if your debt-to-income ratio is above 45%. In most cases, a maximum debt-to-income ratio of 33%-36% is preferred. If you are above that range, paying down debt will improve your chances of being approved.
  • Save a Larger Down Payment Offering a larger down payment may provide additional leverage when it comes to eligibility.
  • Build Up Your Cash Reserves Having a sizable emergency fund can signal to lenders you are prepared for the inevitable dips in income self-employed borrowers face. Help ease your bank’s nerves about irregular income by having extra cash on hand.
  • Carefully Evaluate Tax Deductions If you are planning to purchase a home within the next few years, it’s critical to begin weighing the pros and cons of your business’s tax deductions now. It may be worth writing off fewer business expenses in order to qualify for a less expensive conforming mortgage. This step is worth discussing with a trusted tax professional. For more information on self-employed taxes, you can visit the Self-Employed Individuals Tax Center.

Final Thoughts

When it comes to homeownership, there is a lot to think about, and being approved for a mortgage is just the beginning. The stress of buying a home is only elevated for self-employed borrowers, who face additional hurdles each step of the way. However, the process doesn’t have to be overwhelming. By crafting a game plan as early as possible, and sticking with it, you will have the best possible chance of being approved.

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Life Events

How Do I Save for Retirement if I am Self-Employed?

Advertiser Disclosure

The editorial content on this page is not provided by any financial institution and has not been reviewed, approved or otherwise endorsed by any of these entities.

Save for Retirement

When you’re self-employed, you have the freedom to create your company vision, define your work hours, design your physical (or virtual) office space, and handpick both your clients and employees. You make all the decisions and assume responsibility… for everything… including saving for your retirement.

The U.S. workforce has seen a dramatic shift from employer-funded pensions to employee-funded retirement plans. Gone are the days of working for a company for 40 years and retiring to a hammock as you collect your monthly pension check.

Today, the onus is on us to contribute to a company-sponsored retirement plan like a 401(k). But what if you run the company?

Anyone who has started his or her own business knows it’s not all rainbows and butterflies. It’s tough to juggle all the responsibilities that come with managing and expanding the business. Revenues ebb and flow, and so does your personal income.

When you’re self-employed, you typically don’t think of opening a retirement account early on. You focus on keeping the doors open and growing revenues. The typical evolution is from survive to prosper.

But somewhere along the journey you need to decide how to save for your future. You may want to kick back and enjoy a traditional retirement one day, or you may simply want the financial freedom to choose how hard you work later in life. Either way, you need to start cultivating the income that will support your life at that time. And the earlier you start, the better off you’ll be.

Business owners should be saving for retirement just like everyone else, but there are additional variables to consider. That means you have options. But with more options comes more complication. Start by focusing on these three areas to determine how you can plan for retirement if you’re self-employed. 

How Much Can You Save?

The first thing to consider is how much money you can actually save. If you’re breaking even in your business, saving for retirement is not an option.

Once you do break into the black, determining how much you can actually save is the first step. If you’re just starting out and saving less than $5,500 (or $6,500 for those over age 50), a traditional IRA is often the easiest (and cheapest) option.

Simply find an investment company like Fidelity or Vanguard that offers a diversified group of low-cost investments (i.e.., mutual funds or exchange traded funds) and open an account in minutes.

Want to save more than that but know you won’t exceed $12,500 ($15,500 for those over age 50)? A SIMPLE IRA may be the best way to go. This is also a relatively simple option with a higher limit than the traditional IRA.

If you’re looking to really sock away some cash, a SEP IRA could be the answer. You can contribute up to 25% of your net income to a maximum of $53,000 in 2015 and 2016 (up to $59,000 for anyone over age 50).

Depending on your business, you may also want to look into a 401(k). You can contribute up to the same amount as you can put away in a SEP IRA. There are a few major differences between these two accounts, and we’ll discuss some of those below.

Do You Have Employees?

Although the contribution limit is important, there are other factors to consider. The IRS regulations for each of the above account types will ultimately determine which one is best for you.

