Qualifying Mortgages with Rental Income from a Multi-Family Primary Residence

Whenever a borrower approaches you about purchasing a primary residence, you know how to work through that loan scenario with your eyes closed. Probably same for when you’re looking at a file for an investment property. But what about when a borrower is looking to purchase a 2-4 unit property that will not only be used to generate rental income, but also be used as their primary residence?

While it’s not a common scenario, walking through what to expect in this scenario can help you as a loan officer take a more complete application and ask the right questions to a borrower interested in purchasing a multi-family property for their primary residence. This post will also help you understand which scenarios will allow borrowers to put rental income towards the mortgage payment.

Use the URLA to Your Advantage

With the new Uniform Residential Loan Application (URLA) now in effect, the good news is many of the inputs you need to make a critical credit decision are data points in the application.

In Section 1, apart from the standard borrower information about current address, tenure at current address, and if they own or rent, there’s a new option for “no primary housing expense,” a key indicator you’ll need to determine if your borrower can put rental income towards their mortgage payment if they’re purchasing a 2-4 unit property for primary residence.

In Section 4, you’ll focus on the subject property including the purpose of the transaction (purchase/refinance), the number of units in the property, the purpose of the subject property (primary residence/second home/investment), and projected monthly rental income. These are more key data points you’ll need to make a smart credit decision.

The URLA is standard for loans to be sold to the GSEs, but you’ll want to know some key differences between how Fannie Mae and Freddie Mac handle the purchase scenario at hand.

Fannie Mae Guidance on Qualifying with Rental Income

The first step you’ll need to take with evaluating the loan for sale to Fannie Mae is to determine what the current rental income potential for the multi-family residence is. For both Fannie Mae and Freddie Mac, you can determine the amount of rental income available from the appraisal, borrower tax returns or signed leases (although always check with the GSEs to ensure you have the most up-to-date guidance).

Next, using Sections 1, 3, and 4 on the URLA, you’ll determine if the borrower’s scenario will allow them to use their rental income towards the payment of their mortgage which is typically 75% of the listed amount in the appraiser’s report. The questions you’ll ask will revolve around if the borrower currently owns or rents, if they have property management experience, and the length of their management experience. We’ll walk through a few examples to give you a concrete idea of how this might happen.

In Scenario 1, we’re considering someone who currently owns a primary residence and whose primary living expense is their existing mortgage. They also have over a year of property management experience. With these criteria, this borrower may use the full 75% of the listed suggested rent toward the payment of their mortgage.

One thing we want to note with this scenario is to be on the lookout for reverse occupancy representation. Does it seem legitimate that this borrower who currently owns a home wants to move into a multi-family property? What will happen to their existing home? These are the types of probing questions you’ll want to ask on all applications to ensure you’re taking as complete of an application as possible.

In Scenario 2, the borrower currently rents a property and has a little less than a year of property management experience. In this case, they may put rental income towards their mortgage payment but that amount may not exceed the proposed PITI.

In Scenario 3, the borrower has no primary living expense (maybe they live rent-free with a parent or sibling) and no property management experience. As you might have guessed, this borrower would not be allowed to put rental income toward their mortgage payment.

For more detail, you’ll want to look at Fannie Mae’s Selling Guide Section B2-3. 1-08 Rental Income.

Freddie Mac Guidance on Qualifying with Rental Income

As with above, the application will help you answer questions of primary living expense and property management experience. One key difference between Fannie Mae and Freddie Mac in determining rental income rate is that Freddie Mac says you may either use the lease, if available, to determine the net rental income OR use Form 72 or 1000 to determine the net rental income if the lease is not available.

One other difference to note between Fannie Mae and Freddie Mac is Freddie Mac requires 6 months of reserve capital for a 2-4 unit property being used as a primary residence.

In Scenario 1, the borrower has no primary living expense and no property management experience so they may not use rental income towards the payment of their mortgage.

In Scenario 2, the borrower’s primary living expense is paying rent and they don’t have any property management experience. A difference to note here is Freddie Mac does not allow rental income to be used if the borrower does not already own a primary residence at the time of this transaction.

In Scenario 3, the borrower currently owns their primary residence and has less than a year or property management experience. In this case, they can use rental income to pay for their mortgage, but it may not exceed the proposed PITI.

In Scenario 4, the borrower owns their primary residence and has a year or more of property management experience. In this case, they can use the rental income as proposed by the appraisal report or Form 72 to pay for their mortgage.

For more detail in determining if a borrower can use rental income from a multi-family property used as a primary residence, you’ll want to use Freddie Mac’s Rental Income Matrix and Form 92.

Wrap Up

While a borrower purchasing a multi-family property to use as a primary residence isn’t a common scenario, having a basic understanding of this type of transaction and the ability to use rental income to pay for the mortgage will mean you’ll be more prepared if and when you encounter it.

If you’re looking for more resources on rental income calculations and qualifications, you can check out our popular calculators as well as our rental income training courses.

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