How Lenders Average Two Years of Self-Employed Income

The Quick Read: Lenders using traditional personal-income review start with your net business income, adjust it for a short list of add-backs, add the two years together, and divide by 24 months. That monthly figure becomes your qualifying income. Gross revenue and bank deposits play no part in this method.

• The starting number is net profit after write-offs, not what the business collected.
• Non-cash items like depreciation are typically added back.
• If the newest year came in lower, most lenders use that lower year alone instead of averaging.
• Two years is an industry habit, not a fixed national rule, and alternative documentation paths exist.
• For a rental purchase, you may not need an income average at all.

Say you run a landscaping company that grossed well into six figures. Your tax return shows a modest profit because you wrote off trucks, equipment, and a home office. The lender sees the modest profit.

How Does the Two-Year Average Actually Work?

The lender takes net business income from each of your last two tax years, adjusts each one, adds them together, and divides by 24. The result is one monthly number. That number goes into your debt-to-income ratio, which is the share of monthly income your debts consume.

Here is the sequence, start to finish, as a lender typically applies it to self-employed income.

1. Classify you as self-employed. Owning a meaningful share of a business, or earning 1099 income instead of a paycheck, usually triggers it. Many agency-style programs use a 25% ownership line. Treat that as a common convention, not a law.

2. Adjust the net figure. Add back items that cost you no cash. Subtract a few that overstate income.

3. Average over 24 months. Add the two adjusted annual figures. Divide by 24.

4. Apply the trend test. Compare the newer year to the older one.

5. Run the ratios. The monthly figure is divided into your total monthly obligations to produce debt-to-income.

Those are the mechanics most tax-return programs share. Across the wholesale network Lendmire works with, the specifics shift by lender, which is why one borrower can get different answers from different programs.

Which Number Do Lenders Start With?

They start with net business income from the return that matches your entity type. The form changes with structure, but the idea does not. Lenders want what the business earned after expenses, then they correct for non-cash items.

For S-corp and partnership income, lenders often ask whether the business can actually distribute the earnings to you. Income that sits trapped in a thin-cash business may not count. Always check line numbers against the IRS Schedule C instructions with your CPA, because forms change.

What Gets Added Back and What Gets Subtracted?

Non-cash and non-recurring expenses are typically added back. A few items come out. Add-backs matter because they restore income that depreciation and similar write-offs pushed down on paper.

This list follows long-standing agency-style cash-flow methodology. It is industry convention, not a rule every alternative program must follow. Lenders vary on the edges, and a good underwriter weighs the reason behind each item.

Add-backs soften the damage from write-offs. They do not erase it. A cash expense, like fuel, payroll, or inventory, stays deducted.

Worked Example: Rising, Stable, and Declining Income

Rather than invent dollar figures, think in relative terms. These three patterns show how the same method produces very different results.

Picture an owner whose adjusted income grew each year. The average understates today’s earnings, because the first year pulls it down. Now picture an owner whose income fell. The average would flatter that borrower, so most lenders skip it and use the lower figure. That asymmetry is the reason a bad recent year hurts more than a good one helps. It is a practitioner generalization, typical but not universal.

Why Does a Low Year Hurt More Than a High Year Helps?

Lenders are underwriting whether income will continue. A falling trend suggests it may keep falling. A rising trend suggests nothing certain, so they take the cautious middle. The logic is conservative by design.

If income dropped, the underwriter will ask why. A written explanation, a current year-to-date profit and loss statement, or evidence the business has stabilized can help. Depreciation can make a decline look worse on paper than it is in cash terms, so add-backs matter most in exactly this case. Agency-style guidelines tend to focus on how steep the drop was. Exact thresholds vary, so do not assume a magic percentage.

Is Two Years a Law?

No. Federal law requires a lender to make a reasonable, good-faith determination that you can repay, and to verify the information it relies on with reliable third-party records. The CFPB’s compliance guide says income can be verified with traditional personal-income documentation, bank statements, and similar records. The Federal Register preamble adds that creditors may look to outside standards for a self-employed borrower’s income, and it sets no two-year formula.

So the two-year average is an underwriting convention rather than a federal requirement. Non-qualified-mortgage (non-QM) programs, meaning loans outside the standard agency box, set their own standards.

What About Under Two Years of Self-Employment?

It is harder, not impossible. Some programs consider one year if you worked in the same field before, with comparable or higher income. Treat that as a program-by-program exception. Another route is to skip the tax-return method entirely.

