Quick answer

Underwriters verify rental income with tax returns, leases and bank records, then convert that rent into a reliable, qualifying income stream by averaging and adjusting for expenses and vacancies. Lender rules vary, so early documentation and clear records matter.

Key documents lenders commonly require

  • Two years of signed federal tax returns (Form 1040 with Schedule E) showing rental profit/loss. (IRS: About Schedule E: https://www.irs.gov/forms-pubs/about-schedule-e)
  • Current leases or signed 12‑month lease agreements for the subject property.
  • Year-to-date profit-and-loss statements and business bank statements for self-managed rentals.
  • A signed 4506-T if the lender needs IRS tax-return transcripts.

How underwriters convert rent into qualifying income

  1. Verify history: underwriters prefer a 2‑year history of rental income reported on Schedule E. If the property just started producing rent, lenders look for a signed lease and borrower reserves.

  2. Use net, not gross: lenders usually base qualifying income on the net rental income shown on tax returns (rental receipts minus allowable expenses). If Schedule E shows net positive income, many lenders average the last two years.

  3. Apply conservative adjustments: lenders often reduce gross rent to account for vacancy and routine expenses — a common industry practice is to apply a vacancy/expense adjustment (for example, counting ~75% of gross rent), but exact treatment depends on the lender and loan program.

  4. Check for consistency: sporadic rental payments, large one‑time gains, or large losses can lead underwriters to exclude or discount the income.

Differences by loan type (what to expect)

  • Conventional (Fannie/Freddie): Underwriters commonly accept Schedule E net income averaged over two years. Individual lender overlays can tighten requirements—ask the specific lender for their guidelines.
  • Government loans (FHA/VA): These programs may accept rental income with supporting tax documentation and leases, but lenders can still apply program‑specific rules and overlays.
  • Short‑term (vacation) rentals: Often treated more cautiously. Lenders may require consistent documented history and may exclude short‑term income if it’s not reported reliably on tax returns.

Examples (simple illustrations)

  • Example A: Schedule E shows $18,000 net rental income over the last year and $12,000 the prior year. An underwriter averages the two (\$15,000/year = \$1,250/month) and may use that as qualifying income after reviewing consistency and documentation.
  • Example B: A property shows $1,500/month gross rent but Schedule E net after expenses is $900/month. Underwriters typically rely on the tax‑reported net, not the gross, when qualifying the borrower.

Practical tips to improve approval odds

  • Keep two years of clean tax records (Form 1040 + Schedule E) and current leases.
  • Track rent deposits separately in a bank account and keep a year‑to‑date profit & loss statement.
  • Expect a lender to pull tax transcripts (4506‑T); avoid amending returns close to application time unless necessary.
  • Maintain reserves — lenders often want several months of mortgage payments in liquid savings if rental income is a large part of qualifying income.
  • If you manage short‑term rentals, document platform statements (Airbnb, VRBO) plus tax filing showing that income.

When rental income may be excluded or discounted

  • No tax history: new rentals with no 2‑year tax history often count only if there’s a signed lease and sufficient borrower reserves.
  • Large, inconsistent expenses or losses on Schedule E can reduce or eliminate qualifying income.
  • Unreported or informal (verbal) rental arrangements are generally not acceptable.

Common mistakes to avoid

  • Assuming gross rent equals qualifying income — underwriters usually use net taxable rental income.
  • Relying on informal leases or undocumented tenant payments.
  • Forgetting to disclose rental income on tax returns — lenders verify with tax transcripts.

Related reading (internal links)

Authoritative sources

Professional disclaimer

This article is educational and summarizes common underwriting practices as of 2025. Rules and lender overlays change frequently; consult your mortgage professional or loan officer for advice tailored to your situation.