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Mortgage Application Tips for First-Time Home Buyers who Own a Small Business that is an S-Corp LLC

I’m buying a house and know nothing about it. I also run a small marketing agency as an LLC that elects S-Corp status.

In retrospect, now that I know these, I think I should have asked these questions ahead of time.

But I didn’t know what I didn’t know.

Here are the top things I’ve learned…so far.

1. Your Pass-Through Income on Your K-1 Is Added to Your W2, Distributions Don’t Count

The whole reason you decided to create an LLC that elects S-Corp is to lower your tax burden. I knew that, I heard that. I knew years ago this to generally be true. But it didn’t full hit me until I saw on paper that, to mortgage lenders, my income is about half on paper as it is in reality.

That’s because distributions don’t count as income, but rather a business expense.

That’s nice for every other year, but guess what: this totally sucks when applying for a mortgage!

It’s such a double-edged sword: two years ago you paid less tax. But now you can’t qualify for a higher mortgage.

So like many CPAs and advisors will tell you: if you want to buy a home, you should up your income via two ways: increase your W2 and show more business profit.

Greg Crabtree talks about this a lot: as a business owner, you should pay yourself a hefty W2. Like if you’re the CEO of a $1 million revenue company, instead of something like $100k salary and $100k distributions, he would suggest $150k salary or more. He says that will encourage you to be more profitable next year. I didn’t get that at the time. Now it’s clear.

If I were to do it over, I would bump up my W2 by 50% for the past 2 years. In doing this, I would be paying more taxes, yes, but it’s also more realistic and will show the mortgage company something more tangible that better reflects your salary. The other option is to just be a lot more profitable as a company and the K1 pass-throughs come through to yourself.

2. You Can Get Pre-Qualified, but you Really Want a Verified Approval

Ok, so the pre-qualification stage is verbal. You tell them what you make and what you have and then give you an estimate.

From Rocket: “Unlike with a Verified Approval, a prequalification doesn’t require the lender to verify the information you give them, so there’s a chance they could uncover information that would make you ineligible for a mortgage loan once they begin the actual approval process.”

Sounds great right? Well if you have all your numbers rock-solid it might be. If you absolutely are clear on your expenses and assets and debt and DTI ratios, yea it’s helpful. You could also probably do it with an online calculator and not really need the mortgage broker or loan officer to tell you.

3. A Mortgage Broker Works with Many Companies, a Loan Officer Works for One

This didn’t really hit us that hard or affect things too much, yet. But suffice to say, if you work with a trusted mortgage broker, they can be your liaison to go find you the best deals.

If you work with a loan officer at a particular company, they’re just working for that one company and have more restricted access to broader market rates.

I don’t fully understand the industry and the points and all the details, so go do more research yourself, but if I had to guess I would think there’s not a ton of wiggle room on mortgage rates for most brokers and companies, they’re set by the market. But the fees, process, and experience of working with the broker/officer is what will change your experience.

With this, beware of using purely the lender in a new home community. We are doing this and find her to be slow and not totally competitive on the customer service front. That’s why we also are getting a quote from Rocket to help compare.

4. Work with a Good Bookkeeper and a CPA

As a small business owner, you will likely learn this lesson at some point. Everyone does about other professions. For example, a small business owner that is strong on sales but doesn’t get marketing will learn at some point 7 years later when his competitor has really good marketing that he needs to finally invest in order to compete.

I feel the same way as a marketer. Of course I know finance and taxes are super important, but now after 7 years of being an LLC do I fully, fully realize how it’s important to have a really good handle on the books and a monthly view of cashflow. I kept kicking it down the road because I wanted to “sell like hell to a million”. Well I should have been a bit better at planning along the way.

I’ve tried a few, and I just signed up for a new one, so I’ll let you know how it goes.

If you want a few recommendations check out:

Better Bookkeeping – under the radar, but they have a unique model. Hopeful that they’re the one! Fair price for $1,000/mo

CRI Simple Numbers – Greg Crabtree – recently acquired by CRI

LUCA – a well-run firm based in Birmingham, AL

The Ronin Society – they don’t do tax, but they do good bookkeeping (s/o Leila) with a very complex and interesting financial model. They incorporate many areas of business operations into the planning.

(I tried Taxfyle but don’t recommend it at this time if you have a serious business where you need ongoing support)

 

Here’s how I’ve learned to talk to bookkeepers and CPA firms, from the perspective of a dumb marketing agency owner that got As in his two accounting classes in college. These things below apply broadly to you running your business, but also you should do this a full 2-3 years before you buy a home. Learn from me:

  • Truly work with them on a monthly basis and ask them to walk you through reports for the month: I made the mistake of not making the time to review my annual tax filing because my accountants didn’t push for it, but offered it passively. Likewise, in working with bookkeepers they didn’t proactively offer. If you find a really good firm they will proactively want to work with you. If you have an average one you’ll have to push them. They’ll comply but you’ll have to lead them.
  • Tell them your goals for the year: For me, in 2024 I said that I want to maximize profit and revenue. It sounds silly but I wouldn’t have said I wanted to maximize profit in 2021 because I had a nice EIDL loan that kept me fat and happy. Now in 2024 the chickens come home to roost. I’m playing catchup now. I think this is because I followed the easy money world of startups and finance too closely, even though it didn’t affect my business.
  • Let them do their jobs and push you to cut costs and invest in ROI projects: Depending on the firm you’re working with, if they’re more pure tax heavy they may stay around tax, but if they truly want to be partners and grow with you, they should encourage you on areas to be lean and cut costs, and other areas to invest in higher ROI projects that can scale. This is why Google Ads and Facebook/Meta Ads are so popular – they work but also show hard numbers that the finance team can look at and play with. (The Ronin Society is good to help here for the non-tax portion)
  • They should make your chart of accounts useful: In the past when working with bookkeepers who left the chart of accounts as-is, they didn’t give me much to work with. Likewise with value-focused EAs and CPAs that were more just doing it on the side. You want them to help set up your chart of accounts that helps you operate in an intelligent way and drives business value. Let them lead you, and push them if they don’t.

 

Hopefully this was helpful if you are a small business owner of an LLC that elects S-Corp and is looking to buy a home soon or in the near future. I’ll reiterated this again: I hate planning too far in the future, it’s not in my nature. But I see now how the things I didn’t get in order 2-3 years ago is affecting my mortgage application. Start getting your house in order to build your strategic reserve to do epic things.

 

 

 

 

CategoriesLLC S-Corp Tax