SILs are designed for the many prospective home buyers who have the income to afford a mortgage and have acceptable credit, but don't meet traditional underwriting standards – called full documentation or "full-doc." Full documentation generally requires that applicants show that the income they claim was actually earned in each of the two prior years. This is usually done by presenting W-2s or tax returns for two years.

Self-employed borrowers usually have the most trouble meeting this requirement, and SILs were originally designed to deal with them. But many applicants with incomes from salaries also can't meet full-doc requirements. For example, the income they claim might incorporate their latest increase in salary, which is not yet reflected in documents covering past income.

Some lenders require that the SIL borrower execute a Form 4506, which authorizes the lender to request IRS verification of the bottom line of the borrower's tax returns for the previous two years. Lenders who require a 4506 don't ordinarily check the returns, but the possibility that they might is viewed as an inducement to report income truthfully. If the borrower defaults very quickly, the lender might check the returns for possible evidence of fraud. Many mortgage brokers steer borrowers away from SI programs in which the 4506 is required.

In many cases, a check of tax returns would not reveal a falsehood. This includes the case of the woman who wrote the letter cited above, who filed a joint return with her husband. This is probably why many lenders do not bother with a 4506.

While lenders don't check income on a SIL, they do check the source of the income. Ordinarily, they require that a self-employed borrower be self-employed in the same business for two years, and that a salaried employee be employed in the same line of work for two years.

The income stated by the applicant is not verified, but it must be roughly consistent with incomes earned in the type of business or line of work in which the applicant is involved. Where the range of incomes is very large and the applicant comes in at the top of the range, the underwriter might ask the applicant to strengthen the application by showing significant financial assets.

SIL lies are less about the true amount of income the borrower has available than about the source of the income. Few loan officers or mortgage brokers will encourage borrowers to exaggerate the amount of their income, because that is the surest path to a default where everybody loses. But embroidering on the source of the income is viewed as OK, so long as the borrower really has the income and is not uncomfortable embroidering. Their general attitude is, "so long as the borrower really has the income, what does it matter where it comes from?"

The inducement to lie on a SIL is that the price of the mortgage, while higher than the price on an identical loan with full documentation, is lower than the price with no documentation. For example, the rate could be .4 percent higher on an SIL than on a full-doc loan, but .2 percent lower than on a no-doc loan. (I took these adjustments off one lender's price sheet, another lender might price differently.)

The woman who wrote the letter above can easily rationalize the lie that the income of her husband's is actually hers. Indeed, she lives in a community property state where husband and wife share legal right to each other's incomes. But the loan officer did not try to persuade her to sign, and I didn't either. She must be the custodian of her own conscience.