I’m Self Employed – What are my mortgage options?
Next to the great Australian dream of owning your own home, probably the next big ‘wish for’ item for many Australians is the opportunity to be able to work for himself/herself in a business of their own.
For many Australians, the prospect of long hours, hard work and a bit of entrepreneurial get up and go, far outweighs the benefits of being a lifelong wage slave.
However, like many things in life, there is plenty of upside as well as downside when a decision is made to ‘go it alone’!
One of those ‘small’ disincentives, is the prospect of an income stream that is neither guaranteed and often less than consistent. For the start up business proprietor in particular, the difficulties associated with getting a bank to look seriously at their mortgage loan application, often seem insurmountable.
Over the last few years however, a number of ‘specialist’ non bank lenders have come onto the scene, offering leading edge mortgage loan products that specifically suit the requirements of the self employed. In fact, many banks have had to follow suit to remain competitive.
These mortgage products take into account many essential borrower requirements for start up or working capital requirements, capital purchases, tax obligations and other investment opportunities.
By reviewing some key issues for the self employed, we hope that you will learn and understand that for the Australian business proprietor, the prospect of not being able to secure mortgage finance simply due to your employment status has changed dramatically and for the better!
Can I get mortgage finance even if I have just started a new business?
The quick answer here is a simple, probably!
However there are always a number of factors that lenders (including ‘non bank’ specialist lenders) consider when assessing a mortgage loan proposal from a self employed applicant. These factors take into account a number of credit tests or ‘filters’ that broadly cover:
- Your understanding and experience in the chosen business venture
- Your capacity to repay the mortgage (and other financial commitments)
- The security offered (Basically, the real property security)
- Your credit history
- Purpose of the loan
- The equity available in the security property
- Whether you will declare your income or provide full financials
- Whether the funds will be used for business, investment or domestic reasons.
These are probably the basic filters or tests applied by most lenders, however unlike most banks, an element of flexibility in the credit process (loan assessment) can be applied, particularly when it relates to income verification and/or an adverse credit history.
Of course, this does not mean that anyone who simply registers an ABN can expect to get a mortgage. Prudent lending practices always take into account the whole story, not just a segment or two of your personal circumstances.
In recent years, lenders have managed to understand and monitor credit risk associated with business borrowers. Anecdotally, credit default with low document or no document loans have still been satisfactory. Bad debt write offs in Australia have been insignificant in comparison to the more aggressive and foolhardy lending practices as witnessed recently in the home loan market within the US.
Should I expect to be charged a higher rate of interest?
The quick answer is, it depends!
What it depends on is the ‘credit risk’ assessed by various lenders. If you compare the following two scenarios, ask yourself, would you lend the same amount of money to these two individuals at the same rate?
Client A:
- Wishes to borrow $200,000 to purchase a restaurant as a going concern.
- Is a discharged bankrupt. Discharged 3 years ago.
- Has never owned or managed a business before.
- Has 2 credit cards and a car loan.
- Is buying his home which is valued at $350,000 with a mortgage of $270,000.
Compared to...
Client B:
- Wishes to borrow $200,000 to purchase a restaurant as a going concern.
- Has a clean credit history – no bad credit.
- Has been employed as a Restaurant Manager and Chef for 10 years.
- Has 1 credit card and owns his car.
- Is buying his home which is valued at $600,000 with a mortgage of $120,000.
Of course there are many other factors taken into account when assessing credit risk, however based on the above scenario, even a layperson with no finance industry experience could easily identify that Client B would (and should) obtain mortgage finance at a better rate of interest than Client A. (And Client A may find it somewhat difficult, although not impossible to actually obtain the mortgage finance anyway).
Why?
Let’s assume that both of our fictitious clients were successful in securing mortgage finance from the same lender, using the same product.
Lenders can only be certain of the past. They cannot be certain of the future. Client A may have genuine reasons for the bankruptcy but doesn’t appear to have any experience in the restaurant trade at all.
If Client A was successful in securing his loan, it would be prudent of the lender to apportion a risk premium over and above a standard commercial rate of interest to take into account the range of known adverse credit issues and a lack of industry skills.
Conversely, even though Client B will not be able to demonstrate clearly what income will be generated from the restaurant, by having a clear credit history, modest current debt commitments, solid levels of equity (ownership) of the proposed security offered as well as having 10 years of direct industry experience, enables a lender to assess the risk of default as substantially less than Client A.