One of those rules has to do with how many employees you have. For the solo practitioner, this is not a problem and you can zero in on an account based on the amount you’d like to save. But if you run a bigger business, the number of employees becomes a major factor in how you can plan for retirement.

Many retirement accounts require the business to contribute directly to employee accounts. With a SEP IRA, the employer must contribute the same percentage of income he or she contributes to a personal account for each employee. This can get expensive with multiple employees. Here’s an example:

Let’s say you want to contribute 15% of your income to a SEP IRA. For each eligible employee, you have to contribute the same 15%. That means if eligible employee #1 makes $50,000, you’re on the hook for contributing $7,500 to that employee’s SEP IRA account. The same goes for all other employees that meet the eligibility requirements. (See these IRS SEP Plan FAQs for employee eligibility requirements.)

A SIMPLE IRA has less of an employer contribution requirement. At the risk of oversimplifying the rules, you can choose to contribute a flat 2% for each employee or offer to match up to 100% of the employee’s contribution up to 3% of salary. If you know that every employee will take advantage of the full match, the 2% option may be your best option. (See the IRS SIMPLE Plan FAQs for employee eligibility requirements.

This is not the case for a 401(k) plan, as an employer contribution is elective with this type of account. The caveat is that 401(k) plans have different funding rules and tend to be more expensive based on IRS administrative requirements.

For example, with 401(k) plans with a total balance of $250,000 or more, the business owner is required to file a Form 5500 with the IRS. (See United States Department of Labor for more details on small business 401(k) plans.)

Do You Want to Defer Income for Tax Purposes?

A third factor to consider as you choose a retirement plan for self-employed individuals is taxes. If you are a business owner, saving money on taxes probably sounds great, and the right retirement plan can help.

All of the above-mentioned plans offer a tax deferral benefit. In other words, you do not have to pay personal income taxes on money deposited in one of these accounts. Unfortunately, you still have to pay the federal self-employment tax of 15.3% (2015) on any contributions to your retirement plan.

Depending on your tax bracket, this may or may not benefit you in the long run. If you’re in a higher tax bracket now than you will be in retirement, it may be wise to defer those taxes until later.

But if you’re in a lower tax bracket now than you expect to be later (which is usually the case for most early-stage business owners), then you might consider a Roth account, where you contribute after-tax money.

This money then grows tax-deferred and comes out tax-free in retirement if all guidelines are followed. The Roth option is not available for SIMPLE and SEP plans.

If you’re self-employed, you have plenty of options when it comes to planning for retirement. These choices bring with them many questions that you must ask yourself before you can decide which retirement plan is right for you.

Not only must you consider how things look today, but you also need to consider how you expect your business to grow tomorrow. The good news is that most choices are not irreversible. This means that if you open one type of retirement account now, you do have the ability to stop contributing to it and choose another one in the future.

The most important thing is to start saving. When you start making money in your business, use one of these options to help you plan for retirement. Even business owners who love their job need to plan for a day when they may not be making money.

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Best of, Life Events, Reviews

7 Best Online Tax Software for the Self-Employed

Advertiser Disclosure

The editorial content on this page is not provided by any financial institution and has not been reviewed, approved or otherwise endorsed by any of these entities.

Tax return check

Updated 3/23/16

When you’re self-employed, filing taxes can be a nightmare. In lieu of W-2s, multiple 1099s start trickling into your mailbox. If you’re a sole proprietorship or solo LLC, you’ll have to tackle Schedule C. If you run an LLC with your spouse, depending on your business structure, and filing status, you may be looking at filling out Schedule K-1.

You have deductions to take, and credits to find. Tax preparation software should make the process easier, guiding you through each step as it sorts out the complicated jargon, and identifies the various additional forms you’ll be required to file.

Unfortunately, when you start venturing into all those additional forms, many tax software programs will start charging you additional fees, or, worse yet, not have the forms or support available to help you meet your tax-filing needs.

