The Debt Service Coverage Ratio Loan

The Debt Service Coverage Ratio loan is something I’ve recently came across and I have to say, I wish I knew about it several years ago! My buddy Anson Young and I host a monthly Mastermind, where we interview experts about a variety of real estate investor topics and the DSCR loan was a recent topic. We had a loan officer on to explain all of the ins and outs and I wanted to share the tidbits!

What is a DSCR Loan?

DSCR stands for Debt Service Coverage Ratio loan.

The debt service coverage ratio (DSCR) is a measurement of the ability of a property to cover its expenses. The higher the DSCR, the better. This type of loan measures the ratio between net operating income (NOI) and total debt service for the property. It’s calculated by dividing NOI by annual debt service.

How Do Debt Service Coverage Ratio Loans Work?

When you apply for a debt service coverage ratio loan, the lender will determine how much you can borrow based on your income and expenses. If you have an existing mortgage or other debts, these will also be considered when calculating how much money you can borrow.

If your credit score is good, then you may qualify for a higher loan amount than someone with lower credit scores. The amount you have to put down could also affect your ability to get a larger amount or a better interest rate. If your credit score isn’t as high as it could be, then the lender may require additional money down to cover closing costs and other fees associated with purchasing real estate. In addition to this, lenders will also take into consideration whether or not an applicant has sufficient reserves in case of an emergency or unexpected event that causes them to miss a payment on their mortgage. Typically, the lender wants to see 6 months of reserves on the first DSCR loan and 2-3 months for additional properties.

Who is the DSCR Loan for?

The DSCR loan is perfect for seasoned investors who have a proven track record for investing, have solid reserves, haven’t had a bankrupcy or foreclosure in the past 3 years and may not have a W-2.

Depending on the asset class you invest in, the DSCR loan may not be for you. If you are fixing and flipping homes, with a 2-4 month runnway, this type of loan won’t serve you, as there are pre-payment penalties. Depending on your unique situation thouh, if your flip project has a bigger scope, the rate may be worth paying a bit of a pre-payment penalty for. Make sure to talk to your lender!

What do you need to provide to your lender to qualify for a DSCR Loan?

Getting your ducks in a row to qualify for a DSCR loan should be a breeze for a seasoned investor. Providing market value rental comparables should be your number one step. Ensuring that the debt to coverage ratio is covered or mostly covered will be extremely important to underwriting. Proving you have ample reserves in savings or accessible investments (such as brokerage accounts or even your IRA) will be required, along with a 20-25% downpayment.

The above only scratches the service of the benefits and details of the DSCR loan. If you have any additional questions – or would like to chat with a lendor about this type of loan – don’t hesitate to reach out!