Low doc income verification methods

A low doc loan is a good solution for self-employed applicants to obtain finance to purchase or refinance their property.  It is a type of loan that has an easier income verification process to demonstrate your ability to make repayments on a home loan.   

 

Basic requirements for a low doc loan

  • Most lenders will require you to have an ABN for at least for 1-2 years (but it can be as low as 1 day!) and be GST-registered if applicable. 
  • You generally need a clear credit file with no arrears on debts. However, some lenders will allow exceptions to these requirements for those with minor bad credit blemishes.
  • While you can get away with a 10% deposit, most lenders will require at least 20% for better rates.

 

Income verification for low-doc

There are 3 main ways to verify your income when going the low-doc route:

  • Business Activity statements (BAS), or
  • Accountant’s letter, or
  • Business bank account statements

Using business activity statements (BAS) to understand your income

Lenders offering low doc loans will accept BAS as a form of income verification.

The reason behind using BAS statements is the ability to verify your turnover and decrease the risk associated with your low doc application.  A lender can confirm your income declaration (and hence your ability to meet repayments) using your BAS statements.

 

Requirements for using BAS

Generally, lenders will require your last 12 months of BAS (but can be as low as 3 months’ worth of BAS). 

Lenders will require your BAS evidenced by an ATO Portal printout or a printout of your BAS that has been electronically lodged with your bookkeeper or accountant.

 

Assessing your income

During the assessment for affordability under a low doc loan using BAS, a lender will look at your declared income in the application. This will be verified by looking at your business turnover as per your BAS statement.

There are generally 2 common ways to assess your income.

 

1) Percentage of turnover.

A lender may use a percentage such as 40%-50% of your turnover as your calculated income.

For example, if your gross annual turnover is $400,000 per annum then a lender may consider using a maximum of 40% to 50% of this figure.  So, the income used to calculate your borrowing power would be $160,000 to $200,000.  The lender will compare this to your self-declared income in the application.  You can see a higher turnover percentage like 50% will result in increased borrowing power.

However, not all lenders apply a strict percentage and 40% to 50% isn’t a hard and fast rule. 

Some lenders allow different percentages based on different professions or industries. For example, people working in health care may be assessed at 63% of their turnover whereas a cafe owner may be assessed at 32% of turnover.  A lower turnover percentage would generally reflect the higher cost of expenses/inputs in that industry.  

 

2) Sales, purchases, and wages

In contrast to the percentage turnover method, other specialist lenders can calculate your income based on your sales, purchases and wages as shown on your BAS. Having low expenses (in the form of purchases) makes this a good route to take – particularly for predominantly service-based industries. 

These lenders will look at your sales and from that figure deduct a grossed-up purchases figure based on the GST paid on purchases.  Finally, they deduct wages from this figure to calculate your income.

For example, your BAS shows $110,000 in sales in quarter 1 (‘GST owed to the ATO’ field).  The sales of $110,000 include $10,000 GST.  In the ‘GST owed by the ATO’ field it states $4,000.  When grossed up, this indicates $44,000 in purchases made for the quarter.   So, this indicates a net sales less purchases figure of $66,000.  The real net income figure is $60,000 for the quarter ($10,000 GST on sales less $4,000 GST on purchases equals a GST amount owed of $6,000).   Furthermore, if you had wages of $10,000 for the quarter your net income for the quarter would be $50,000. 

Often, these lenders will calculate annualized income, which means you can provide the last 1 or 2 quarters of your BAS. This is ideal if the early quarters of the financial year were not reflective of where the business is currently trading at.

In the example above, annualising a quarterly income of $50,000 will result in an annual income of $200,000. 

Note some lenders will expect this to be reduced to account for things that don’t appear on the BAS such as ongoing business leases, rent or mortgage paid for premises, utility bills and so on.

However, some lenders don’t make this distinction and will take the annualised figure at face value.  This will increase your borrowing power with that type of lender.

 

What if sales vary between quarters?

One thing all lenders in the low doc space do not like are large variances in quarterly BAS statements that do not have a reasonable explanation.  Sales may be seasonal or there may be an external factor that affected one quarter.  If this is the case you will either need to cover off the reason for the sales discrepancy or possibly wait another quarter if you can.

Accountant’s letter

Another form of low doc income declaration is an accountant’s letter.

The low doc accountant declaration is a standard form provided by the lender.  Your accountant can fill in the blanks with his/her information.

The accountant does not need to know exactly what your income is, rather just confirm that it is not completely unrealistic.

 

What details are required?

Letter requirements are generally as outlined below.

  • Must include the full name, address, and phone number of a qualified accountant.
  • Will either need to be on the accountants’ official letterhead or lender template.
  • The accountant will need to state how long they have been acting for you in a professional capacity. Usually, one tax return cycle is required.
  • How has the income figure been arrived at? This can usually include interim profit and loss, looking at BAS or banking statements, or invoices for a period.
  • Tax practitioner board details of the accountant.
  • Usually, a reason why an accountant’s letter is being relied upon as opposed to full financials.
  • Signed and dated by your accountant.

This letter acts as a declaration of the accountant’s understanding of your business circumstances at the specified date.

 

What if my accountant will not sign the letter?

In some cases, your accountant may not be comfortable signing a letter to verify your income.  CPA Australia has warned accountant members against signing ‘capacity to repay certificates’.

It is important to note that if looking to use this income verification method that your accountant is unlikely to sign off on a form asking for them to verify your capacity to repay.  They will not want to leave themselves open to any recourse by you or the lender.  The lender you choose should only be asking for a simple declaration of what your net income appears to be with information your accountant currently has at hand.

If they are still reluctant to sign the declaration, you may need to:

  • choose a lender with a declaration template that suits your accountant since requirements vary between lenders, or
  • declare a lower income that your accountant may be more comfortable with, or
  • provide your BAS statements as an alternative source of income verification. This is probably the direction income verification for low doc loans is moving to.

Using Bank statements

Most people prefer to provide BAS statements as evidence of their income for a low doc loan as more lenders are available.

However, if your BAS statements are not up to date or your bank account shows a higher turnover than your BAS then you may consider using your business bank account statements.

Note, this method isn’t accepted by every lender – particularly major lenders.

 

What are the qualifying criteria?

Criteria varies between lenders, but, as a rule the following will apply:

  • Statements: You must provide 3 – 6 months statements depending on the lender.
  • Loan amount: You can borrow up to 90% of the value of your property.

 

How do they calculate my income?

Your business account statements will be reviewed by a credit assessor.  They will add up the credits from your customers while excluding credits from your linked personal accounts.

As with BAS statements there are 2 different approaches:

  1. Use a percentage of the total turnover, which is then annualised.
  2. Use the net figure of your credits and debits (income and expenses essentially).

This is the least preferred method of income verification for clients, brokers, and lenders.  It is very time intensive as all transaction listings will need to be reviewed and explanations provided as to why a particular transaction should be ignored or included.

Conclusion

Low doc loans are a great alternative solution for self-employed applicants that generally don’t have full financials at hand or have a recent trading history that will support a higher borrowing capacity compared to full financials.

There are 3 main ways to verify your income when going the low doc loan route.  The easiest method used to be an accountant’s letter.  But the work required by the accountant combined with warnings by their industry bodies means this method is likely to become more difficult to utilise.  It is not quite as ‘low doc’ as it used to be.

In contrast, using BAS statements and approaching a lender that has a flexible policy approach can be a much easier verification method and see you maximise your borrowing power with minimal income verification.