Divorcing spouses face unique challenges when trying to buy a new home. And while getting a mortgage after divorce may seem difficult, it is possible. However, one obstacle that could easily be overlooked is self-employed income of your former spouse.
Many people may think their ex-spouse’s self-employment income does not affect their ability to qualify for a mortgage. After all, the ex is not part of the new transaction, right? It’s a little more complicated than that.
Tanya and her husband Gary had been married for ten years. They had the “white-picket-fence” sort of life: great careers, 3 handsome athletic boys, the cars, the boat, an incredible group of friends and a love of travel – and the money to do it. They were the poster family for “living the dream”.
Just a couple of years ago they relocated to Texas due to an advancement in Gary’s career. Not long after settling in, Gary decided to follow his passion for horses and opened a side business raising and training horses.
As with many start-ups, there were income losses the first two years. Gary reported these losses on the couple’s joint income tax returns. Near the end of the second year, Tanya and Gary split. The following spring, they divorced. Gary moved out and Tanya put the home and horse property up for sale.
Upon selling the home, Tanya found a new home which was well suited for her now-single life with her boys. It was less square footage to maintain and had a small yard that would be easy to manage. She was excited, to the say the least.
Truth: Your ex-spouse’s self-employment income could hurt you when qualifying for a mortgage. While your income will be documented with pay stubs, W2’s, and employment verifications, any losses on your joint tax returns must be included as well. Even if those losses belong to a business owned and operated by your former spouse.
Tanya and I met to begin her paperwork for her home purchase. As I began to review her income taxes and the various schedules, the income losses from the horse business were severe. Although this was Gary’s business, Tanya’s qualifying income would have to take the hit for the loss when qualifying her for a mortgage.
As you might imagine, Tanya was shocked. She challenged, she debated, she pounded her fists, none of which changed the fact that the underwriter would have to count the loss. She never wanted Gary to start that business and now she was paying the price for it!
The good news? Tanya had a nice base income that could overcome the loss we had to count against her. She still qualified for the mortgage and she could still buy the home.
When qualifying for a mortgage, in most cases, two years tax returns are required. Your income is calculated based on wages, pensions, unemployment, business income or losses (schedule C), rental incomes pr losses (schedule E), income from farming (schedule F), and so on.
If you or your spouse file ‘married filing joint’ on your tax return, any losses that are incurred, even if in your former spouse’s name, will be included in your income calculation. On the other hand, if there is a business profit and the business was solely in your former spouse’s name…that income is not included. Yes, it feels a bit unfair.
Divorce happens. It’s hard to plan in advance. However if your spouse has a business it may be smart to file your taxes ‘married filing separate’ to keep the business separate from the marriage. It is worth a conversation with your accountant and mortgage professional.
In the event you are newly divorced, filed joint returns the last two years, and your ex reported business losses…speak with a divorce lending professional. Find out your options in advance of making any decisions about buying another home. You don’t want any last minute surprises.