What Are the Alternatives to Tax-Return Averaging?

Several exist, and choosing among them is often the real decision. A bank statement program reviews your file on documented deposits instead of net taxable income.

From the programs Lendmire places files with, the network mechanics look like this. Qualification uses 12 months of business or personal bank statements, and qualifying income comes from deposit averages with lender-specific expense factors. Never assume a universal formula. This route is reviewed on documented income under the applicable program, subject to lender guidelines.

Typical network leverage differs by occupancy:

• Primary residence, purchase or rate-term: up to 90% LTV through select lenders, with stronger files earning the top of the range.
• Primary residence on asset depletion: up to about 80% LTV.
• Owner-occupied cash-out (primary or second home): up to 80% LTV with a fixed expense ratio, or 75% with an accountant-prepared ratio, by loan size and credit.
• Investment-property cash-out: tops out around 75% LTV.
• Investment purchase on bank statements: varies by lender.

Loan sizes generally run from $125,000 to $3,500,000, with reserves commonly around six months of the housing payment. These are typical ranges, and every file is underwritten individually. Lendmire’s piece Lenders Offering HELOCs For Self-employed With Alternative Income Verification covers the equity-line side of this.

When Does Property Cash Flow Replace the Average?

For a rental purchase, often. A debt service coverage ratio (DSCR) loan is reviewed primarily on property-level rental income covering the payment, subject to lender guidelines. You divide monthly rent by the full monthly obligation: principal, interest, taxes, insurance, and any HOA dues. Many programs build around a 1.00x benchmark, and select lenders in the network offer programs below 1.00 with adjusted LTV and terms.

DSCR loans are designed for non-owner-occupied investment properties. Because they are business-purpose investor loans, they are reviewed differently from a standard owner-occupied mortgage. Bank statement loans follow the same split. A bank statement file on a rental you will not live in is business-purpose. One on a home you occupy is a consumer mortgage with consumer disclosures.

That is why tax strategy matters less for a DSCR file. Tax write-offs and deductions do not touch the rent-versus-payment math. The complete DSCR loans guide walks through how that file is built.

Common Misconceptions

• “Lenders use my revenue.” In the tax-return method, they use net income after adjustments.
• “Two years is a law.” It is a convention.
• “Averaging always helps.” If the newest year is lower, the lower year typically governs.
• “Write-offs are fully punished.” Non-cash items like depreciation are typically added back.
• “No tax returns means no documentation.” Bank-statement and DSCR files still verify records.
• “One year self-employed is an automatic no.” Same-field history can open exceptions, varying by program.

Planning Around the Average

If a lean year is coming, timing matters. Income reported in the filing before your application is the one underwriters weigh most. Hold off on stacking discretionary deductions in the year before you apply, if the loan is the goal. Talk to your CPA early. Tax treatment can depend on how the funds are used and how the property is held; investors should keep clear records and speak with a qualified tax professional before relying on any deduction.

Bring a clean year-to-date profit and loss statement, both years of business and personal returns, and a short written explanation for any dip. Lendmire’s article Self-Employed Cash-Out Refinance DTI With Two Years of Tax Returns shows how the resulting income feeds the ratio.

Key Terms Defined

Qualifying income: The single monthly income figure a lender uses to size your loan.

Add-back: A non-cash or non-recurring expense a lender restores to your net income because no real cash left the business.

Debt-to-income (DTI): Your total monthly debt payments divided by qualifying monthly income.

Non-QM: A loan outside agency and standard qualified-mortgage boxes, with the lender setting its own documentation rules.

Expense factor: The percentage a bank statement lender subtracts from deposits to estimate business costs.

DSCR: A property’s monthly rent divided by its full monthly payment; the ratio some investor loans use instead of personal income.

What to Do Next

Lendmire is a broker arranging financing through select lenders in its wholesale network, and nothing here is a commitment to lend. You can reach the team at 828-256-2183.

About Lendmire

As a DSCR and non-QM mortgage broker, Lendmire — NMLS# 2371349 — connects investors with wholesale lending channels across 41 markets, including Washington, D.C. The property’s rental income, not the borrower’s tax returns, is central to lender review, which works for self-employed operators and portfolios beyond four financed properties. Scotsman Guide named Lendmire a Top Mortgage Workplace in both 2025 and 2026.

References

1. CFPB ATR/QM Small Entity Compliance Guide

2. Federal Register, Ability-to-Repay and Qualified Mortgage Standards