With those unique needs in mind, we’ve compiled a list of online tax preparation products that support the self-employed. Every product will have its pros and cons; your decision will likely boil down to how much support you need versus how much you’re willing to spend. Listed in ascending order according to price, these prices are subject to change throughout the tax season, especially for bigger brands.

For the sake of simplicity, ‘Price’ refers to the upfront cost (which includes filing your Federal return), and we make note if the State return is an additional charge as well as any alternative pricing options. The below tax preparation software is ranked based on price.

1. OnLine Taxes

Price: Free
State Return: $9.95
Alternative Pricing Structure: Pay $7.95 for the Premium version with live chat, phone support, audit support, year-over-year comparison, and get your state return for $7.95.

Pros

  • This is the cheapest option that made the cut!
  • The free package includes email as the only option for customer support, but paying the small fee to upgrade to premium gives you access to live chat and phone support.
  • Basic software that gets the job done, especially for those who feel confident filing with limited guidance.

Cons

  • Additional fee of $29.95 for paying for OnLine Taxes’ services through your refund instead of upfront.
  • No app available.
  • This program is no frills. You input your data into forms through the interview process, and your information will be applied to your returns for you to review. While customer support is available, you will not get a lot of help from the product itself.

Go to site

2. FreeTaxUSA

Price: Free
State Return: $12.95
Alternative Pricing Structure: Pay $5.95 for the Deluxe version with audit support, live chat customer support options, and unlimited amended returns. State returns still priced at $12.95

Pros

  • Incredibly affordable.
  • This software takes you through the entire process, starting with an interview that is built to help you find write-offs, and including prompts for various deductions and credits.
  • Speedy reply time for email support. Guarantee of 2 days, but most people report getting an answer within an hour.

Cons

  • Customer service options are restricted to email. If you purchase the Deluxe package, you will also have access to live chat, but no phone-in help is available.
  • No app available.
  • No fancy calculators.

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3. TaxACT Premium

Price: $29.99
State Return: $19.99
Alternate Pricing Structure: Pay $29.99 for the Ultimate bundle package, and get your state return for free.

Pros

  • Quite possibly the best value on our list, especially if you go for the Ultimate.
  • Customer service is available through email and phone.
  • As you file, you’ll be inundated with tips and explanations to help you through the process.

Cons

  • No app available for filing current year’s taxes at this level.
  • No audit support outside a collection of online articles.

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4. OnePriceTaxes.com Premium

Price: $39.95
State Return: Free (included in price)

Pros

  • What you see is what you get; there are no hidden fees. If you order the $39.95 Premium package, you won’t pay anymore for add-ons or filing fees.
  • Live chat customer support, though it is often deferred to email that is answered within 24 hours. As more people start filing, that wait time may become longer.
  • While there is no interview, the program does hold your hand through the filing process, offering explanations along the way, and offering deduction tips to maximize any refund.

Cons

  • No phone support.
  • No app available.
  • No audit support.
  • Limited guidance on additional forms such as Schedule C. While these forms are available, the instruction is not there, and questions will have to be filed through customer support.

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5. 1040.com Premium

Price: $39.95
State Return: $19.95

Pros

  • Customer service available through live chat, though it is typically deferred to email.
  • Mobile capabilities, but no app to actually file your return.
  • Guidance through the filing process, with links to applicable articles on their robust blog.

Cons

  • No phone support available. Customer service tends to rank lack luster when compared to other programs.
  • No filing app available, though you can file via mobile.
  • No audit support.
  • Additional fees may apply. For example, if you want to pay for 1040.com services out of your refund, you’ll have to pay extra.

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6. H&R Block Premium

Price: $74.99
State Return: $39.99

Pros

  • Customer support available via email, live chat, and phone.
  • Live, in-person audit support.
  • Detailed guidance throughout the filing process.

Cons

  • Users report difficulty navigating when an error is found.
  • You may be subject to some additional fees, especially if you opt to receive a refund on MasterCard’s Emerald card.
  • App is available, though it is difficult to use and gets poor ratings.

