Writing Off Income vs Qualifying

TIPS & TRICKS
How 8.75% Can Be Better Than 7%

📉 Your CPA/Tax Preparer's Goal: Minimize your tax burden. For rental property owners, this often results in showing zero or negative income due to expenses or accelerated depreciation. While this is beneficial for taxes, it can pose challenges during loan qualification for agency loans (VA, FHA, USDA, Conventional).

📊 Impact on Loan Qualification: Agency loans are based on your reported income and personal ability to repay. Tax returns play a crucial role in this evaluation. Writing off too much income can make it appear as if you can't afford the house you desire, even if you have the actual income.

👩‍💼 Self-Employed Individuals: Self-employed individuals often face this issue. By writing off significant expenses and showing minimal income, they may struggle to qualify for agency loans. Instead, they might need to consider non-agency (non-QM) loans, which don't rely on tax returns for income calculation.

Example: Standard Loan vs. Non-QM Loan

Let's compare a standard loan at 7% with a non-QM loan at 8.75%*, assuming a $150,000 annual income earner and standard single income tax brackets. We'll also assume a combined $60,000 of income was written off on Schedule E. This is an Extreme case, but it is still plausible.

Loan Details

Tax Savings Calculation

1. Annual Income: $150,000

2. Income After Write-Offs: $90,000 ($150,000 - $60,000)

3. Tax Savings Calculation:

   • Tax bracket for $150,000 (Single): 24%

   • Tax on $150,000: $24,000 (simplified for example)

   • Tax on $90,000: $13,200 (simplified for example)

   • Annual Tax Savings: $10,800 ($24,000 - $13,200)

   • Monthly Tax Savings: $900

Net Monthly Effect

🔍 Analysis:

• The non-QM loan's monthly payment is $610 higher than the standard loan.

• However, the $10,800 annual tax savings from writing off income equates to $900 per month.

• Result: Net Positive $290 Monthly. The tax savings more than compensate for the higher monthly payment of the non-QM loan, making it a better financial decision overall.

Conclusion:

While non-QM loans have higher interest rates and monthly payments, the tax savings from writing off income can outweigh these costs. Always weigh the benefits and costs with your tax and mortgage professional to make the best decision for your situation.

⚠️ Reality Check:

This strategy is often a welcome surprise for borrowers who have already spent years filing taxes with massive write-offs to limit tax liability.

They often think they wouldn’t be able to qualify otherwise. These non-QM loans mentioned in this article often require the property to be an investment and/or require a minimum of 20% down.

Please be sure to crunch the numbers with a professional to ensure you’re not simply writing off income because it seems like the smart thing to do. More often than not, the tax savings are LESS than the interest and capital costs associated with a non-QM loan compared to a traditional one.

Disclaimers:

• This information is for educational purposes only and is not intended as tax or financial advice.

• Individual circumstances vary, and it is important to consult with a qualified tax professional or CPA to understand how these scenarios apply to your specific situation.

• *All loans are assuming 30-year fixed loans, 780 FICO, and 60% Loan to Value.