A Proof of Income Letter is a document that states how much someone is earning to verify whether he or she can pay for something.
What is Proof of Income?
In the case of renters, proof of income is a document your new possible tenant uses to assure you, the landlord, that he or she can afford to pay the rent.
Along with other items requested on a Rental Application, proof of income documents help a landlord screen potential tenants and mitigate risk.
Although a pay stub is the most commonly used proof of income, several other documents can affirm your income, even if you’re self-employed.
Why Do You Need a Proof of Income Statement?
It is pretty standard for landlords to require proof of income before signing a lease agreement.
This is because income verification helps to guarantee landlords they will get the money they deserve, which decreases their risk.
How to Show Proof of Income
When landlords demand proof of income, renters must submit certain documents as evidence.
Generally, renters need to produce at least two forms of proof of income to protect landlords against false claims.
Proof of Income Documents
The documents below are the most common forms of proof of income. However, if your tenant has other documents that he or she wishes to use as evidence, talk to him or her about it.
Some documents hold more weight than others, so discuss what constitutes appropriate proof of income before accepting anything to avoid a hassle.
Pay stubs
Also known as a payslip, a pay stub is a document from your tenant’s employer that delineates how much he or she makes, including any deductions.
This is commonly considered the strongest proof of income.
Where you should be careful: Contact the employer so you can check the validity of the pay stub.
Proof of Income letter
Also known as a salary verification letter, a proof of income letter is a note a renter’s employer writes describing the applicant’s role in the company, how much he or she earns, and how long he or she or she has worked there.
Depending on your potential renter’s relationship with his or her employer, this can also serve as a letter of recommendation in lieu of an employment verification letter that further assures the landlord that the applicant is trustworthy and not someone to avoid.
Where you should be careful: Confirm the proof of income letter with the employer since tenants can easily forge this document.
Tax returns
A tax return is a document that reports the tenant’s income to a national, state, or local tax agency. It helps determine how much he or she pays in taxes.
Where you should be careful: Verify the tax return date to ensure it’s current.
Social security statement
A social security statement is a document from the Social Security Administration that uses the renter’s earning history to determine how much he or she will receive in benefits in the future.
You can go online at mySocial Security to acquire your social security statement.
Where you should be careful: A social security statement may be one of the most reliable forms of proof of income since it’s easy for renters to access and it’s a federal document.
However, how effective it is for proving income highly depends on how the federal government decides to handle social security in the future.
Bank statement
Bank statements are monthly documents that disclose your transactions, including any withdrawals, deposits, or fees. This would include any income that gets deposited into your account.
Where you should be careful: Bank statements reveal much about your would-be tenant’s life, so be delicate when asking for this particular document and treat it as a last resort.
Proof of Income for Self-Employed Applicants
If you’re self-employed, don’t worry! There are still documents you can furnish to vouch for your income.
IRS Form 1099 Miscellaneous Income
If your renter is a freelancer, Form 1099-MISC is a form that he or she should complete for each job that pays him or her at least $600.
Make sure to have your renter gather all of his or her 1099-MISC forms and turn them over to you so that you know that your renter can secure income for him or herself, even if he or she doesn’t have a traditional job.
Where you should be careful: When relying entirely on 1099-MISC forms, it’s difficult for landlords to determine the renter’s monthly income since there’s no guarantee that the renter will be able to secure as many jobs as possible next month.
Tax returns
A tax return would be a great proof of income for self-employed individuals because it contains income information gleaned from your 1099-MISC forms. You can get an IRS 1040 form from our legal document library.
Bank statements
Similarly, even without a regular job, bank statements are a strong supplement for proof of income because they track any income deposited into your account.
What is an Ideal Rent-to-Income Ratio?
Now that your tenant has turned in their proof of income, how can you tell if the tenant has the means to lease your property? One way is to look at the rent-to-income ratio.
Generally, the standard is that the rent should be 30% of your tenant’s income. If the rent is more than 30% of the renter’s income, then your renter runs the risk of not making enough cash to pay for their lifestyle and, by extension, may not be able to pay rent regularly.
Calculating rent-to-income ratio
Let’s say your income was $30,000/year and the rent for the property is $1,000/month.
$30,000/12 months = $2,500
$2,500 * 0.30 = $750
The tenant can afford up to $750 in rent, making the rent for this property too high.
Check out this online rent-to-income calculator if math is not your strong suit. Just enter how much the desired rent-to-income ratio is and the tenant’s salary, and the calculator will tell you how much rent your tenant can afford.
How to Use the Rent Coverage Ratio?
Another helpful ratio you can use to determine whether or not your tenant has the means to pay rent is the rent coverage ratio. Calculate this ratio by dividing your income by your total expenses.
A reasonable rent coverage ratio is 1.3 or higher. So, similar to the rent-to-income ratio, if your calculations yield a rent coverage ratio lower than 1.3, you step into the dangerous territory of your renter not being able to afford rent.
Calculating rent coverage ratio
Let’s stick to the example of your income being $30,000/year and your rent being $1,000/month.
Total expenses: $23,000
- Rent: $12,000
- Utilities: $3,000
- Food: $3,700
- Cable: $1,800
- Phone: $1,200
- Car: $1,300
$30,000/$23,000 = 1.3
The ratio is exactly 1.3, making the rent affordable to the tenant.
Summary
When the landlord agrees to take on a tenant, an essential consideration is whether or not the renter can afford to live at your property.
Thus, landlords need to know what constitutes proof of income to quickly determine if the applicant will be a fitting tenant.