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7. TurboTax Home & Business

Price: $79.99
State Return: $39.99

Pros

  • Automatic import of W-2 and 1099 data from participating employers.
  • During the 2014 tax season, TurboTax users were up in arms as they were charged extra fees to file additional forms like Schedule C, or denied the capability to do so. TurboTax heard the uproar, and has reverted to old functionalities including these forms for the 2015 tax year.
  • Help is available on-screen with a live agent who can see your screen as you ask your question. Additional help is available via forums, where questions may be answered by TurboTax or fellow users.
  • Comprehensive app.

Cons

  • TurboTax has a solid product, but has been raising their prices year after year. This is the most expensive option on our list.
  • If you want to pay for TurboTax out of your refund, you may be charged a processing fee. If you want TurboTax MAX, which includes audit assistance, tax identity restoration, and limited wait times when you call in for help, you will have to pay an additional fee, as well.

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While price doesn’t necessarily indicate a superior product on our list, those who feel more comfortable with tax terminology and procedures are likely to find their best fit near the top amongst the cheaper options. Those who need intense assistance may wish to pay more for products with advanced features located at the bottom of the list.

When you’re self-employed, tax season can be overwhelming. The good news is that there’s no shortage of options to help you meet your filing needs.

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Life Events, Strategies to Save

7 Ways to Minimize Taxes on Your Side Income

Advertiser Disclosure

The editorial content on this page is not provided by any financial institution and has not been reviewed, approved or otherwise endorsed by any of these entities.

Tax return check

So you’ve stepped up you game and started a side hustle, huh? Good for you! Finding ways to earn more money is one of the best ways to reach your biggest financial goals even faster.

There is one minor annoyance about earning more money, and that’s taxes. The more you earn, the more you’re taxed. And no one likes taxes.

So in this post we’re going to walk through seven ways you can minimize the tax impact of your side hustle, leaving more of that extra money available for things you actually care about.

But before we do that, I want to remind you of one thing: you only owe more taxes because you have more income. And more income is a good thing!

Which is simply to say that while the tips here will be useful, you shouldn’t be afraid of taxes. In fact, you should welcome a bigger tax bill because it means you’re making more money, and you should never make a decision for tax reasons alone.

So keep your focus on building that side business and making more money. Use the tips below only as a way to minimize taxes keep more of that money for yourself.

Quick disclaimer: I am not an accountant. These are things I’ve picked up both from my experience as a financial planner and as a small business owner, but you should always consult with a professional.

1. Work with an Accountant

Yes, working with an accountant will cost you money up front (not tax money though!). Which is why many people avoid it.

But there are two big reasons why an accountant will absolutely save you money over the long-term:

 

  1. An accountant will help you avoid mistakes, which will both save you money and save you from being on the IRS’ bad side. And trust me, you really don’t want to be on the IRS’ bad side.
  2. A good accountant will know exactly how to maximize the tax savings available to you, based on your specific circumstances. You won’t be able to find that personalized expertise anywhere else.

A good accountant is like a good investment. You have to put money in, but you can expect to get much more out.

2. Save for Retirement

Hopefully some of that extra money you’re earning can go towards enjoying life. But there are some pretty sweet tax breaks to be found in saving some of it for the future.

Contributing extra money to a 401(k) or Traditional IRA will provide an immediate tax deduction. Contributing to a Roth IRA won’t save you money today, but later on you’ll be able to withdraw the money tax-free.

There are even a number of dedicated self-employed retirement accounts you could open to save even more.

Increasing your retirement contributions allows you to save for the future and save on taxes today. Pretty sweet deal!

3. Contribute to a Health Savings Account

If you’re eligible for a health savings account, there may not be a better way to minimize your tax bill.

An HSA is one of the only accounts that offers a TRIPLE tax-break. Here’s how it works:

  1. Contributions are tax-deductible (like a 401(k) or Traditional IRA).
  2. Money grows tax-free inside the account (like any retirement account).
  3. Withdrawals are tax-free when used for medical expenses (like a Roth IRA).

HSAs are a great way to get tax-free medical care. And since you can invest within a health savings account just like you would within an IRA, they’re also quite possibly the best retirement account out there.

