How Can People With Low Income Qualify for a Mortgage?

When you’re renting a house or apartment, the hope of homeownership may seem like an unreachable goal if your income is a bit on the low side. Aside from qualifying for a low-income mortgage, saving for a down payment also presents another challenge. But you may be surprised to find out that many people with low income and little to no down payment can still qualify for numerous types of mortgages. So your low income isn’t necessarily a deal-breaker as you embark on your quest to own the home of your dreams.

Low-Income Mortgage Loans

As you shop around for the right mortgage or loan program that meets your low-income challenge, you won’t find one that’s actually titled a “low-income mortgage loan” – they’re known by different names. The qualifying guidelines for different types of mortgages will determine what mortgage is a good fit for your financial situation.

Keep in mind that it’s not just about income. As you work through the qualifying process to find a mortgage that’s tailored to your income structure, you’ll also find that some of these low-income mortgage loans have other benefits such as below-market interest rates, low (or no) down payment requirements and even down payment assistance.

Sources of Qualifying Income

At first glance, your paychecks may look a little thin to qualify for a mortgage. But like many other borrowers, you may have other income sources you haven't even considered that you can add to your monthly income to boost your mortgage-qualifying power.

Other sources of compensation that are sometimes overlooked but may be used to beef up your total income include:

  • Alimony or child support.
  • Long-term disability income.
  • Employment offers or job contracts.
  • Foster-child compensation.
  • Government annuity income.
  • Interest and dividend income.
  • Notes receivable.
  • Public assistance income.
  • Retirement or pension income.
  • Royalty payments.
  • Social Security benefits.
  • Unemployment benefits.
  • VA benefits.

Income Compensating Factors

Although your income is an important qualifying factor for a mortgage loan, lenders also look at other components to evaluate your comprehensive financial snapshot. And if these other components – considered compensating factors – are favorable, they can offset a low income and help you qualify for a mortgage.

For example, you may have stellar credit, a hefty investment portfolio or a low debt burden, all of which lenders like to see as an indicator of your financial strength and ability to pay a mortgage. And if you also happen to have a sizable down payment from a recent cash windfall, for example, you've hit another sweet spot for mortgage qualifying.

Request Manual Underwriting

When you apply for a mortgage, your lender’s underwriter will probably evaluate your application using an automated underwriting process. Different computer programs, such as the Fannie Mae® Desktop Underwriter® (DU®) and the Freddie Mac® Loan Product Advisor®, perform automated calculations that assess the credit risks of borrowers based on the financial data submitted with loan applications. Automated underwriting is typically a quick and efficient method for lenders to issue mortgage approvals or denials. But not all income situations fit neatly into the conventional parameters of computer programs.

If your mortgage application initially is denied based on your low income (or other factors), ask your lender to perform a manual underwriting. Not all lenders will do this, but it’s surely worth a try. And if you have a proactive lender who automatically initiates a manual underwriting if the automated process returns a mortgage denial, even better.

An underwriter will consider three primary components of your loan approval: your capacity to pay, your credit score and your collateral risk. Expect for the manual underwriting process to take some time, because your lender’s underwriter must manually evaluate your loan data. But because manual underwriting can possibly reverse an initial computer-generated mortgage denial and return a loan approval, this extra time may be well worth it.

If You're Self-Employed

For many self-employed people, owning their own business brings immeasurable benefits. Unfortunately, many lenders do not view self-employed workers as ideal candidates for a mortgage. Self-employment income may fluctuate simply because of business cycles or seasonal trends, and the resulting fluctuating income doesn’t give off the “stable vibe” that feeds a lender's comfort level. But just because your income doesn’t fit the cookie-cutter mold of qualifying for a mortgage, your being self-employed doesn’t necessarily kill the deal.

One of the income-verifying challenges, unlike the traditional steady paycheck and W-2 forms that employed workers can produce, is that self-employed borrowers must rely in part on 1099s and tax returns to prove income. Lenders typically require self-employed borrowers to produce two years of tax returns to substantiate income. But even when self-employment income looks good on its own, a secondary challenge presents itself when lenders must reduce this income by the same business expenses that offer tax breaks to the ranks of the self-employed. And once gross income is pared down – often substantially – by business expenses, a borrower’s actual net income may fall short of qualifying guidelines.

