B3-3.1-08, Rental Income
This guideline is all about how to qualify a borrower’s rental income.
Associated Policies
There are other policies that lenders need to be aware of when dealing with a borrower’s rental income. These include rules around multiple financed properties for the same borrower, general income information, income from rental property, minimum reserve requirements, and the impact of owning other real estate.
Eligible Properties
Rental income can be considered stable if it’s likely to continue. If the rental income comes from the property the borrower lives in, it must be a two- to four-unit property where the borrower lives in one of the units, or a one- to four-unit investment property. If the rental income comes from a property other than the one the borrower lives in, there are no restrictions on what type of property it can be. For instance, rental income from a commercial property owned by the borrower is acceptable if it meets all other requirements.
Ineligible Properties
Normally, rental income from the borrower’s primary residence or a second home can’t be used to qualify the borrower. However, there are some exceptions for boarder income and properties with accessory units.
General Requirements for Documenting Rental Income
If a borrower has rented out the property before, rental income will usually be reported on IRS Form 1040, Schedule E of the borrower’s personal tax returns or on Rental Real Estate Income and Expenses of a Partnership or an S Corporation form. If the borrower hasn’t rented out the property before or if the tax returns don’t accurately reflect the ongoing income and expenses of the property, a fully executed current lease agreement may be used. This could be the case in several scenarios, such as when the borrower has bought a rental property after the last tax return filing, or when a property has been converted from a primary residence to an investment property.
When the subject property will generate rental income, one of the following Fannie Mae forms must be used to support the income-earning potential of the property: The Single-Family Comparable Rent Schedule (Form 1007) for one-unit properties, or the Small Residential Income Property Appraisal Report (Form 1025) for two- to four-unit properties. The rental payment on the lease must be in U.S. dollars.
Documenting Rental Income from Subject Property
The lender must get documentation that is used to calculate the monthly rental income for qualifying purposes. The documentation may vary depending on whether the borrower has a history of renting the property, and whether the prior year tax return includes the income. The document requirements will differ depending on whether the borrower has a history of receiving rental income from the subject property, and whether the transaction is a purchase or refinance.
Documenting Rental Income from Property Other Than the Subject Property
When the borrower owns property – other than the subject property – that is rented, the lender must document the monthly gross (and net) rental income with the borrower’s most recent signed federal income tax return that includes Schedule 1 and Schedule E. Copies of the current lease agreement(s) may be substituted if the borrower can document a qualifying exception.
Reconciling Partial or No Rental History on Tax Returns
In some cases, the lender’s analysis may determine that using alternative rental income calculations or using lease agreements to calculate income are more appropriate methods for calculating the qualifying income from rental properties. This policy may be applied to refinances of a subject rental property or to other rental properties owned by the borrower.
Calculating Monthly Qualifying Rental Income (or Loss)
Rental income must be calculated for each rental property. To determine the amount of monthly rental income from each property that can be used for qualifying purposes, the lender must consider the borrower’s housing situation, their history of receiving rental income, and whether the rental income is from the subject property or a non-subject property.
Offsetting Monthly Obligations for Rental Property Reported through a Partnership or an S Corporation
If the borrower is personally obligated on the mortgage debt and gross rents and related expenses are reported through a partnership or S corporation, the business tax returns may be used to offset the property’s PITIA (principal, interest, taxes, insurance, and any association dues).
Rental Income Calculation Tools
Fannie Mae publishes four worksheets that lenders may use to calculate rental income. These include the Rental Income Worksheet – Principal Residence, 2– to 4–unit Property (Form 1037), Rental Income Worksheet – Individual Rental Income from Investment Property(s) (up to 4 properties) (Form 1038), Rental Income Worksheet – Individual Rental Income from Investment Property(s) (up to 10 properties) (Form 1038A), and Rental Income Worksheet – Business Rental Income from Investment Property(s) (Form 1039).
Reporting of Gross Monthly Rent
Eligible rents on the subject property (gross monthly rent) must be reported to Fannie Mae in the loan delivery data for all two- to four-unit principal residence properties and investment properties, regardless of whether the borrower is using rental income to qualify for the loan. If the borrower is not using any rental income from the subject property to qualify, gross monthly rent must be documented only for lender reporting purposes.
References
For more details, visit Rental Income of the Fannie Mae Selling Guide.