4. Deduct Business Expenses

As long as you’re really running a business (and not a hobby), any money you spend on the business can be deducted at tax time, which directly lowers your tax bill.

Now, especially when you’re running a side business, it can sometimes be a little unclear which expenses are 100% business (and therefore deductible) and which are at least a little bit personal (and therefore maybe not 100% or even 1% deductible). Here are a few guidelines that will help you keep this line as clear as possible:

  1. Hire an accountant (see above). They’re the experts who can answer all your specific questions here.
  2. Have a separate business checking account. Run all business activity through it.
  3. Have a separate business credit card (not necessary if you’re fine using a debit card).
  4. Keep receipts for everything. I store mine in Google Drive so they’re easy to access and I don’t have paper everywhere.
  5. Use some kind of accounting software. Wave is free. Quickbooks Online is not free but is very popular and seems to be known by most accountants. Xero is another one I’ve heard good things about.

Keep in mind that even a deductible expense costs you money. The tax savings means it costs a little less than if it weren’t deductible, but you are never getting anything for free. In other words, spending money just for the tax deduction means you’re losing money.

5. Consider a Home Office Deduction

There are a number of requirements you have to meet in order to claim a home office deduction, including using the space exclusively for business purposes. Any space that mixes in personal use doesn’t count.

But if you can meet those requirements, this can be a pretty valuable deduction, allowing you deduct a percentage of your rent, mortgage, and utility bills as a business expense.

6. Track Internet and Phone Use

If you’re using your personal phone and Internet service for business purposes, you may be able to deduct a portion of those bills as a business expense.

Again, just be sure to keep good records of when you’re using those things for business as opposed to personal reasons. The better your documentation, the less likely you are to have trouble with the IRS.

7. Track Your Mileage

Even when using your personal car, you can deduct the cost of trips you make for business purposes. This doesn’t include your regular commute to and from home, but it could include trips for things like seeing clients (more on that here).

MileIQ is an app that can help you track the miles driven specifically for business purposes.

The Lesson: Track Everything

Aside from the simple (but powerful) move of contributing more to dedicated retirement accounts, the main lessons here are that:

  1. There are ways to reduce the tax burden of your side income.
  2. You’ll be in a better position to take advantage of them if you keep good records.

So go out, earn money, and track everything. Your wallet will thank you come tax time!

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Life Events, Mortgage

How to Get a Mortgage When You’re Self-Employed

Advertiser Disclosure

The editorial content on this page is not provided by any financial institution and has not been reviewed, approved or otherwise endorsed by any of these entities.

Purchase agreement for house

Self-employment has a lot of perks. Trading the long commutes, cubicles, and endless meetings for a more flexible, location independent lifestyle can feel like a major upgrade. And who wouldn’t love swapping business casual for pajamas?

It’s been reported half to two-thirds of Millennials find the idea of entrepreneurship very attractive. And can we blame them? They’ve witnessed their parents’ job instability, decreasing company loyalty, and the lingering wounds of The Great Recession. Working for yourself seems like a no-brainer when considering these discouraging realities. But self-employment isn’t always so simple.

Despite the many benefits, self-employed workers often struggle to secure a mortgage due to strict regulations, more tax deductions, higher debt-to-income ratios, and lower credit scores.

Scrutiny From Fannie and Freddie

Qualifying for a mortgage is never easy, but the underwriting process is even more complicated for America’s 15 million self-employed workers. It becomes an even bigger headache when it involves government-backed mortgage giants Fannie Mae and Freddie Mac.

Fannie Mae requires lenders to analyze the stability of a borrower’s income, their type of the business and where it’s located, the demand for their products and services, the business’ overall financial health, and its projected revenue for the future. Also, lenders must review a two-year history of the borrower’s earnings.

Freddie Mac follows a similar process to verify a self-employed borrower’s income. This includes analyzing the borrower’s experience in their industry, identifying reasons for significant increases or decreases in income, and even proof the business exists from a third party.

