Here’s the lowdown of stated income taxes, otherwise called ‘loans without income verification’ or ‘no doc’ loans. They sound wonderful – until you see the price.
Here’s why they sound wonderful.
You don’t need to supply proof of employment or income verification. Then again, you don’t want to go through the 60 day hassle of filing document after document that opens up the can of worms of your income details. You’ll face no red tape of having to submit tax returns and verify income.
But then there’s the price…
Standard income loans first emerged in 2008. Their innovator was the company Ameriquest. They were offered by banks as part of their regular repertoire and were cheaper than today. Then came the string of defaults, and banks pulled out as fast as they could. Today only a few intrepid individuals sign the loans and fund them from their own pockets. In order to ensure maximum profit and to offset risks, these unconventional lenders set arbitrary rules, terms, payment rates, and schedules.
Here’s the good news of stated income loans as it appears in 2015:
If you are a borrower, here’s what your lender will request:
No W-2 income documents
No need to furnish tax returns
No IRS documents
No need to show proof of employment
Instead, you’ll simply be asked to state how much you earn and you’ll be taken at your word. Little wonder that these loans are called ‘liar’s loans’ or ‘liar loans’! Stated income mortgage loans have become increasingly popular for borrowers with low credit as well, especially in the case of people who have an unstable source of income or have reduced self-employed income shown on their taxes. Your application for a stated mortgage loan is approved based on your cash reserves or equity and on your ability to afford the monthly payment. Whether you can or not is essentially based on what you tell your lender.
The conditions of these loans makes them alluring to customers with a wide range of credit histories, including subprime borrowers. The lack of verification makes these loans simple targets for fraud.
Stated income loans are also appealing in that they fill a gap of situations which normal loan standards would not approve. For example, a standard rule is that a customer’s mortgage and other loan payments should take up no more than 45% of the person’s income. This makes sense when it comes to a person applying for a mortgage for her first home. However, a real estate investor may have multiple properties and for each may receive only a small amount more than their loan payments on each house, but end up with $200,000 in disposable income. Nevertheless, a non-stated income loan would decline this person since his, or her, debt to income ratio would not be in line. The same issue can arise with self-employed borrowers, where the bank with a fully documented loan would include the borrower’s business debt in their debt to income calculation. Stated income loans also help borrowers in cases where fully documented loans normally would not consider the source of income as being reliable and stable. Examples include investors who consistently earn capital gains.
Finally, fully documented loans also do not consider potential future income increases. (This is similar to the ‘no income disclosure’ loan).
So what’s the catch?
Plenty. There’s higher interest for one. Lenders are taking a huge risk by extending this type of loan to you, so they want to make sure it’s worth their while. They’ll be asking you for enormously huge repayments – think of double, if not triple the rates of the conventional loan. So consider that you’ll be forking out magnanimous repayments each month.
Then, there’s the higher chance of default. Banks cover their risks by assessing your ability to repay. In this way, they lower the chances of default. Unconventional lenders who hand out these stated income, or ‘no doc’ loans, basically accept anyone on his or her word. Most of these applicants tend to overstate their income falling into unwelcome levels of bankruptcy as a result.
In August 2006, Steven Krystofiak, president of the Mortgage Broker’s Association for Responsible Lending, reported that his organization had compared a sample of 100 stated income mortgage applications to IRS records, and found almost 60% of the sampled borrowers had overstated their income by more than 50 percent.
Fraudulent misuse of these loans had grown such that in 2010, the Dodd-Frank Wall Street Reform and Consumer Protection Act, went into effect to restrict stated income loans. Section 1411 of the Act states: “A creditor making a residential mortgage loan shall verify amounts of income or assets that such creditor relies on to determine repayment ability…”.
Today, lenders are conducting their own version of income and asset verification, but many borrowers can still slip past and into ruin. Court-cases, stress, and bankruptcy are some of the results.
The short of it is this…
Stated income loans are still offered by some small banks. Qualification requirements are based on stable employment, good reserves, good FICO and no less than 40% equity position in the property. Stated income loans are also offered by independent individuals who fund from their own pockets and may be more lax in their requirements. Stated income loan availability changes from state to state and from county to county. This kind of loan is ideal for self-employed individuals, or for those borrowers who do not have a stable source of income, as well as for applicants who have low credit scores, and applicants who do not want their income documents to be reviewed by underwriters.
The price is high, so if you find that intimidating you may want to consider taking the chance of going the conventional route.
Do you think stated income loans are the path for you?