Run the mortgage income calculation before your client calls a lender.

The Add-Backs

Lenders start with the net profit or loss on the tax return and add back non-cash expenses that reduced taxable income but did not reduce the client’s actual cash flow. The most significant add-backs:

• Depreciation: Schedule C Line 13, Form 1120S, Form 1065, Form 1120. A client with $50,000 in depreciation has $50,000 more cash available than their taxable income suggests.
• Depletion: Relevant for extractive industries. Added back similarly.
• Amortization: Loan origination costs and other amortized expenses.
• Business use of home: Schedule C Line 30. Added back because the expense is already accounted for in the borrower’s housing cost.
• Non-deductible meals: The 50% of business meals disallowed by the IRS (shown on Schedule M-1). Added back because the business cash went out but the tax deduction was denied.
• Mileage depreciation component: Standard mileage users only. The depreciation portion of the IRS standard mileage rate ($0.35/mile in 2026) is added back as a non-cash deduction.

The Deductions

Lenders also subtract items that reduced reported income but represent real ongoing cash obligations:

• Mortgages and notes payable under 1 year (from the balance sheet): Short-term business debt that will require cash repayment. Subtracted at the borrower’s ownership percentage for entities.
• Non-recurring income: One-time income events that won’t repeat. A client who sold equipment at a gain in year two has income that inflates that year’s return but won’t recur. Subtracted.
• Business losses: If the business shows a net loss, that loss generally must be counted against the borrower’s income — it cannot simply be ignored. A Schedule C loss reduces qualifying income dollar for dollar.

Entity Structure Changes the Calculation

The calculation methodology differs significantly by entity type. A borrower who owns 50% of an S-Corp does not simply show half of the K-1 ordinary income — they add their W-2 wages (100%) to their 50% share of the business income after add-backs.

The Two-Year History Requirement

Lenders require two years of self-employment history before they can use self-employment income to qualify. “Two years” means two complete calendar years of returns — a client who started a business in March of year 1 and applies for a mortgage in June of year 2 has only 15 months of history, which is insufficient under most programs.

Exceptions exist for borrowers who were previously employed in the same field before starting the business, and for certain professional practices (attorneys, physicians, CPAs, architects). In these cases, one year of self-employment history may be acceptable if the prior W-2 employment was in the same field.

Documentation Your Clients Will Need

Standard documentation:

• Two years of complete personal tax returns (all schedules, all pages)
• Two years of complete business returns (1120S, 1065, or 1120) if applicable
• Two years of all K-1s if partner or shareholder
• Year-to-date profit and loss statement (if returns are more than 120 days old)
• Business bank statements (3–6 months, sometimes 24 months)

Often overlooked: All pages of returns — “complete” means every schedule. K-1s for each entity if the client is a partner in multiple businesses. Signed copies — unsigned returns are not acceptable.

When YTD P&L is required: If the most recent tax return is more than 120 days old at the time of application, a YTD P&L prepared and signed by the CPA or borrower will be required. For a client applying in August, their return filed in April is already past 120 days. Proactively preparing the YTD P&L for clients who are actively house hunting prevents a documentation gap during underwriting.

How Business Losses Affect Qualification

A self-employed borrower whose business shows a loss does not simply have their business income ignored. The loss must generally be counted against other income sources.

• Schedule C loss: Counts dollar-for-dollar against qualifying income. A borrower with $200,000 in W-2 income and a $50,000 Schedule C loss has $150,000 in qualifying income.
• Partnership or S-Corp loss: The borrower’s share of the business loss is counted against income. If the borrower’s ownership share of the loss exceeds their other income, some lenders will flag this as a qualification concern.
• Passive losses: Passive activity losses from rental properties or passive business interests are treated separately. Under most programs, passive losses on Schedule E may or may not be counted depending on the program and underwriter.

The safest advice for a CPA with a business-owner client planning to purchase a home: review their projected tax situation before the application is submitted. A large business loss or significant depreciation claim in the most recent year can dramatically affect mortgage qualification.

How to Request a Preliminary Income Analysis

We will run a preliminary income analysis for any CPA who sends us a client’s last two years of returns (personal and business). This is provided at no cost and with no obligation to the client.

The analysis will show:

• Qualifying income under Fannie Mae, Freddie Mac, FHA, VA, and USDA guidelines
• Any documentation issues we anticipate based on the returns
• Whether the two-year history requirement is met
• Any declining income issues and how we would address them
• A rough estimate of the maximum loan amount at current rates

This takes approximately one business day and gives both the CPA and their client an accurate baseline before any application is submitted.