The Consumer Financial Protection Bureau responded to the financial crisis by creating the ability-to-repay rule. Its purpose? To ensure borrowers can actually afford their loans. A qualified mortgage can only be approved if a borrower has met the ability-to-repay guidelines. This type of loan protects borrowers from predatory lending practices and lenders from potential lawsuits if the borrower has trouble repaying. Lenders like qualified mortgages because they can be resold to Fannie Mae and Freddie Mac, freeing up cash for additional loans.

[Learn more about Fannie Mae’s Frequently Asked Underwriting Questions here.]

How Tax Deductions Can Hurt

Being self-employed can be incredibly expensive and the massive tax burden only adds to the challenge. Fortunately, many workers can reduce their liabilities by lowering their taxable income. How is this accomplished? Tax deductions. Deductions can include a variety of business expenses including home office, transportation, equipment, education, and more. Although this may amount to significant annual savings, it may cause difficulties when applying for a mortgage.

Did you know lenders evaluate the income of salaried or hourly workers differently than self-employed? Traditional workers are evaluated on gross income, but self-employed borrowers have to report their net income on mortgage applications.

Self-employed workers typically claim as many deductions as possible and these deductions significantly lower the worker’s taxable income. This creates an incomplete picture of the borrower’s past and future earning ability. By claiming these tax deductions, the borrower may be unknowingly creating a roadblock on the path to a mortgage.

Debt-To-Income Ratio is Critical

A lower net income impacts the most important factor in being qualified for a mortgage – the borrower’s debt-to-income ratio. The self-employed worker’s debt-to-income ratio is calculated by averaging net income from their two most recent tax returns and the year-to-date income and expenses. A borrower’s debt-to-income ratio can be no higher than 43% to be approved for a qualified mortgage.

If you’re planning to buy a home within the next two years, you may want to consider reducing or eliminating tax deductions until after you’ve been approved for a mortgage. A certified public accountant can help you weigh the pros and cons. Also, they can help reduce net income by amending a tax return.

Some lenders have more experience underwriting mortgages for the self-employed. Finding a knowledgeable loan officer who’s able to analyze tax returns and the business’ financial statements can make a huge difference. Remember, a low debt-to-income ratio may help create wiggle room for other challenging areas of the underwriting process.

Self-Employed Workers Have Lower Credit Scores

Most of us understand the importance of a strong credit score, but many are confused about how it affects the mortgage underwriting process.

A recent Zillow study found that despite earning higher incomes, self-employed borrowers receive 40 percent fewer loan quotes from lenders. Why? Lower credit scores. The study cites self-employed borrowers are twice as likely to have a credit score below 680. This less than optimal credit score coupled with massive amounts of paperwork make self-employed borrowers less attractive to lenders.

A lower credit score can also make a mortgage more expensive. The best mortgage rates and terms are offered to borrowers with a FICO score of 740 or higher. So, what’s the best method of defense? Advanced preparation. Arm yourself with knowledge by reviewing your FICO credit score, disputing any errors you find, and then researching the lowest interest rates.

Think Creatively To Accomplish Your Goal

If you’re still struggling to be approved, you may need to think creatively to meet your goal.

How much home do you really need? Evaluating needs vs. wants is important and may lead to a property you’re more likely to qualify for. Avoid properties with mandatory homeowner association fees (HOA) because this expense gets lumped into the overall mortgage calculation.

How much have you saved for a down payment? Parting with the extra cash may make you cringe, but a larger sum reduces the size of the loan and may make it easier to qualify for.

If you’re still having trouble, there’s nothing wrong with finding a trusted partner to cosign the loan. Together, your combined income may close the qualifying debt-to-income ratio gap and earn approval on your must-have loan.

Securing a mortgage when you’re self-employed isn’t easy, but it’s possible. Preparing yourself for the challenges of Fannie and Freddie’s strict regulations, the disadvantages of tax deductions, higher debt-to-income ratios, and lower credit scores will give you the best possible chance of being approved for a mortgage and moving into your new home.

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