Sole traders may face a more complicated task in getting a home loan, but there are plenty of lenders who can help.
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Working for yourself can be a dream job for many Australians, but the dream can seem a bit less rosy when it comes time to secure a home loan.
While PAYG employees have an easy time proving their income, sole traders/proprietors face a more difficult task. Fortunately, there are home loan products and lenders that specialise in helping self-employed people achieve their property goals.
Before you apply for one of these specialised home loans, you'll need to ask yourself several questions.
If you're a sole trader, it means you've established a business for which you are individually and legally responsible. You'll have accountability for all aspects of the business, which means there is no partner with whom to share losses or debts.
If this is the business structure you've chosen, lenders are likely to consider you a sole trader or proprietor. This means you may need a specialised home loan known as a low documentation (or low doc) loan. These loans require alternative means of documentation to verify your income.
However, if your business involves mostly contract work, some lenders will still assess your home loan application as though you're an employee. This can make the process significantly easier. If you're a contractor or sub-contractor, ensure you check with your lender whether you'll be considered a sole trader or an employee.
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Sole traders can face stricter criteria when it comes to the amount of documentation they need to provide. Many lenders see self-employed individuals as riskier borrowers due to potential income instability.
One of the main financing criteria for a sole proprietor is to have traded in your business for at least two years. The longer you've been running your business, the better your borrowing position and two years tends to be a minimum requirement. Not only does this allow a lender to better assess the income you're likely to receive in the future, it also demonstrates your business stability.
If you've been a proprietor for less than two years, you may face difficulty getting approved. However, if you've worked in the same industry for some time, some lenders may be willing to accept a shorter tenure running your own business.
Aside from the length of time you've spent trading, you'll also face all the normal credit criteria that comes along with qualifying for a home loan. This means you'll be current with all your bills and debt obligations, and you'll have sufficient income to meet your home loan repayments.
Lenders assess a sole trader’s income differently than that of PAYG employees. Since your income can fluctuate, lenders are likely to calculate your earnings through one of several methods:
- The income from the most recent tax year
- The lower income from the last two tax years
- The average income from the last two tax years
In addition, some lenders will add back expenses you incurred that reduced your taxable income. These could include:
- Lump sum or voluntary super payments
- One-off business expenses
- Lease expenses
- Interest on business or loans used for property investment
- Company car expenses
- Office rental expenses
Sole proprietors may face stricter requirements when it comes to the deposit amount they require. If you have to apply for a low doc loan, you may need a deposit as high as 40%. However, some lenders will loan up to 95% of the value of the property you're buying, depending on the type of income documentation you can provide.
There are a variety of ways that sole traders can validate their income. Most lenders may want to see documents such as:
- Last two years' tax returns
- Profit and loss statements
- Business Activity Statements for last 12 months (BAS)
- Accountant's letter declaring your income
- One year of business transaction account statements
Some low doc loans mean higher-than-average interest rates. However, if you are able to provide ample income documentation, it may give you leverage to negotiate a lower rate.
Some low doc loans also come along with higher lenders mortgage insurance (LMI) premiums. LMI is an insurance policy that covers your lender in the event that you default on your home loan. Most lenders charge LMI premiums for loans of more than 80% of the property value whereas low doc loans may require LMI for loans exceeding 60% of the property’s worth.
Being a sole trader may make getting a home loan slightly more complicated, but there are plenty of lenders out there willing to help self-employed borrowers. You can work for yourself and still find a home loan that works for you.