A broker’s guide to understanding income verification documents
As a mortgage broker, you need to be able to accurately interpret the information you read in company financials and income verification documents. Your client’s income is key in determining how much credit lenders might extend to them.
But not all clients will have an employer letter and pay stub ready to hand over. For example, your self-employed clients will need to provide company financials in addition to income verification documents. You’ll be looking at several documents to piece together your client’s income stability.
Here is a list of meaningful data that can be collected to verify income, depending on the client’s employment situation:
|Document||Description||What to look for|
|Notice of Assessment|
A notice of assessment (NOA) is issued by the Canada Revenue Agency once a tax return is filed. It notes any changes and whether a refund will be issued, or a payment is due.
The account summary will show if any taxes are owed. If so, the client needs to show the outstanding tax has been paid.
|T1 General Tax Form|
A T1 General Tax Form is the personal income tax document used by individuals to file their taxes with the Canada Revenue Agency. For self-employment income, it should be accompanied by the Statement of Business or Professional Activities.
Start with line 135 – net business income. Look to determine if the income is stable.
For some self-employed clients, gross ups and add backs can be used to increase income for mortgage qualification purposes.
The income statement lists revenue and expenses for a defined period of time, such as a fiscal quarter or year. Subtract expenses from revenue to determine if the company is making a profit or losing money.
Look at revenue, operating expenses and net income.
Compare the numbers over a couple years to get an idea about the company’s growth or decline.
Net income is the bottom line. It should be stable or growing year over year. If it’s not, explore the reasons with the client. Are revenues down? Were there some unexpected expenses?
The balance sheet shows a company’s assets, liabilities and shareholder equity (net worth) at a moment in time.
Look for total assets, total liabilities and shareholder equity.
Assets should be greater than liabilities.
Shareholder equity is a measure of net worth.
|Cash Flow Statement|
The cash flow statement shows the cash going into and out of the company over a defined period of time.
Look for net increase in cash.
Cash coming in should exceed cash going out. This demonstrates the company brings in enough money to pay its expenses and debts. If there is a decrease, explore the reason with the client.
|Statement of Shareholders’ Equity|
The statement of shareholders’ equity shows how owner equity changed during the fiscal period. For a self-employed business owner, changes will likely be due to retained earnings. It also reflects shares sold or purchased.
Shareholder equity should be stable or growing year over year. If equity is decreasing, explore the reasons with the company owner.
Clients can provide you with a copy of contracts they may have, which show past history and future earning potential.
Check the value of the contract and the dates for the work.
Review payment clauses to determine if the contracted amount is guaranteed.
Some contracts allow for a maximum amount of work but do not guarantee work will be issued.
|Articles of Incorporation|
Self-employed clients who have incorporated their business need to provide Articles of Incorporation to show their business was legally established.
Check how many shareholders are entitled to the business profits. Is your client entitled to the full shareholder equity?
Bank statements show cash going into and out of a bank account.
Look at the balance column. What is the average balance over the time period you are looking at?
Does the balance go into overdraft frequently? If yes, this may indicate difficulty in managing money or paying for monthly expenses.
In the deposit column, are regular deposits being made that align with the income amount being claimed?
Note: The income statement, balance sheet and cash flow statement should be evaluated together to assess the financial health of the business.
We hope you find this information valuable, leave us a comment if there’s anything else you’d like to see.