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Getting a home loan approved has always been a challenging process for a self-employed person like a businessman, freelancer, doctor, chartered accountant or shopkeeper as compared to salaried employees. Employed people have salary slip and Form-16 which comes on fixed date every month, due to which banks find it very easy to assess their repayment capacity. On the other hand, financial institutions consider self-employed customers as a higher risk due to business fluctuations, seasonal profits and irregular cash flows. However, this does not at all mean that business people cannot get a home loan. Under the strict guidelines of the Reserve Bank of India (RBI) and financial institutions, banks adopt a very strict and multi-level audit process before giving home loans worth lakhs of crores to any businessman. If you are also self-employed and are planning to get a home loan to buy your dream home, then before reaching the bank’s doorstep, understand the 5 most basic parameters on the basis of which banks decide whether to give you a loan or reject your application.
In case of self-employed applicants, Income Tax Return (ITR) is the biggest and undisputed legal proof of your income. Banks never sanction loans just by looking at one year’s returns, rather they ask for ITR forms, computation of income, audited balance sheet and profit and loss (P&L) accounts for the last 2 to 3 consecutive years. The credit manager of the bank closely observes whether the net annual profit of the company or individual is increasing over time or there is any abnormal decline in it. Apart from this, in order to save tax, many businessmen show high turnover of their business but declare very low net profit. Banks always decide loan eligibility on the basis of your ‘net taxable profit’ i.e. the profit left after deducting tax and not on the total turnover. If the profit margins appear stable and healthy in the financial books certified by CA, the banks immediately give the green signal to the loan file.
After income tax return, banks thoroughly study the bank statements of your current account and savings account for the last 6 to 12 months. The bank statement does not just look at how much money came into the account, but also looks at the continuity of cash flow in the business. Are there regular transactions in the account from 1st to 30th of the month, or is the balance increased only by adding large amounts at the end of the month? Through analytics software, banks check whether there has been any inward/outward check bounce in the account, whether the ECS or auto-debit mandate has failed and whether the minimum average balance (AMB) rule has been violated. If there is regular cash deposit in your account and there is sufficient balance left at the end of the month, it assures the bank that you are fully capable of repaying the home loan EMI every month without any default.
Banks want to ensure how old and stable the business itself is on the basis of which you are seeking a long home loan of 15 to 20 years. This is called ‘Business Vintage’ in financial language. Most of the banks have a mandatory condition that the applicant’s business should be continuously active for a minimum of 3 to 5 years in the same place and in the same field of work. As proof of this, banks ask for GST Registration, MSME Udyam Registration, Shop and Establishment License, Trade License, Partnership Deed or Company Incorporation Certificate. If a person has started a new startup or shop just 6 months or 1 year ago, banks may immediately reject his loan application considering it unsustainable. Along with this, bank officials also come to the business premises (office, shop or factory) and do physical verification (Field Investigation – FI), so that it can be confirmed that the business is actually running at the ground level.
For self-employed individuals, credit score (CIBIL Score) matters more than any other category. To get the cheapest interest rates and faster approval on home loan, your CIBIL score should be at least 750 or above. If your credit history is tainted by delayed payment of any credit card bill, settlement of personal loan or bounced EMI in the past, banks are simply reluctant to take the risk. Apart from CIBIL, banks calculate your ‘Fixed Obligation to Income Ratio’ i.e. FOIR. It simply means how much money is left from your total monthly income after the EMIs of all the existing loans (like car loan, business loan or personal loan). Generally banks keep this limit between 50% to 55%. That is, if your current EMI and the proposed home loan EMI together is going more than 50% of your net monthly income, the bank will either reduce the loan amount or reject the application.
After thoroughly examining the financial health of the self-employed applicant, the bank’s next strict stance is on the property for which the loan is being sought. Since a home loan is a secured loan, the bank keeps the property being purchased as a mortgage. For this, banks conduct a strict ‘legal title search’ of the property through their authorized lawyers, which includes the chain agreement of the last 30 years, NOC, sanctioned map from the local development authority (like DDA, BDA, LDA, MMRDA), and encumbrance certificate. After this, the authorized engineer or valuer of the bank goes to the spot and physically inspects the property and calculates its actual market value. According to RBI rules, banks give loan only up to 75% to 80% of the value of the property (LTV – Loan to Value Ratio), it is mandatory for the applicant to make the down payment of the remaining 20% to 25% from his own savings.
If you are self-employed and want your home loan file to be cleared the first time without any hitches, put some practical strategies into practice immediately. Firstly, if your personal income is a little low on paper, include your working spouse as a ‘co-applicant’ to the loan; This adds to the income of both and there is an immediate 30 to 40 percent increase in loan eligibility. Second, close all your minor personal loan or credit card outstanding dues by making a lump sum payment at least 3 months before applying, so that your FOIR ratio looks clean. Third, if you can afford a larger down payment, offer a 30% or 35% down payment instead of 20%; This reduces the bank’s risk and they approve your file on priority basis at the lowest interest rate despite minor paper deficiencies.