How To Show Proof of Income for a Home Loan

When applying for a home loan, you must prove your income. Lenders want to ensure that you can meet your monthly mortgage obligations. Consequently, they ask for documentation that paints a clear picture of your income. How to show proof of income often depends on your employment status and the manner in which you receive payment.

How To Show Proof of Income for a Home Loan

Whether you’re getting a home improvement loan or a first-time mortgage, for individuals who are traditionally employed (i.e., those who receive regular paychecks from an employer), the loan process is fairly straightforward. Lenders will typically ask for the following documents:

Recent Pay Stubs

Typically, lenders ask for the last two or three pay stubs. They show your gross earnings, deductions, and net income.

W-2 Form

This form is a tax document that employers send out annually. It provides a yearly summary of your earnings and taxes withheld.

Tax Returns

Some lenders also ask for one or two years of federal tax returns to get a clearer picture of your annual earnings.

It's worth noting that lenders will meticulously go over the documents you provide. If they notice any discrepancies, unusual deposits, or large expenditures, they may ask for an explanation. This is a standard part of their due diligence to ensure that there are no hidden financial concerns or undisclosed sources of income. 

For instance, large purchases or frequent, substantial withdrawals might raise red flags about your financial behavior and stability. It's advisable to keep big spending decisions, especially those involving debt or large cash outflows, to a minimum during the house-buying process. This simplifies your financial picture and reduces the chance of complications or delays due to unexpected questions from the lender.

How To Show Proof of Income If Paid in Cash

Receiving income in cash can be seen as unconventional in the digital age, but it's quite common in several professions. Many people in the service industry, such as tutors, landscapers, house cleaners, and others who provide in-home services, might be paid in cash upon job completion.

Additionally, waiters, bartenders, and baristas, often receive a significant portion of their earnings through tips, which can often be in cash.

Without official pay stubs, how can service professionals prove their income when applying for a home loan? Here are some suggestions.

Detailed Earnings Journal

Regularly jot down the dates, amounts, and sources of cash income. Even if it's not an official document, it can show a pattern of earnings.

Bank Deposit Slips

If you deposit your cash earnings into a bank, keep a record of those deposit slips. Over time, they can illustrate consistent income.

Letters from Employers/Clients

A letter stating how much you've been paid over a specific period can be helpful. Ensure it's detailed, dated, and has the official letterhead or contact details of the writer.

Tax Returns

Even if you're paid in cash, it's important to report your earnings and pay taxes on them. Your filed tax return can serve as proof of your annual income.

Cash earnings, unlike digital transactions or checks, leave no direct trail, which might tempt some people to underreport their actual income. While this could seem like an easy way to pay fewer taxes in the short term, if you've been underreporting your income, you may qualify for a much smaller loan than you might actually afford if your true income were reported.

How To Show Proof of Income When Self-Employed

For freelancers, entrepreneurs, and other self-employed individuals, the process of proving income when applying for a home loan can also be unique:

Profit and Loss Statements

These financial summaries provide an overview of your business revenues, costs, and expenses. Regularly updated, they can show the health and performance of your business.

1099 Forms

If you work with clients or companies that pay you more than $600 in a year, you'll likely receive a 1099 form. It's a document that reports non-employee income.

Business Bank Statements

Bank statements can give a snapshot of your business transactions, showing both incoming revenues and outgoing expenses.

Tax Returns

The Schedule C form is used by sole proprietors to report income or loss from a business. It provides a comprehensive view of your business earnings for the year.

Why Proof of Income Is Important

Lenders are in the business of lending money and making profits through the interest they charge. When they lend money, especially for something as significant as a home, they need to minimize their risks. Proof of income helps them determine the following.

Financial Capability

Lenders primarily want to see that you have a steady flow of income that will allow you to manage monthly mortgage payments. If you can't afford the mortgage, it's risky for both you and the lender. Your income details give the lender a clearer picture of your financial health.

Debt-to-Income Ratio 

This ratio is a critical factor that lenders consider. It’s the percentage of your monthly income that is dedicated to paying debts, including the potential new mortgage. A high debt-to-income ratio can suggest overextension of your finances. By assessing your income against your debts, lenders can make an informed decision about how much they can comfortably lend you.

Employment Stability

Just knowing your current income isn't enough. Lenders also look at how long you've been at your job or how steady your self-employment income is. Stable employment can suggest future reliability. For instance, someone who's been in the same job for several years might be seen as having a more stable income than someone who frequently shifts jobs.

Financial Behavior

Past behavior is often an indicator of future actions. By examining your income history, lenders can forecast your future financial health. Consistency in earnings can demonstrate fiscal responsibility and predictability.

Loan Terms

The amount of income you earn can influence not only the amount you're allowed to borrow but also the terms of the loan, such as interest rates. Someone with a high, steady income might receive more favorable terms because they represent a lower risk.

Consumer Protections

Beyond protecting themselves, lenders also want to ensure that they are not setting borrowers up for failure. By verifying income, lenders can discourage borrowers from taking on debts they can't handle, thus reducing the chance of future financial strain or foreclosure.

While the process might seem tedious, it’s designed to ensure a financial arrangement that benefits both the borrower and the lender.

Knowing How To Show Proof of Income Increases Your Chances of Getting a Home Loan

Proving income when applying for a home loan is a fundamental step in the mortgage process. Whether you're traditionally employed, paid in cash, or self-employed, it's vital to show proof of income, maintain good records and be transparent with lenders. This not only improves your chances of approval but also ensures you're offered an appropriate loan amount and interest rate.

If you’re purchasing a home for the first time and want to know all about the prequalification and preapproval process, check out our first-time homebuyer’s guide to learn more.