Owning multiple pieces of real estate will have an impact on your ability to qualify for a residential mortgage. One of the most common misconceptions people have is that rental income from an investment property will help them qualify for a larger mortgage. More often than not, rental income ends up being a wash or a hindrance to qualifying once all of the other property expenses are accounted for (PITIA). Additionally, not all loan programs can use rental income.
Typical Rental Income Calculation
Depending on how long you have owned the property, underwriting will either use a Fully Executed Lease agreement or Schedule E of your personal tax returns. If you purchased the property within the current tax year or are converting your departure residence into a rental as you purchase a new primary residence, a lease agreement will be OK. If the property has been a rental since the previous tax year, tax returns will be used to calculate the qualifying rental income.
If you are using tax returns to calculate the rental income, certain expenses can be added back. Those expenses include:
- Mortgage Interest
- HOA Dues
Once these are added back to your gross rental income from the tax return, your total expenses for the property are subtracted to get underwriting’s annual gross rental income from the property. Underwriting calculates your debt-to-income ratio on a monthly basis so the gross rental income is then divided by 12. Once the gross monthly rental income is determined, the monthly housing expenses are deducted (principal and interest, homeowners insurance, property taxes, and HOA dues) to get the net rental income. This net amount is what is added/subtracted from your overall qualifying income to determine your debt-to-income ratio for the new loan.
When looking to start down the path of real estate investing, knowing how your properties will affect your ability to qualify for a mortgage is important. Your debt-to-income ratio to qualify for a new mortgage will be affected by how well your other properties cash flow, positive or negative, so be sure to plan accordingly.
If you have any questions give us a call and we would be happy to discuss your specific situation.