Tax season is once again upon us, and if you're thinking about buying a home this year or the next, there are some things you need to do before you file your taxes.

For many people, tax preparation often goes overlooked as part of the mortgage process, but it plays a major role in the pre-approval process.

To help make sure your journey goes smoothly, we'll walk you through the steps we have to take when determining income based in how your taxes are filed—regardless of whether you're a first-timer or an experienced buyer.

How Do Tax Returns Impact Mortgage Applications?

The simplest answer to this question is tax returns affect the way in which and how much you can qualify for a mortgage.

Typically, loan officers look at your reported income on your tax returns when qualifying you for a traditional full documentation loan—which is the most common route you can take to get the best rates and terms.

But that means your net income (after deductions) is the main determinant of your borrowing power. 

If you're self-employed or have income from sources other than a traditional W2 salaried employee, your tax returns play a significant role.

For example, let's say you made $100,000 in gross income for the past year but worked closely with your CPA to write off 50% of that income. That would only leave you with $50,000 that you can qualify with.

Now, if your reported income is low, don't worry. There are alternative mortgage programs, such as bank statement loans, that look at your gross revenue and cash flow instead of what's reported on your tax returns.

Just keep in mind that these types of loans may come with higher interest rates and down payments than standard full documentation loans. However, some individuals' write-offs outweigh the slightly elevated interest rates, which we’ll cover in more detail below. 

What Happens When I Have Unfiled Tax Returns?

If you haven't filed tax returns because you run a cash-only business or some other reason, then there are still ways to qualify for a mortgage, such as a bank statement or no income verification loan.

It's best to speak with a mortgage expert to review your options and see which is right for you.

What Do Lenders and Underwriters Look at on Tax Returns?

As we mentioned above, lenders are focused on your reported net income. That being said, there are certain expenses that can be added back depending on how you file. 

For example, self-employed individuals who file using Schedule C can have depletion, depreciation, amortization, and business use of home added back to increase their net income. 

In order to calculate your income, lenders examine specific line items on your tax return and adjust accordingly, which ultimately determines how much you may borrow.

Here's a quick reference guide to the specific additions and subtractions lenders use to adjust your income:

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