Being in self employment can have disadvantages in terms of personal finance, more specifically when the business owner wishes to obtain a mortgage or other type of personal loan.
Many banks have the view that persons in employment, i.e. working for another business, have greater stability. Provided they have worked for that organisation for a few years and have reasonable credit histories the standard multiples of income typically associated with a mortgages will in most cases apply to them.
Those in self employment are often seem to be an increased risk as far as banks are concerned and the uncertainty surrounding working for yourself is given premium attention.
A person in employment would usually be requested to provide three to six months pay slips when applying for a personal mortgage. Occasionally a letter from an employer might be requested stating that the employee is a permanent member of staff, their annual gross salary and their length of service to date.
Those in self employment however can be required to provide two years accounts and a selection of personal bank statements.
In the case that the person is a sole director of a UK company, the salary drawn from the business is largely irrelevant as it is viewed that the entrepreneur can effectively manipulate the distributions from the company.
A combination of profitability and salary are often used as a benchmark of actual income and affordability. This does seem reasonably as the low salary – high profit and high salary – loss making company scenarios should be equalised in order to present a clear picture of the entrepreneur’s personal finances.
These disadvantages however are particular felt by those who have recently started a new business and therefore do not have the two or three year’s financial statements to display.
In additional most new business start-ups are loss making in their initial years and the entrepreneur often does not draw a salary further exacerbating the financial view of their personal circumstances.
Where a person is considering leaving employment and starting a new business but at the same time is also thinking about obtaining a mortgage or other personal loan they should be aware that the timing might influence their success.
It might be advisable to apply to the personal finance before leaving employment when the individual is better able to satisfy to documents requirements and present their financial circumstances in a more favourable light.
