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Updated on Wednesday, January 30, 2019
When most people think of getting a loan, especially a mortgage, they imagine filling out scads of paperwork and providing piles of documentation like tax returns, pay stubs and bank statements. It’s hard to imagine there was a time when someone could get a mortgage without showing any real proof of their income.
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But leading up to the financial crisis of 2007-09, that often was the case. Many borrowers took out stated income loans, also called income statement loans, which were home loans that didn’t require proof or verification of income.
In the years just before the bottom dropped out, these mortgages were being abused by borrowers and lenders alike. In many cases, borrowers were talked into loans they had no business taking, said Scott Astrada, director of federal advocacy at the Center for Responsible Lending.
Today, it’s illegal to obtain a home loan for an owner-occupied property without providing some documentation to show you can afford the loan.
What is a stated income loan?
Years ago, a stated income loan did not require borrowers to provide proof of their income (like tax returns or bank statements) beyond the applicant’s submitting a form stating their income. Initially, these loans were popular with self-employed people or people who depended on a lot of their income from tips or otherwise had trouble documenting all of their income.
But as stated income loans began to spread to a wider audience, including people who had no real means to pay off the loan, the trouble started. Income statement loans became known as “liar loans,” Astrada said, because they opened up the likelihood of a borrower miscalculating their ability to pay back the loan. That’s what underwriting is there to figure out, he added.
“So you’re really kind of putting the onus on the borrower to make a completely accurate assessment of their income as it relates to the payment of the loan,” Astrada said.
When borrowers miscalculate their income or purposely inflate their income and can’t repay the loan, it can lead to a cycle of debt and thousands of dollars in interest costs for the borrower, Astrada said. That’s why stated income/stated asset mortgages played a big role in the financial crisis, he said. There were lenders who had lax or a complete lack of underwriting in “some of the most high-cost, exotic mortgages.” These loans led to scores of people ending up with high-cost mortgages they couldn’t afford.
“They defaulted, and the ripple effect of that happening was the financial crisis,” Astrada said.
Is it possible to get a stated income loan today?
The old, no-proof income statement loans are gone. That’s because it’s no longer legal to get a home loan without providing some documentation to show you can afford the loan.
The 2010 Dodd-Frank Wall Street Reform and Consumer Protection Act essentially killed income statement loans for owner-occupied properties. However, these loans can still be used to buy investment properties. For example, landlords or house-flippers can use them.
But now, lenders must fully document a borrower’s ability to repay a loan. That means providing documents that show things like income, debt history, employment, credit history and assets.
Self-employed people applying for a mortgage typically have to show at least two years of tax returns and a cash-flow analysis.
However, there are more and more lending products popping up with similarities to stated income loans. These loans must still meet the law’s ability-to-repay standards, but the type of documentation required for loan approval can vary. Many of these lenders accept personal or business bank statements instead of tax returns, for example. That method is an especially good fit for self-employed borrowers whose income might fluctuate and who don’t have W-2s.
These loans are sometimes called alternative documentation loans, alternative income verification loans or bank statement loans. Alternative documentation loans still require the borrower to provide documents like pay stubs or bank statements, but not all of the paperwork ends up being verified. These loans are easier and quicker to get, and might make the most sense for self-employed people or people who are divorcing.
Lenders who offer these kinds of loans are called “non-QM,” or non-qualifying mortgage lenders. Being classified as non-qualifying doesn’t make the mortgage a bad one, but the loans can’t be sold to Fannie Mae or Freddie Mac.
As with most loans, it makes sense to shop around. With a bank statement loan, it’s a good idea to get loan estimates from at least three lenders. Lenders are required to give you a loan estimate document within three business days of getting your application. The document breaks down the costs and fees associated with your loan, including interest rate, monthly payment and closing costs.
How do you find stated income loans?
Along with searching for stated income loans, common names for similar products to search for include:
- Bank statement loans
- Non-conforming loans
- Non-QM loans
- No-ratio loans
- Alternative documentation loans
- Portfolio programs
- Alternative income verification loans
- Asset-based loans
Bank statement loans for the self-employed
For people with income that fluctuates, mortgages can be tough to get. That’s true for small-business owners, too, who often take many tax deductions, so their income might appear lower on their tax returns. That’s where the bank statement loans come in. The borrower provides personal or business bank statements (usually 12 to 24 months’ worth), instead of tax documents, to show they have the money to afford a mortgage.
To qualify for a bank statement loan, self-employed borrowers usually need two years of income as a self-employed person. They may be able to have higher debt-to-income (DTI) ratios (up to 55%) than with a traditional mortgage, but they also will probably have to put down a higher down payment. Someone with stellar credit may be able to put down a 10% down payment.
Interest rates are usually higher for these loans, though not drastically so. Typically, they are about one to two percentage points higher.
Products that use “alternative” underwriting standards can come with higher interest rates than traditional mortgages, but for the right person, these loans may make sense. They match the needs of self-employed borrowers, but offer most of the same protections as traditional mortgages. It’s important, though, that borrowers do their own calculations and really feel confident they can afford the mortgage before they take it on, Astrada said.
As with any kind of loan, self-employed people or investors interested in alternative documentation loans should shop around to make sure they know exactly what they’ll be paying each month.
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