How consumers with poor credit can improve their chances of an approval for a car loan if they are employed as an independent contractor
What we know
For car buyers with problem credit it's important that they understand that how their income is reported can affect an application for credit for an auto loan. This is especially critical if all or even a portion of their income comes from working for one or more employers as an independent contractor.
We know this is the case here at Auto Credit Express because for more than twenty years we've been helping credit-challenged car buyers find those car dealers that can offer them their best opportunities for auto loan approvals.
As a result, we are very familiar with the requirements of these high-risk lenders and from experience we know that consumers that want to finance a car with bad credit and no cosigner get turned down even though they earn enough to qualify for one. Here's why:
Unlike regular employees that receive a W-2 wage statement at the end of the year, the wages of independent contractors are reported on a form 1099 they receive from their employer (or "employers" since independent contractors can work for multiple employers).
The employee then reports this income on a Schedule C that, minus expenses, results in their income after expenses (net income). This figure is then transferred to their Form 1040 Federal tax return.
In some cases, because it ends up saving them money, employees who receive this type of income engage in a bit of "creative bookkeeping" by showing more expenses than they actually had. This reduces the amount they're required to pay in income taxes but it can also lead to problems – not the least of which is the possibility of an audit of their tax return by the IRS.
But at this point the concern is not what the IRS might or might not do, but rather the problems this often creates if the FICO scores of these independent contractors fall below 640 and they need to apply for a car loan with a subprime lender.
That's because while traditional lenders usually don't require proof of income, this isn't true for lenders that work with consumers that have questionable credit.
In the case of independent contractors, the net income reported on a tax return is the income these higher-risk lenders will use to qualify them for a car loan.
In most cases these lenders have minimum monthly income requirements. In the case of independent contractors these lenders use the net income reported on tax returns to determine if an applicant meets their income threshold requirements. In addition, they'll also use this net income figure to compute an applicant's debt-to-income ratio as well as determine a car budget for them.
It's at this point that one or even both of these things can happen:
1. These lenders typically have minimum income requirements that range from $1,500 to $1,800 per month. This means the tax return needs to show a minimum net yearly income of anywhere from $18,000 to $21,600.
2. Even if the reported net income qualifies the applicant, total monthly expenses (rent, mortgage, utilities, etc.), are often too high when compared to the reported net income – usually because the actual income is higher. When this is the case, the debt ratio is too high and the loan application will be turned down.
In the case of independent contractors with poor credit scores it's also important that the correct net income be reported for not just one year, but every year. The reason for this is that many subprime lenders will ask for tax returns covering multiple years to prove a level of income stability over time.
As we see it
If you're an independent contractor and have damaged credit, it's important for you to correctly report your income and expenses every year. By doing this you'll give yourself a much better shot at an approval for a loan.
Another important point: Auto Credit Express specializes in helping applicants with bad credit find those dealers that can give them their best chances for approved auto loans.
So if you're ready to reestablish your car credit, you can begin now by filling out our online auto loans application.