With the Arizona market being as hot as it is, it is essential that your loan officer know every little aspect of qualifying, the loan process, or fast turn times. This is important in order to give a potential buyer even the slightest upper edge against the others. Many don’t know that with certain types of nontaxable income, we are able to increase their “useable” income by percentage amount which will help in their qualifying. Below are those percentages described for the different loan types involved.
How much can you gross up non-taxable income?
FHA = 15%
Non-taxable income refers to types of income not subject to federal taxes, which includes, but is not limited to:
• some portion of Social Security income;
• some federal government employee retirement income;
• railroad retirement benefits;
• some state government retirement income;
• certain types of disability and public assistance payments;
• child support;
• military allowances; and
• other income that is documented as being exempt from federal income taxes.
The Mortgagee must document and support the amount of income to be grossed up for any non-taxable income source and the current tax rate applicable to the borrower’s income that is being grossed up. The amount of continuing tax savings attributed to non-taxable income may be added to the borrower’s gross income.
The percentage of non-taxable income that may be added cannot exceed the greater of 15 percent or the appropriate tax rate for the income amount, based on the borrower’s tax rate for the previous year. If the borrower was not required to file a federal tax return for the previous tax reporting period, the Mortgagee may gross up the non-taxable income by 15 percent with evidence borrower is not required to file.
VA = 25%
Tax-free income includes certain military allowances, Social Security benefits, child support payments, workers’ compensation benefits, disability retirement payments, and certain types of public assistance payments.
We must verify that the income is indeed tax-free before “grossing up.” Tax-free income may be “grossed up” for purposes of calculating the debt-to- income ratio only and cannot be considered in the Residual Income. This is a tool that may be used to lower the debt ratio for borrowers who clearly qualify for the loan. “Grossing up” involves adjusting the income upward to a pre-tax or gross income amount which, after deducting state and Federal income taxes, equals the tax-exempt income. Use current IRS and state income tax withholding tables to determine an amount which can be prudently employed to adjust the borrower’s actual income. Use a figure of 25 percent of the borrower’s nontaxable income when “grossing up.”
We can gross up 25% with Tax Returns to show income source is tax exempt. We can gross up 15% without Tax Returns for Social Security Income (retirement income, disability benefits, survivor benefits and Supplemental Security) without any further documentation.
We as the lender must give special consideration to regular sources of income that may be nontaxable, such as child support payments, Social Security benefits, workers’ compensation benefits, certain types of public assistance payments and VA Disability.
The lender must verify that the source of income is nontaxable. Documentation that can be used for this verification includes tax returns, award letters, policy agreements, account statements, or any other documents that address the nontaxable status of the income.
If the income is verified to be nontaxable, and the income and its tax exempt status are likely to continue, the lender may develop an “adjusted gross income” for the borrower by adding an amount equivalent to 25% of the nontaxable income to the borrower’s income.
Always feel free to contact me directly with any questions!
by Andrew Augustyniak, Peoples Mortgage