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Understanding Non-Qualified Mortgages (Non-QM Loans) Thumbnail

Understanding Non-Qualified Mortgages (Non-QM Loans)

Insights Investment

Navigating the world of mortgages can be daunting, especially for self-employed business owners, start-up founders, or those with unconventional income streams. Traditional mortgage options often rely heavily on standard income verification methods, such as W-2 forms and tax returns, which can pose challenges for these borrowers. Enter non-qualified mortgages, or non-QM loans, designed to cater to the unique financial situations of self-employed borrowers and investors. These loans offer flexible alternatives to conventional mortgages, allowing more people to achieve their homeownership and investment goals.

Types of Non-QM Loans

P&L Statement Loan

This type of loan leverages a profit and loss (P&L) statement from the borrower’s business. Borrowers can request their accountant to provide an unaudited 12-month P&L statement, easily generated from accounting software like QuickBooks. For instance, if a company shows a profit of $10 million and the borrower owns 25% of the business, they’ll be credited with $2.5 million in additional income.

Business Bank Statement Loan

Here, lenders review 12 months of business bank statements, summarizing deposits over the period. Suppose a business generates an average of $3 million in monthly deposits; lenders typically assume a 50% “success factor”. Thus, $1.5 million per month is considered income, and if the borrower owns 25%, they receive credit for $375,000 per month of income.

DSCR Loan (Debt Service Coverage Ratio)

Ideal for real estate investors, DSCR loans assess a property’s rental income against its mortgage obligations. If the fair market rental income, as determined by an appraisal, covers the mortgage payments, approval is straightforward.  

Asset Depletion (or Asset Dissipation) Loan

This loan type is based on the borrower’s liquid assets. For example, with $10 million in liquid assets and a $3 million mortgage request, the lender might determine $6.5 million as the net assets available to lend against (after conservatively rounding down a bit). Divide this by 84 months (or seven years) gives an income credit of approximately $77,000 per month.

Additional Considerations

Non-QM loans do not require personal or business tax returns, making them more accessible for those with complex financial situations. Lenders are willing to offer these loans due to several factors:

  • Higher Interest Rates: There is a premium on traditional market rates, typically 1-2% higher. If the market rate is 7%, a non-QM loan might be between 8-9%.
  • Origination Fees: These loans often come with a ~1% origination fee.
  • Significant Equity: Lenders appreciate the significant equity borrowers put into the property and the higher interest premiums.

With regards to a part owner in a startup, there is no need for the borrower to pledge private shares or seek approval from other owners when securing a non-QM loan. Additionally, these loans come in various types, including 30-year fixed-rate mortgages, interest-only loans, and adjustable-rate mortgages (ARMs). Importantly, there are no pre-payment penalties for loans used on primary residences or second homes, although investment properties may incur such penalties.

Independent Mortgage Banks (IMBs) typically offer these loans. IMBs handle underwriting, closing, and funding in-house, before selling the closed loan to investors.

When to Consider Non-QM Loans

Non-QM loans are particularly useful for:

  • Self-employed individuals who may not have traditional income documentation but can prove income through alternative means like P&L statements or bank statements.
  • Real estate investors who need loans based on the income-generating potential of their properties rather than personal income.
  • Borrowers with significant liquid assets who prefer to use these as a basis for mortgage qualification rather than income.

Conclusion

Non-qualified mortgages provide a flexible and viable solution for borrowers with unique financial profiles. By understanding the different types of non-QM loans and their benefits, self-employed individuals and investors can make informed decisions to secure the financing they need. Whether it's leveraging business income, liquid assets, or property income potential, non-QM loans open doors to opportunities that traditional mortgages might not offer.