There are always basic rules in mortgage lending in assessing ‘credit risk’.
Mainstream lenders tend to use credit scoring techniques which require basic credit assessment filters to be passed or scored. What this means is an answer to a check or ‘filter’ must be either black or white, No greys I’m afraid!
Specialist lenders can therefore assess risk on an individual basis. In fact, specialist lending is really a return to traditional lending practices; where more is understood about the client, security and purpose than a computer scored loan ever can.
What are Low Doc and No Doc mortgage loans?
Simply put, if you have no, limited, or you simply do not wish to provide financials, lenders are prepared to offer some flexibility in assessing your mortgage loan application.
What this means is, you can either do one of two things:
Low Documentation Mortgage;
You simply self certify your income. Basically, you declare what your income is for any particular financial year to the lender, who then uses that stated income as the benchmark to demonstrate your capacity to repay the mortgage
No Documentation Mortgage;
This type of loan may be offered to investors or business owners who are using the borrowed funds for non domestic purposes only. The loan to value ratio is generally reduced to 70% of less of the value of the security property and no income statement is provided, other than an affordability statement by the borrower.
Low doc / No doc loans are becoming very popular with the Australian borrowing public, however, a prudent stance must still be observed when securing any form of mortgage finance.
Low Document loans and No Document loans have the propensity be used incorrectly and there is market evidence to suggest that some borrower incomes have been artificially inflated to cater for larger loans.
Anecdotal evidence is also apparent, suggesting that domestic borrowers who should be protected under the Uniform Consumer Credit Code have been directed towards No Documentation loans in particular, without an understanding the ramifications of doing so.
Don’t be tempted into borrowing more than you can reasonably expect to repay and what your true income can adequately service. Ensure that the purpose of your loan is clearly stated on your application and do not sign any document that has not been read and understood by you or that has been only partially completed.
Remember, the Australian Tax Office make spot reviews of clients and their brokers, particularly when there is some evidence of high incomes being stated on loan applications but income stated in tax returns is decidedly lower.
Be warned and seek appropriate advice.
However, for the right reasons and with prudent assessment, a low or no documentation loan has assisted many small business people over many years. These loans are also open to borrowers with adverse credit and borrowers who may wish to borrow more than the 70% to 80% limited by mortgage insurers.
During the later months of 2007 and throughout 2008 (as at June 2008), the international credit crisis has created some difficulties with banks and most non bank lenders pricing. Low Doc & No Doc loans have been impacted significantly by the 'credit squeeze' and as a result, not only has 'credit' requirements tightened, but lending interest rates have increased over and above the Australian Reserve Bank 'official cash rates' movemnets.
This has meant that in particular, non bank 'low doc & no doc' loans have become comparatively more expensive than the 'Banks' offerings and as such, clients seeking this type of loan really do need to ensure that their credit histories and equity levels are sound, to ensure a reasonably 'competitive' rate of interest on their loans.
In any event, please call Assent Mortgage Finance on 1300 72 86 96 to discuss your options further.
A not so profitable business?
My business has made a loss this year. Can I still apply for a mortgage loan?
Possibly! So long as the rest of your credit criteria is satisfactory.
Bank as well as ‘Non bank’ lenders will however, identify the reasons for the loss, and if the ‘fundamentals’ of your business (and the industry that you operate in) are not sound; there is every chance that your mortgage application will not be successful.
Your financial statements will however, offer some insight (from a lenders perspective) into what ‘add backs’ and one off ‘extraordinary’ expenses that may provide ‘offsets’ against your reported ‘loss’.
For this reason, it is strongly recommended to secure the advice of a competent Finance Broking professional to advise you on your options and to ascertain the preferable course of action.
Can I supply financials with my mortgage application if I have them?
With all other things being equal, if a lender receives a mortgage loan application on a self certified basis, there is a greater level of ‘credit risk’, than would be with an application supported by detailed financials. Therefore an expected risk premium by way of a higher interest rate may be applied.
It’s a commonsense approach. If you have the financials, and they support the serviceability criteria of a lender, then why not!
