Debt Service Coverage Ratio (DSCR) loans are a valuable financing option for real estate investors and businesses. Understanding how these loans work and their benefits can help borrowers make informed decisions.
A DSCR loan is a type of financing where the lender evaluates an investment property’s ability to pay for itself with rental income rather than the borrower’s personal income. The DSCR program can be used to purchase a property or refinance an existing mortgage.
How to Calculate DSCR
The Debt Service Coverage Ratio is determined with this formula:
DSCR = Monthly Rental Income ÷ Monthly Principal + Interest + Taxes + Insurance
When purchasing with the DSCR program, the monthly rental income will be determined by an appraisal. When refinancing, the monthly rental income will be determined by the existing lease, short-term rental income for the last 12 months or an appraisal.
For example, an investment property with a monthly rental income of $2000 and a monthly PITI of $1600 has a DSCR of 1.25.
Eligibility Requirements
Eligibility guidelines will vary with each lender so we will give a broad outline :
- Most lenders require a credit score of 620 or higher
- A minimum DSCR of 1.10 is common but some lenders have no minimum ratio
- A minimum down payment of 20% for most purchases
- A maximum loan-to-value of 80% for refinance loans
Benefits of DSCR Programs
- No need to document personal income
- Works for short-term or long-term rental income
- Allows investors to scale their business up
- Eligible for cash-out refinancing, allowing investors to tap their equity
- Property can be held in the name of an LLC
Application Requirements
Because the loan does not rely on the borrower’s personal income, the application is more streamlined than other programs and lenders will only require the following:
- Credit report
- Proof of assets (bank statements and retirement or investment accounts)
- Property appraisal with estimated rent
- Proof of homeowners insurance