Borrowers who have contributed to the US Government Social Security program may qualify for retirement, disability, or survivors benefits. The contributions for this program are collected by your employer’s payroll provider, or if the borrower is self-employed, it is collected via the 1040 tax forms along with other federal taxes.
When a borrower is using Social Security retirement benefits the underwriter typically follows these steps:
First, the underwriter confirms receipt of the retirement income to the borrower using the award letter, personal tax returns, 1099 R statements, or bank account statements.
Second, the underwriter calculates the monthly amount. This process is pretty straightforward since the Social Security amount is generally a fixed payment and once awarded, the borrower receives the payments until death.
Third, the underwriter may have an option to gross up the amount awarded by the Social Security Administration. Per underwriting guidelines if the Social Security income is not taxed, it can be grossed up. In the majority of cases, Social Security income is not taxed. The reason it can be grossed up between 15-25% is because mortgage underwriting calculations assume that all income is taxed. Grossing up allows incomes documented as tax free to add back the taxed amount.
For example, on a conforming loan if a borrower’s Social Security award letter states the monthly benefit is $1,000, 25% or $250 can be added to the amount to qualify. Thus the qualifying income is $1,250 per month.
Special Note – Grossing Up Social Security Income
IRS Guidelines state that a maximum of 85% of SS income is taxable, the remaining 15% is non-taxable and can be grossed up per guidelines (25% for agencies except FHA which is 15%).
All of the lending agencies state that non taxable income can be grossed up to qualify a borrower. The guidelines do state that “documentation /explanation” . The explanation is the IRS regulations of the 15% is always not taxable.
FNMA and FHLMC state in their guidelines about this “rule” and do not require further documentation be sent. Although FHA VA USDA do not have that in writing the IRS guidelines automatically support that this last 15% is non taxable.
How Fannie and Freddie Describe Determining The Non Taxable 15% :
- Find the Non-Taxable Portion
15% of SS income is non-taxable
→ Example Award Letter: $1,000 × 15% = $150 - Apply the Gross-Up Rate To The Non Taxable Portion
→ $150 × 25% = $37.50 - Add to Original Income
→ $1,000 + $37.50 = $1,037.50 qualifying income
Our Shortcut To Reach The Same Outcome
To save time, our method uses a shortcut formula that gives the same result:
FHLMC/FNMA/USDA/VA Loans
Formula: SS income × 3.75% = Gross-up amount
Example: $1,000 × 3.75% = $37.50
Final Income: $1,000 + $37.50 = $1,037.50
FHA Loans
Formula: SS income ×2.25% = Gross-up amount
Example: $1,000 × 2.25% = $22.50}
Final Income: $1,000 + $22.50 = $1,022.50
When an income is created for SS or disability income, our system automatically uses this 3.75% (or 2.25% for FHA ) shortcut—fully aligned with all guidelines.