Announcement 22-0010: Non-QM 1099 and Profit & Loss Product Enhancements

April 18, 2022

Overview

Carrington Mortgage Services, LLC (CMS) is pleased to introduce new 1099 and P&L products for the Non-QM (Carrington Prime Advantage and Carrington Flexible Advantage Plus) programs. The underwriting guideline updates are highlighted in red below and please note these are an abbreviated summary of the guideline changes. All updates should be viewed within the context of the full guidelines available on CarringtonCorrespondent.com.

Non-QM Underwriting Guidelines
Old Requirements Updated Requirements

1-Year Alternative Income Documentation

In lieu of the standard 2-year documentation requirement for wage-earners and self-employed borrowers, the following will be accepted:

  • Wage-Earners: the transcript(s) for most recent year W-2(s) and pay stub(s) covering the most recent 30-day period providing year-to-date earnings at closing
  • Self-Employed Alternative Doc: the most recent year filed federal income tax returns (personal and business; extensions are not allowed) and year-to-date P&L if end of applicable tax year is > 120 days from closing
  • Self-Employed Bank Statements: 12 months complete personal or business bank statements from the same account

1-Year Alternative Income Documentation

In lieu of the standard 2-year documentation requirement for wage-earners and self-employed borrowers, the following will be accepted:

  • Wage-Earners: the transcript(s) for most recent year W-2(s) and pay stub(s) covering the most recent 30-day period providing year-to-date earnings at closing
  • Self-Employed Alternative Doc: the most recent year filed federal income tax returns (personal and business; extensions are not allowed) and year-to-date P&L if end of applicable tax year is > 120 days from closing
  • Self-Employed Bank Statements: 12 months complete personal or business bank statements from the same account
  • Self-Employed 1099: 1 Year IRS Form 1099 Statements
Non-QM Underwriting Guidelines
Old Requirements Updated Requirements

1099 Income Documentation

Self-employed borrowers with earnings on IRS Form 1099, such as independent contractors and gig workers, may submit 1 or 2 years 1099 forms, subject to the following requirements:

  • Borrowers must be self-employed for at least two (2) years verified by two (2) years of business licenses or a CPA letter.
  • Business must be in existence for at least two (2) years.
  • Standard Trade Lines are required.
  • Non-Permanent Resident Aliens and Foreign Nationals are ineligible.  Exceptions are not permitted.
  • IRS form 4506-C must be processed for 1 or 2 years 1099 forms
  • Multiple 1099 forms from the same line of work may be added together, for example a borrower with earnings from Lyft and Uber will be qualified based on combined earnings.  Multiple 1099 forms from different industries will be reviewed independently as separate businesses, for example a borrower with earnings from Uber and IT Consulting must have a two-year history in each line of work to consider earnings from both sources.
  • Evidence of a decline in earnings may result in disqualification
  • Year-to-Date earnings must support the qualifying income calculated per instructions below.  YTD earnings must be documented with one of the following, utilizing the most recent documentation available as of the loan application date:
    • YTD Profit & Loss statement prepared by a licensed or registered CPA or tax preparer.  Net monthly earnings on the P&L must not be more than 10% less than qualifying net income of the previous 1 or 2 years.
    • Earnings Statement with YTD income or Pay Stub with YTD income from the Payer listed on the 1099 forms.  Gross earnings on the YTD Earnings Statements must not be more than 10% less than gross monthly 1099 earnings.
    • Most recent two (2) months bank statements, earnings statements without YTD income, or pay stubs without YTD income.  Earnings statements or pay stubs must come from the Payer listed on the 1099 forms.  Gross deposits or earnings on bank statements, earnings statements, or pay stubs must not be more than 10% less than gross monthly 1099 earnings.
  • Rental Income: Borrowers who receive rental income as a secondary income source may utilize 1099 Income Documentation for calculating self-employment income and the most recent lease agreement(s) for rental properties for calculating rental income. Obtain proof of receipt at the current lease rate using a cancelled check or bank statement. Calculate the qualifying rents by using 75% of the current lease minus the full PITIA.

Borrowers whose primary source of income is derived solely from the ownership of rental properties, including short-term rentals, as declared on personal or business tax returns must be calculated using Full Documentation of Income. See Rental Income.

