DSCR Explained: What It Is and How It Is Calculated
The debt service coverage ratio, or DSCR, measures whether a property's rent covers its loan payments. A ratio of 1.00 means rent exactly covers the payment. Above 1.00 there is a cushion, and below it rent falls short.
Two ways to calculate it
The name is used for two slightly different formulas, so check which one a lender means.
| Method | Formula | Where it is used |
|---|---|---|
| Rent over PITIA | monthly rent ÷ monthly principal, interest, taxes, insurance and association dues | DSCR loans on investment homes |
| Net operating income over debt service | annual NOI ÷ annual loan payments | Commercial property lending |
The first is simpler and uses rent before any operating costs. The second subtracts running costs first, so it usually gives a lower number for the same property. The DSCR calculator uses the first method, and the rental property calculator shows the second.
A worked example
A $350,000 property with a 75 percent loan at 7.5 percent over 30 years, $2,800 monthly rent, $3,850 yearly property tax and $1,752 yearly insurance. These are example figures that follow a published lender example.
- Loan: $262,500. Principal and interest: $1,835 a month.
- Tax and insurance: $321 and $146 a month.
- PITIA: $2,302 a month.
- DSCR: 2,800 ÷ 2,302 = 1.22.
What counts as a good ratio
Lenders set their own minimums. Some size loans to a ratio of 1.25 or higher, and others accept less, sometimes with other conditions. Ask your lender what they require, and what rent figure they will use. A ratio of 1.00 or below means rent does not cover the payment, which makes a loan harder to get or more expensive.
Ways to improve the ratio
Each of these moves the example from 1.22:
- Borrow less. A 70 percent loan instead of 75 percent lifts the ratio to 1.28.
- Raise the rent. $3,000 a month instead of $2,800 gives 1.30.
- Get a lower rate. 6.5 percent instead of 7.5 percent gives 1.32.
- Use an interest-only payment. It lowers the monthly payment, but the loan balance does not fall during that period.
- Lower tax or insurance costs, where you can.
Working backward: the largest loan
You can also start with a target ratio and find the largest loan it allows. Take the rent divided by the target, subtract tax, insurance and any association dues, and find the loan that gives the remaining principal and interest payment. At a target of 1.25 the example above supports a loan of about $253,594, or 72.5 percent of the price. The calculator does this for you when you enter a target.
What lenders may do differently
Lenders may use a signed lease or a market rent estimate, sometimes the lower of the two. They may treat vacancy, reserves and short-term rentals their own way, and they set their own loan-to-value limits. Treat your own figure as a first check and ask the lender for theirs. This guide is general information, not financial advice.
Related
Questions
Can a property qualify with a DSCR under 1.00?
Lenders differ. Some may consider it with other conditions, and others will not. Ask lenders directly, and expect terms to be tougher than for a property that clearly covers its payment.
Does a DSCR loan look at my personal income?
Many DSCR loans focus on the property's rent instead of your personal income, but lenders still check other things, such as credit and how much you are putting down. Ask the lender what they require.
Is DSCR the same as cash flow?
No. DSCR is a ratio, and under the rent-over-PITIA method it uses rent before operating costs such as maintenance and vacancy. A property can have a DSCR above 1.00 and still have thin cash flow once those costs are counted.