Ask an RU: How do I Navigate Fluctuating/ Variable Income on Mortgage Loans?

The best part about the mortgage industry is that we have the capability to work with many types of borrowers and meet them where they’re at in their homebuying journey. For potential homeowners who have fluctuating or variable income, you may wonder how to best handle this income type on loans in your pipeline. We’ve got you covered!

Donna Muratalla, Regional Underwriter at Enact, explores how to best handle this income type and what you need to know about any GSE requirements.

What is fluctuating/ variable income?

Fluctuating or variable employment income are earnings that fluctuate on a regular basis, often based on factors such as hours worked, job type and/or performance. Fluctuating earnings may include but are not limited to income types such as commissions, overtime, bonus and tips.  All income used to qualify must be expected to continue or have documented continuance for at least three years. The terms fluctuating/variable are used interchangeably.

Additionally, there is hourly fluctuating/variable income. They’re earnings that are based on a pre-determined and agreed upon hourly rate of pay. The hours worked are not pre-determined and may fluctuate with each pay period.

The best way to calculate fluctuating/variable income is to utilize an averaging method. It must be reviewed to assess the borrower’s history of receipt, the frequency of payment, and the trending of the amount of income being received.

What are some requirements for fluctuating/ variable income?

The stability of fluctuating/variable income is primarily determined based on historical earnings, so it is imperative that a sufficient income history has been established and documented. For this reason, most income types that fluctuate have a history requirement of two years.

In certain instances, a shorter history may still be considered stable if the lender provides a written analysis and sufficient supporting documentation justifying the determination of stability. When making this determination, the lender must take into consideration factors such as income and/or employment characteristics and the overall layering of risk factors, including the borrower’s demonstrated ability to repay obligations. The income history receipt must be at least 12 months.

How do we approach fluctuating/ variable income?

Here are some step-by-step instructions to help you navigate this income type.

Step 1:

You will need the income documented with a detailed breakdown of hourly, bonus, overtime, commission and/or tip income.

• Obtain a Verification of Employment (VOE) for the current and prior job(s) or year-to-date (YTD) paystubs plus year-end paystubs and W-2 forms for the previous 2 years.
• Please note, in some cases, you may need to request additional documentation to thoroughly analyze the borrower’s income.

Step 2:

You will now need to calculate the YTD, as well as the previous 2 years earnings.

Example of fluctuating hourly earnings that should be averaged:

• Pay frequency is bi-weekly
• Current YTD paystub shows 79 hours worked
• Prior pay period YTD paystub shows 71 hours worked
• Calculate previous years hourly earnings and compare to the current YTD income received and apply your income calculation by applying an average.

Example of fluctuating hourly earnings that requires additional documentation:

• Pay frequency is weekly
• Paystub covering 10 months of YTD income shows 37 hours worked at a rate of $25.00 per hour
• If the borrower worked 37 hours every week at $25.00 per hour, the YTD earnings should reflect $40,083.
• The YTD paystub shows $35,800 total wages – additional documentation and analysis is necessary.

Bonus income:

• Determine when bonus income is paid out as well as frequency.
• If bonus income is paid out annually, you must divide the amount by 12 months. (if an annual bonus is paid out on March 30^th of the following year- you must use a 12-month average of this income- do not use a lesser month average).  The consistent, annually paid bonus income must be averaged over a 2-year period.
• Calculate previous years bonus income.
• Compare the previous years to the current bonus received and apply your income calculation, by applying an average.

Overtime, commission and tip income:

• You will want to calculate YTD overtime, commission or tip income via the VOE or current YTD paystub.
• Calculate previous year’s income.
• Compare the previous years to the current YTD income received and apply your income calculation by applying an average.

Step 3:

You now need to determine income trending by comparing the YTD earnings as well as year-over-year income from the W-2’s.  You will want to look for stable or positive income trends when using this income source.

• If the income trend is stable or increasing, average the income
• If the income trend is declining and is now stabilized with ZERO reason to believe the borrower will not continue to be employed at the current YTD earning level for the foreseeable future, then utilize the lower YTD Variable/Fluctuating income

If the income trend is declining, with NO support to evidence stabilization, then income may not be stable.  You will want to closely analyze this income source, and any disclosed circumstances to determine if it may be used to qualify.

Get more from the GSEs’ guidelines on fluctuating/ variable income

We’ve only touched the surface on this topic. Freddie Mac has a very comprehensive outline to assist with calculating fluctuating/variable income: Freddie Mac Section 5303.1 and Fannie Mae addresses variable income here: Fannie Mae Section B3-3.1-01. Get all the information and more you’ll need from these sources.

It’s so important to stay up to date on GSE guidelines and requirements. Remember, you can always access these resources and help yourself out by bookmarking them to reference later. Our Regional Underwriting Team also understand that each loan is unique, so reach out anytime to discuss your specific loan details.

More Ways We Can Help

Your Enact MI team has got you covered. They can answer any of your important questions about fluctuating or variable income and provide you with even more underwriting best practices! Our Regional Underwriting Team is available to assist you Monday-Friday 8am to 8pm ET at 800-444-5664 option 2.

Be sure to make the most of your MI experience, too. Please explore our many underwriting resources and underwriting tips for more information. Because going the extra mile comes easy for us, we also offer a comprehensive suite of training resources to help boost your industry experience. And don’t forget to utilize our income calculation tools if you come across different income types on your mortgage loans.

Source:  Donna Muratalla is a Regional Underwriter for Enact.

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