Answer

FHA mortgage lenders must establish the borrower's earnings trend over the previous (2) two years but may average the income over three years, if all three years' tax returns are provided. If the FHA loan applicant provides quarterly tax returns, the analysis can include income through the period covered by the tax filings. If the borrower is not subject to quarterly tax filings or does not file quarterly returns (Form IRS 1040 ES), the income shown on the P&L statement may be included in the analysis, provided the income stream based on the P&L statement is consistent with the previous years' earnings. If the P&L statements submitted for the current year show an income stream considerably greater than what is supported by the previous years' tax returns, the analysis of income must be predicated solely on the income verified through the tax returns. To determine if the business can be expected to continue to generate sufficient income for the borrower's needs, lenders must analyze carefully the business's financial strength, the source of its income, and the general economic outlook for similar businesses in the area. Annual earnings that are stable or increasing are acceptable. Conversely, a borrower whose business shows a significant decline in income over the period analyzed is not acceptable, even if current income and debt ratios meet our guidelines. There are four basic types of business structures: sole proprietorships, corporations; limited liability ('''S''' corporations); and partnerships. Each type requires slightly different forms of analysis as outlined in HUD Handbook 4155.1 REV-5 Section 2-9. For loans underwritten through FHA TOTAL Mortgage Scorecard, refer to the FHA TOTAL Scorecard User Guide available as an attachment to Mortgagee Letter 04-47 for documentation requirements.
Handbook 4155.1: 4.D.4.