Denied a Home Loan Because of Writeoffs (Deductions)

My fiancee got deined by two banks because his 2008 taxes had alot of writeoffs (deductions). What should we do next about trying to obtain a loan for a home?

2 Answers

When a taxpayer deducts items, he or she is representing to the IRS that his or her net effective income for the year was materially reduced. Mortgage lenders will generally use the reduced income, after most deductions, as it is assumed that this is the most accurate representation of a person's yearly earnings.

There are some notable exceptions to this rule, however . . . some deductions do NOT affect mortgage qualification - if your fiance's taxes are particularly complex (such as some one who is partially self employed, or managing multiple streams of income) . . . his income may be calculated differently (or frankly, miscalculated) by different lenders.  Make certain that the banks denying the loan give you an exact breakdown of how the income was calculated on a monthly basis so that when asking another source you can immediately identify any differences

Here is a form often used by fannie mae lenders to get a sense of income, it might help you ballpark? If his credit is solid and his debt load is under control, the income he is declaring should qualify for a mortgage of some amount - perhaps less than that for which you originally applied? Did either bank offer him a reduced loan amount? As a VERY simplistic rule, he should be able to spend about 35% of his calculated monthly income on a mortgage (with no more than 40-50% on all debt including the mortgage). Whether this is $500 or $50,000, he should qualify to borrow in some capacity.

Additionally, since you suggest that you are not married yet and are probably not filing joint returns, would it be possible for you to apply for the loan on your own? If his manner of filing taxes is making it difficult to justify his income, you may be able to obtain the money based on your own merits (credit, income, debts) and simply add his name to the title of the home.

Finally, if he feels that he makes more than the amount for which he is being given credit, he should have a frank conversation with his accountant or tax preparer - it may be possible to delay certain deductions, or to reflect his income in a way that more accurately represents his monthly cash flow in the years to come. (He may even be able to amend his current and past returns, under careful guidance). In the next year or two, he may pay more in taxes, but it will be important to file with the mortgage qualification in mind, reducing or eliminating "grey area" or "optional" deductions.

Ultimately you have to be able to verify enough income to prove that you will be able to repay the loan. If the loan is being declined due to low income it is because he is writing off too much of his income, probably to try to avoid taxes. There is an old lending adage that you can beat the bank, or you can beat the IRS, but you can't beat them both. If too much income is being written off to obtain a loan, and all of his deductions are legitimate, he should either look to purchase a smaller home that he qualifies for, or to find a way to show more income (earn more, or lose some of the deductions).

In the end, if he is showing a number of deductions I would assume he is either self-employed or on commission as those tend to be the types of income that allow the greatest number of deductions. If that is the case, be aware that you will have to provide 2 years of full taxes returns and the income from these tax returns will be averaged. That being said, even if he lowers his deductions this year, in order to raise his income on his 2009 tax returns, they will still need to average in the lower income from 2008 and will use the 2 year average to qualify the loan. It also may be possible to obtain a loan sooner by adding an additional borrower to the loan who can then use their income as well to qualify. If you are intending to live in the home as well you could be added to the loan application. If that won't work it may be possible to add a parent on an FHA loan as a "non-occupant co-borrower". This means that they don't need to live in the property, but can help your fiancee qualify for the loan.