Why Are Tax Returns Needed When Applying for a Mortgage?

by Monica Dillon
Lenders use borrower tax returns to verify income and find discrepancies.

Lenders use borrower tax returns to verify income and find discrepancies.

If you're shopping for a mortgage, you'll have to provide a good bit of documentation to the lender to support your income, debt and asset claims. Mortgage lenders will need bank statements, W-2s and even pay stubs from your job. Your tax returns provide a solid reference to verify that what you say is true about your income versus how it's modified on your taxes. The lender, with your prior tax returns in hand, will be concerned with any income irregularities or attempts at mortgage fraud.

What Your Tax Returns Say

Your tax returns tell a story of your income. While you can report income on your mortgage application from your job and other sources, such as a rental property, the amount of your income that is taxable or reduced through deductions that show up on your tax returns. Mortgage lenders are more likely to use your reported taxable income as your true income instead of the income you report on your mortgage application.

Tax Return Red Flags

If you give permission, the Internal Revenue Service provides lenders with electronic copies of your tax returns. A lender will review your tax returns to find potential red flags. The lender is looking for discrepancies in your stated income versus the average for people in your type of job or professionals in your field. For hand-prepared tax returns, the lender will look for areas whited out or discrepancies in who signed and prepared the returns.

Reported Income vs. Taxable Income

A lender will look for discrepancies in the income reported on your W-2 versus the income you reported on your tax returns. If the two incomes don't match, the lender may look deeper into your tax returns. The lender is also looking to see how many unreimbursed employee expenses you take, such as mileage or uniform expenses. Some underwriting rules require the lender to deduct these write-offs from your income for qualifying purpose, since they reduce your taxable income.

Challenging Additional Income Sources

The lender may check additional sources of income you report on your application by reviewing your tax returns. Lenders may or may not include rental property income you report, for example, based on how it appears on your tax returns. If you don't report any rental income on your tax returns, it won't get included as additional income by the lender unless you bought the property in the current year you're applying for the mortgage, and the income is documented on consecutive bank statements

Self-Employed Income Challenges

For people who are self-employed, qualifying for a loan can be difficult enough without additionally scrutiny from lenders. If you've claimed deductions to reduce your taxable income, it may be harder to qualify for a large loan. The lender will review your expense write-offs as well as any business losses on your return. The lender may deduct business losses from your overall income if you file jointly with a spouse, which can reduce your joint income and your ability to qualify for a loan.

About the Author

Monica Dillon has more than 10 years experience in real estate sales, marketing, investing and appraising. She specializes in energy efficiency building practices and renewable energy. Dillon has been syndicated by the National Newspaper Publisher's Association. Her work has also appeared in the "Journal Of Progressive Human Services."

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