When a tax return no longer tells the full story: Assessing HNW borrowers with changing income – Osman

For high-net-worth (HNW) borrowers, a historical tax return does not always tell the full story.

Professional and financial circumstances can change quickly. A senior executive may move into consultancy, a partner may leave a professional practice, or an established professional may incorporate a new business and begin moving income into a corporate structure.

The result is that the income shown in historical tax documentation may no longer reflect the borrower’s current position.

For lenders assessing substantial residential borrowing, understanding that distinction is becoming increasingly important.

 

Looking beyond the historical position

Historical accounts and tax returns remain an important part of the underwriting process. They provide evidence of established income and can help a lender understand how a borrower’s financial position has developed.

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The difficulty arises when there has been a material change since those documents were produced.

A borrower may have left a partnership, changed their remuneration structure or moved from employment into consultancy. In some cases, the underlying earning capacity remains strong, but the evidence supporting it is now presented differently.

For HNW borrowers, this can be particularly relevant because income is often derived from several sources and can be structured in ways that are less straightforward than a conventional salary.

The question for underwriting therefore becomes not simply what the borrower earned historically, but whether there is sufficient evidence to understand and support the position today.

 

Newly established businesses

A newly incorporated company can add another layer of complexity.

Without completed accounts or an established trading history, a lender may have limited traditional financial information on which to base its assessment. However, the absence of filed accounts does not necessarily mean there is an absence of underlying income.

There may already be contracts in place, invoices raised, established relationships with clients, management information and a demonstrable pipeline of future work.

The challenge is bringing that information together in a way that allows the lender to assess the sustainability of the income and distinguish between a genuinely uncertain position and a business that is simply too new to have produced conventional accounts.

Accountant commentary and up-to-date management information can be particularly useful in providing that additional context.

 

The wider financial picture

For HNW clients, income should rarely be considered in isolation.

Property holdings, business interests, liquidity, existing borrowing and the nature of future income can all provide important context when assessing a substantial mortgage.

This is particularly relevant where the client’s circumstances have evolved but their overall financial position remains strong.

Different lenders will, of course, take different approaches. Some may place greater emphasis on historic income, while others may be prepared to consider a broader range of evidence where the circumstances warrant it.

Understanding those differences is an important part of approaching complex lending.

 

Capital raising requires context

Capital raising can introduce another consideration.

Where a borrower is looking to release a significant amount of capital from a residential property, the purpose of the funds and the wider circumstances will be relevant to the lender’s assessment.

For example, a capital raise used to recoup funds previously invested in a property is fundamentally different in purpose from raising funds to consolidate existing unsecured debt.

For substantial transactions, understanding the source and purpose of the funds can help provide a clearer picture of the overall financing requirement.

 

The importance of presentation

In complex cases, the quality of the information presented to the lender can be as important as the information itself.

Where income has changed, simply providing historical tax returns without explaining what has happened since can leave an incomplete picture.

A clearer approach is to set out the transition: what the previous income was, what has changed, why it has changed, what income is now being generated and what evidence supports the current position.

This does not mean presenting a case more favourably than the facts warrant. It means ensuring that the lender has the information necessary to understand the facts properly.

For HNW borrowers, where financial structures can be more sophisticated, that distinction can make a material difference to the underwriting process.

 

A changing HNW lending landscape

The traditional model of assessing a borrower primarily through historical salary, tax returns and completed company accounts does not always sit comfortably with the way many HNW individuals now earn and structure their income.

That does not make these cases unsuitable for mainstream lending. It does, however, require a more considered assessment of the circumstances and the evidence available.

For lenders and advisers alike, the starting point should be the same: understand the current financial position, establish what has changed and assess the evidence supporting the income going forward.

For the borrower, the key lesson is equally straightforward. Where circumstances have changed materially, preparing the wider financial picture before approaching a lender can help ensure that the application is assessed on the basis of the position that exists today, rather than one that no longer tells the whole story.