 

Non-QM Underwriting Guidelines
Old Requirements Updated Requirements

Calculating Qualifying Income

To calculate qualifying income using 1099 Income Documentation, choose one of the options below to account for business expenses:

Option 1: Default Expense Factor

Default Expense Factors will be applied as follows:

  • Service Business = 50% Expense Factor (examples include Consulting, Accounting, Legal, Counseling, Therapy, Financial Services, Insurance, IT, Rideshare, Freelance Workers, Writers)
  • Product Business = 60% Expense Factor (examples include Retail, Food Services, Restaurant, Manufacturing, Contracting, Construction)

Multiply gross 1099 earnings by the default expense factor to determine estimated business expenses.  Subtract the expense estimate from gross earnings and divide the result by 12 months for 1 year 1099 form or by 24 months for 2 years 1099 forms.

Option 2: Third-Party Prepared Expense Statement

If the borrower’s business operates more efficiently, or typically has a materially different expense factor than the default expense factors above, then a reduced expense factor is acceptable subject to the following requirements:

  • Expense Statements must be prepared and signed by a third-party licensed or registered tax preparer. Tax preparers must be a Certified Public Accounts (CPA), Enrolled Agent (EA), hold a state license for tax preparation, or belong to a professional trade organization within their state, such as the California Tax Education Council (CTEC).
  • When a YTD Profit and Loss statement is provided from a licensed or registered CPA or tax preparer per the YTD Income option above, the expense factor will be calculated from the expenses listed on the YTD P&L.
  • Expense Statements must specify business expenses as a percentage of the gross annual self-employment earnings.
  • Expense Statements must not include unacceptable disclaimers or exculpatory language regarding its preparation.
  • Expense Factors may never be lower than:
    • Service Business = 20% Expense Factor Floor
    • Product Business = 35% Expense Factor Floor

Net expenses from the Expense Statement is calculated by multiplying gross 1099 earnings by the expense percentage provided by the CPA or tax preparer.

Net Income = Total Deposits * (1 – Expense Statement Percentage)
                                           12 or 24 months

 

Non-QM Underwriting Guidelines
Old Requirements Updated Requirements

Self-Employed 1099 Miscellaneous Income

Payments to sole proprietors or contract individuals will also be reported on IRS Form 1099 form and included in the borrower’s Schedule C. If a borrower receives 1099 income, federal income tax returns for the most recent 2 years (IRS Form 1040) are required to determine the income and related expenses.

When a borrower is qualified solely on W-2 wages and secondary 1099 income is discovered during the underwriting process, tax returns are not required unless the borrower requests the secondary business income to be considered.

1099 forms covering a full 2-year period are not required when a borrower changes from being paid W-2s to 1099s while working for the same employer in the same position. Documentation from the employer should be obtained to verify the borrower is not responsible for additional expenses.

Self-Employed 1099 Miscellaneous Income

Payments to sole proprietors or contract individuals will also be reported on IRS Form 1099 form and included in the borrower’s Schedule C. Borrowers who receive self-employed 1099 earnings may be qualified under the Sole Proprietorship guidelines by providing IRS Form 1040 tax returns for the most recent 1 or 2 years, or under the 1099 Income Documentation guidelines by providing IRS Form 1099 for the most recent 1 or 2 years.

When a borrower is qualified solely on W-2 wages and secondary 1099 income is discovered during the underwriting process, tax returns are not required unless the borrower requests the secondary business income to be considered.

1099 forms covering a full 2-year period are not required when a borrower changes from being paid W-2s to 1099s while working for the same employer in the same position. Documentation from the employer should be obtained to verify the borrower is not responsible for additional expenses.

Profit & Loss Income Documentation

Self-employed borrowers may submit Profit and Loss (P&L) statements covering 12 or 24 months, subject to the following requirements.