If your business is without financials because you’ve only been operating for 6 months or so, or you ‘choose’ not to supply them or you simply only have management accounts (MYOB statements) then obviously a mortgage loan submission without ‘financials’ may be a recommended approach.
What if I’ve had some bad credit in the past?
Having a bad credit history in itself does not automatically exclude you from securing mortgage finance. The key elements behind any unsuccessful mortgage loan application (with a history of bad credit) can be best described as one that the applicant has:
- Hidden credit information from a proposed lender
- Hidden credit information from your mortgage broker
- Been untruthful in any way
- Have a history of credit avoidance
As mentioned earlier, a lender does not have the capacity to know what future events may unfold (if they did, every loan they funded would never default).
However, if confronted by a mortgage loan applicant with a poor or bad credit history and if they are prepared to honestly outline any relevant details asked of them, so long as a number of other credit criteria checks out satisfactorily, a good chance of a positive outcome should be expected.
If however, an applicant lies or withholds information, this clearly demonstrates to the lender that the ‘character’ of the applicant is in question.
The clear message here is simple. If you have an adverse credit history, tell your Finance Broker the full story and he/she will give you a reasonable indication of whether the application will fulfil the lending criteria of a number of lenders.
Fail to do this and your mortgage application won’t get past first base. I sound idea would be to apply for your FREE credit report here.
Do I have to use my own home as security for a business loan?
If it’s the only property you have available for a lender to secure the loan against, then yes. If you have other ‘real’ property and it is seen as an acceptable security, then you may be able to use these properties as well.
Keep in mind that some rural properties, inner city apartments, and other specified properties may be unacceptable as a security to many banks.
Call Assent Mortgage Finance now or request to call you at a more appropriate time to discuss your options.
I’ve started a new business, but it’s in a different industry to what I’ve been working in! Is that OK?
The straight answer here is, it depends on how much you wish to borrow, relative to the value of the property being offered as security.
In the mortgage industry, the term used for this equation is the LVR (or sometimes known as the LSR). This acronym stands for, the loan to value ratio (or loan to security ratio)
Essentially the LVR ratio is expressed as a percentage of the amount borrowed, relative to the value of the security being offered.
If an LVR is only 20%, (eg: Borrowing $40,000 to a property value of $200,000), then a lender is taking on substantially less risk than if a borrower required a mortgage loan of $190,000 on the same value security. (Here the LVR would be 95%)
Aside from any other assessable risks the lender will carry (or not as the case may be), with a lower LVR, the overall credit risk is reduced. This is due to the fact that if the security (property) must be sold by the lender (as mortgagee) due to default (by the mortgagor – the borrower), the chances of realising a loss will be reduced significantly due to the LVR exposure.
So, if you wish to borrow at say, a 40% LVR and you are participating in an industry that you have not been associated with in the past, the lender is ‘compensated’ with a lower credit risk exposure than if the same proposal was presented with an LVR of say 90%.
Again, it’s a commonsense approach that many lenders will adopt. Your mortgage broker should be able to outline these issues with you in assisting with your mortgage loan proposal.
Will I have to pay mortgage insurance?
Perhaps!
Some lenders require you to pay a mortgage insurance premium or its equivalent.
Mortgage insurance is usually paid by borrowers who are borrowing more than 80% of the value of a residential property. The idea is that th Insurance contract provides some protection to the lender, not you, in the event that if you default on your mortgage and the sale proceeds of your property are insufficient to clear the debt.
Recently, mortgage insurance has also been available to protect lenders in similar circumstances for borrowers who select a low or no documentation loan. Some lenders expect borrowers to pay for this premium and others will price it into the loan.
Depending on the ‘chosen’ lenders’ credit requirements and the nature of the product selected, will also determine if this is a requirement or not.
Again, your call Assent Mortgage Finance for assistance.
Professional Advice
Of critical importance to most successful mortgage loan applications is the engagement of a qualified, licenced and professional Finance Broking service.
With the myriad of lenders and products now available, by simply applying to the first lender that comes to mind or that has been recommended by a friend or family member, could result in a less than suitable choice or worse, a declined mortgage loan application.
This is not only a waste of time and money, but the poor selection can detract from any future efforts you may make in endeavouring to secure mortgage finance in the future.
Assent Mortgage Finance are licenced and specialist Finance Brokers that can assist self employed applicants throughout the entire mortgage loan process.