If you're self-employed, expect to submit more paperwork than your paycheck-employee counterparts. In addition to the past two years’ tax returns, you’ll likely have to provide an accounting of your business assets and debts plus other business information. But when all the number crunching is done, you won’t have to rely on your income alone to qualify for a mortgage. Lenders also zero in on another important target, regardless of whether you're self-employed – your debt-to-income ratio.

Debt-to-Income Ratio

The relationship between your gross monthly income and your monthly debts, expressed as a percentage, offers your lender a big insight into your financial health. Your monthly bills and other expenses, such as groceries, utilities and gas, are not classified as “debt,” so they’re not included in DTI. Other monthly costs, which are classified as debt, include credit card payments and loans.

Different types of mortgages require different DTI eligibility ratios. In August 2019, Fannie Mae increased its DTI requirement for loans processed through its automated “desktop underwriting” (DU) process from 45 percent to 50 percent, giving borrowers a little bigger qualifying cushion. VA loans, which don’t have a specific DTI requirement, typically fall in the range of 41 percent. When the automated underwriting process for any mortgage fails to approve an application because of the borrower’s DTI, manual underwriting can take a second look.

One factor that warrants a second look from some loan programs is residual income, which is what you have “left over” at the end of each month after paying your bills and debt obligations. A borrower’s income may be too low and her DTI too high, but her residual income may be higher than the minimum required for a loan program. For example, VA loans have residual income guidelines that are based on which of four U.S. regions where a borrower lives. If a borrower’s residual income is greater than the VA residual income standard in his region, the lender’s underwriter could override the too-high DTI factor and grant a loan approval.

Using a Co-Borrower

If your income is too low to qualify for a mortgage, one workaround is enlisting the help of a co-borrower. The co-borrower doesn’t have to live with you, but her income – when added to yours – may be able to bump up your mortgage loan decline into approval status. The co-borrower will jointly own the house with you, unlike a cosigner who does not share ownership, and she is legally responsible for paying the loan if you default. Even if her income is sufficient when added to yours, the lender will also pull her credit report to make sure that her credit meets guidelines.

FHA Mortgage Loans

Federal Housing Administration (FHA) mortgages are the answer for many low-income borrowers who do not qualify for other types of mortgages. Although the FHA doesn’t actually make mortgage loans, it insures eligible loans, thereby guaranteeing the lender against loss. Another perk of an FHA mortgage is that borrowers with a credit score of at least 580 only have to make a 3.5 percent down payment, which overcomes another obstacle for those with lower income – the difficulty of saving for a down payment.

VA Mortgage Loans

Another low-income mortgage option is the VA loan, which is backed by the U.S. Department of Veterans Affairs. VA mortgages also offer the benefit of a zero down payment to qualified borrowers. Eligible borrowers include veterans, active-duty members of the military, members of the National Guard, reservists, officers at the National Oceanic and Atmospheric Administration and others with certain military affiliations such surviving spouses of veterans. Even cadets at the U.S. Military, Air Force or Coast Guard Academy and midshipmen at the U.S. Naval Academy are eligible for VA mortgages.

Eligibility requirements vary, but typically service members must meet a requirement of 90 days of active duty during wartime or 181 days of active duty during peacetime. Reservists and National Guard members must fulfill six years of service. Eligible surviving spouses include those who have not remarried after their spouse was killed in the line of duty.

USDA Mortgage Loans

A USDA mortgage, also called a Section 502 loan or a rural housing loan, is backed by the U.S. Department of Agriculture. These mortgages are tailored to benefit low- to moderate-income homebuyers. Despite the name “rural” housing loan, many of the qualifying properties are actually in suburban areas as well as small towns. There’s not a dollar amount placed on your income; instead, it’s a comparative guideline – your income can’t exceed 115 percent of the average median income in the area where the property is located.

USDA mortgages come with other perks such as no maximum DTI requirement. And if a USDA-eligible home needs repairs or upgrades, eligible costs can be included in the mortgage loan amount. You can find USDA properties by visiting the website – rd.USDA.gov/browse-state. When the page loads, click on the state on the U.S. map to find properties in that state.

Local Housing Grants

Some local governments help low-income borrowers with their mortgages by offering housing grants. You’ll have to do an online search for housing grants in your state because there’s not a national database for these programs. But it may be worth your search because if you qualify for a housing grant, you won’t have to pay it back.

Examples of available grants include up to $55,000 in Seattle, WA, for families whose income is less than 80 percent of the median income and a Connecticut grant that awards the full down payment amount through a low-interest loan.

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