Documenting Business Ownership

  • Borrowers must be self-employed for at least two (2) years verified by two (2) years of business licenses or a CPA letter.
  • Business must be in existence for at least two (2) years.
  • Non-Permanent Resident Aliens and Foreign Nationals are ineligible.  Exceptions are not permitted.
  • Documentation must be provided to show the borrower’s percentage of business ownership.  Qualifying income will be multiplied by the percentage of profits that the borrower is entitled to. Examples of acceptable documentation include:
    • Articles of Incorporation with stock ownership breakdown
    • Business’s Operating Agreement,
    • Corporate Resolution, or
    • Letter from the tax preparer.

 

Non-QM Underwriting Guidelines
Old Requirements Updated Requirements

Requirements for P&L Documentation

  • Standard Trade Lines are required.
  • IRS form 4506-C is not required for income documented with profit and loss statements.
  • The borrower or tax preparer must provide a signed letter of explanation describing the nature of the business, how income is generated, and how long the business has been in existence.
  • Profit and Loss statements must be provided for the most recent 12 or 24 months, and:
    • P&L statements must be prepared and signed by a third-party licensed or registered tax preparer. Tax preparers must be a Certified Public Account (CPA), Enrolled Agent (EA), hold a state license for tax preparation, or belong to a professional trade organization within their state, such as the California Tax Education Council (CTEC).  Evidence of licensing or professional organization membership must be documented.
    • The borrower must sign all P&L statements.
    • P&L statements must not include unacceptable disclaimers or exculpatory language regarding their preparation.
    • P&L statements may be provided for the 12- or 24-month period immediately predating the loan application, or for the prior 12- or 24-month calendar or fiscal year period.  If more than 120 days have passed since the end of the most recent calendar or fiscal year, a Year-to-Date P&L statement must be provided.  The YTD P&L must be prepared by the same licensed party that prepared the 12- or 24-month P&L.
    • Business expenses must be fully itemized and must be reasonable and reflect all expenses expected for the type of business. Underwriting may request additional documentation if necessary.
  • Multiple businesses are permitted, P&L statements must be supplied for each business and each business must have been in existence for at least two (2) years.
  • Evidence of a decline in earnings will require additional evaluation by the underwriter and may result in disqualification
  • Rental Income: Borrowers who receive rental income as a secondary income source may utilize Profit and Loss Income Documentation for calculating self-employment income and the most recent lease agreement(s) for rental properties for calculating rental income. Obtain proof of receipt at the current lease rate using a cancelled check or bank statement. Calculate the qualifying rents by using 75% of the current lease minus the full PITIA.

Borrowers whose primary source of income is derived solely from the ownership of rental properties, including short-term rentals, as declared on personal or business tax returns must be calculated using Full Documentation of Income. See Rental Income.

 

Non-QM Underwriting Guidelines
Old Requirements Updated Requirements

Calculating Qualifying Income

To calculate qualifying income using Profit and Loss Income Documentation:

  • If necessary, adjust net income on the P&L to account for the following minimum expense thresholds.  Total business expenses as a proportion of total business earnings may never be lower than:
    • Service Business = 20% Expense Floor (examples include Consulting, Accounting, Legal, Counseling, Therapy, Financial Services, Insurance, IT, Rideshare, Freelance Workers, Writers)
    • Product Business = 35% Expense Floor (examples include Retail, Food Services, Restaurant, Manufacturing, Contracting, Construction)
  • Divide the P&L net income by 12 or 24 months, as applicable, to determine qualifying income.
  • When a YTD P&L is provided, compare monthly YTD earnings to confirm qualifying income is supported within a 10% tolerance.

Contacts

Please contact your Account Executive or Account Manager with any questions.

Carrington thanks you for your business.

Government Agency Approvals

FHA Non-Supervised Mortgagee Approval #:
24751-0000-5
VA Automatic Lender Approval #:
902324-00-00

Mortgagee/Loss Payee Clause

Carrington Mortgage Services LLC
ISAOA/ATIMA
P.O. Box 692408
San Antonio, TX 78269-2408

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This information is provided for your convenience and Carrington Mortgage Services, LLC makes no warranties concerning the accuracy or completeness of any of the information. This is not financial or legal advice and should not be taken as such. This information is for mortgage professionals only and is not intended for distribution to consumers.
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Government Agency Approval | FHA Non-Supervised Mortgage Approval #: 24751-0000-5 | VA Automatic Lender Approval #: 902324-00-00

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