How does a mortgage company look at depreciation?

Question

Hello!

Normally, on my taxes, I try to break even or make a little profit BEFORE applying depreciation to the property.

I recently applied for my 6th mortgage, and the loan officer significantly lowered my buying power because he looked at all of my properties as losing money.  He stated that he has to calculate my total loss on each property, he said that he can't use the pre-depreciation number.

Is this normal practice?  Should I start showing a profit after applying depreciation?

Thanks for the input!

Paul

Jay Hurst · Answer

Assuming your are looking to qualify for a conventional loan there should be NO difference from lender to lender. It is a very simple calculation and yes depreciation would be added back as it is a paper loss.  I am amazed of how many LO's simply do not know how to make this calculation. Here is the form that should be used for all Fannie/Freddie loans:  Rental income worksheet

Make sure you have someone who knows what they are doing before you default to a more expensive DSCR loan.

Jeff Chisum · Answer

Depreciation isn’t going to count against your income calculation

Sasha Mohammed · Answer

@Jay Hurst is correct, and i agree with his sentiments its terribly sad how many LO's don't know their income calculations. Depreciation should be added back in if you're doing a full-doc loan using schedule E rental income to qualify.

its possible you're using a loan officer who simply doesn't know. I didnt' find anywhere in your post where you indicate the lending institution, but I will say, a lot of lenders (mostly banks or credit unions) will "overlay" standard guidelines. what that means is that they will impose more stringent guidelines above and beyond the standards. This COULD be your hurdle and why they are not allowing depreciation to be added back in.

You can ask the LO if its an "overlay", although they may not know. I would recommend you reach out to a Brokerage or even (dare i say it) a direct lender over a bank / credit union. You'll simply land with more experienced professionals who ONLY do mortgage.

Hope this was helpful!

Basit Siddiqi · Answer

Mortgage companies look at your DTI Ratio(Debt to Income Ratio) to determine how much of a house that you can afford.They look at your income items from your tax return to determine this.They will normally add back certain items such as depreciation and amortization since they are non-cash expenses.Furthermore, you can communicate with your lender that you had 'one time' expenses that you do not plan to occur in the future.I.E. if your repairs is $15,000 in year one, you can explain to them that you don't expect it to be that high going forward and they will adjust it.You may need a signed letter from a CPA stating so.

Eric Veronica · Answer

as a general rule you should be able to add depreciation and amortization back into the income because they are not true cash flow expenses.

John Morgan · Answer

@Paul D.

I ran into this issue. I found another lender. One that was an investor like us so he told me he gets his underwriters to use the rental lease agreement rent minus mortgages, prop taxes and insurance. Mine were then all of a sudden showing a profit. lol. Find a new lender. Or go with DSCR loans. I’ve done 5 of those. They’re super easy to qualify for.

Jerry Padilla · Answer

Paul,

VA still has the old mentality for rental income on other properties owned.  So you are limited rental income produced from the tax returns.  Below is VA guideline for rental income.  You do have higher theshold for DTI's with a VA loan over conventional loans.

Verification of Rental Property IncomeObtain the following:  -documentation of cash reserves totaling at least 3 months mortgage payments (PITI), and  -individual income tax returns signed and dated or lender-obtained tax transcripts, plus all            applicable schedules for the previous 2 years, which show rental income generated by the             property.• If the borrower has multiple properties, the borrower must document 3 months of PITI for each property to consider the rental income.o If there is not a lien on the property, 3 months reserves to cover expenses such as taxes, hazard insurance, flood insurance, homeowner’s association fees, and any other recurring fees should be documented for the property(ies).o Equity in the property cannot be used as reserves.o Cash proceeds from a VA refinance cannot be counted as the required PITI on a rental property. The reserve funds must be in the borrower’s account before the new VA loan closes.o Gift funds cannot be used to meet reserve requirements.

• Analysis of Rental Property Incomeo Each property(ies) must have a 2-year rental history itemized on the borrower’s tax return.o Property depreciation claimed as a deduction on the tax returns may be included in effective income.o If after adding depreciation to the negative rental income, the borrower still has rental loss, the negative income should be deducted from the overall income as it reduces the borrower’s income.o If rental income will not, or cannot be used, then the full mortgage payment should be considered and reserves do not need to be considered

Jay Hurst · Answer

This comes from the VA handbook:

Paul D. · Answer

I’m using a VA loan…

Jacob Sherman · Answer

What you need to do is start using the DSCR loan and all of those headaches and bumps in the road will go away for a slight premium in interest rate . They are no income and no doc . What are some of your scenarios looking like ?

How does a mortgage company look at depreciation?

Most Popular Reply