The Debt Service Coverage Ratio (DSCR) loan provides money to real estate investors to buy investment property that is more based on the property rental income rather than the borrower’s personal income. Credit scores are considered as part of the DSCR loan application. DSCR loans can have similar lengths as traditional mortgages do but the interest rate will be higher typically as compared to the traditional mortgage.

What is a DSCR Loan?

A DSCR loan is a loan for residential investment real estate. The DSCR loan is not available for an owner-occupied house hack type of situation where the owner lives in one unit and rents out the other units. For the owner-occupied house hack the conventional mortgage or government backed mortgages (if eligible) will be a better option since the terms are more favorable for the owner occupant. There are limits as to how many conventional loans one can have and the conventional loan does take into consideration the income of the borrower versus the DSCR loan which looks at the income of the property and does not take into consideration the borrowers’ personal income.

The ratio in DSCR refers to the ratio of net operating income (NOI) divided by the total debt service. That is the only income the lender will be looking at when qualifying the property for a DSCR loan. The DSCR ratio number must meet or be higher than the required number for the lender. Many lenders have a 1.25 ratio requirement which means the rent payments from tenants need to cover 125% of the mortgage. In other words, rent comes in monthly that covers 100% of the mortgage amount plus an extra 25% in rental income above that. The extra amount is usually used as buffer to cover for times when maybe all units are not occupied by paying tenants.

There is more to owning investment real estate than just paying the mortgage, taxes and insurance. With residential properties there are common areas that need to be maintained, equipment like furnaces, water heaters, AC systems and more that need to be kept in good working condition, in order to keep tenants happy and comply with residential occupancy laws. So even though the rents may cover the mortgage at least 125% that does not necessarily mean the property would be a good investment if the other expenses of owning residential real estate are not being met by the incoming rents.

What Kinds of Properties Will DSCR Loans Cover?

DSCR loans are primarily for residential investment real estate. While there may be some lenders who offer DSCR loans on mixed-use properties where the majority of the use is residential, for the most part these are meant for residential rentals mainly. Here at Mr. Lendr our products only cover residential real estate which are from 1 to 4 units. Some other lenders may have loans that cover a greater unit count than 4 units. 

What Happens if a DSCR Loan is Below the Ratio?

If the income received from the tenants is below the ratio at initial application that loan will likely be denied unless a larger downpayment is provided. The larger down payment helps reduce the mortgage payment thus allowing the ratio number to come up.

Under the loan terms the ratio must be met or be higher the entire time the loan is in existence as well. The lender can ask for rent information on an annual, quarterly or monthly basis. Typically, on a properly performing property where the ratio is above the minimum number required by the lender, they will ask for proof that the loan meets the ratio requirements on an annual basis. If the lender discovers that the property is unable to meet the ratio requirement, they can request rent information more frequently to make sure the owner is working towards getting vacant units rented and making sure the owner is properly maintaining the units so full market rent can be achieved.

If over a period of time the owner cannot get the ratio at or above the minimum requirement, the lender can require the borrower to put in more cash to reduce the mortgage payment. As an alternative the lender can also declare the loan to be in default and require immediate repayment of the loan or proceed to foreclosure as a last resort. Building owners are strongly advised to keep their properties in tip top shape so full market rents can be utilized and tenants want to stick around.

Can a DSCR Covered Property Be Held in an LLC?

Whereas a conventional residential mortgage requires the owner to hold the property in their personal names, with the DSCR loan most lenders prefer the property covered by a DSCR loan to be held in an LLC. If a homeowner were to transfer the ownership of their property to an LLC under a traditional mortgage, they would be triggering the due on sale clause which prohibits the transfer of the property without the lenders consent. Under the due on sale clause the lender could demand immediate repayment of the loan.

By holding the investment property in an LLC, the owner is protecting their personal assets from any potential lawsuit. If someone were suing the LLC for any reason the person filing the lawsuit is limited to collecting only from any LLC owned assets and not from the owner’s personal assets.

How Many Units Do DSCR Loans Cover?

The answer to this question will vary by lender. Most lenders limit DSCR loans to 1 to 4 unit investment buildings. There are some lenders who can provide a DSCR loan for an investment building that has 20 units. I am able to provide DSCR loans for up to 4 unit investment buildings.

How Much Down Payment is Required?

The amount of downpayment required will be based on things like one’s credit score, property type (Single Family vs Multi-Family or short-term rentals versus long term rental type of buildings) and borrower profile (assets vs debts of the borrower as well as experience). Higher risk loans require higher down payment, and higher risk is defined as an investor with less experience, lower credit score, or assets that are on the lower side of the requirements set by the lender.

DSCR Loan Interest Rate Compared to Conventional Mortgage?

Interest rates for the DSCR loan will be higher than a conventional mortgage. Typically, the interest rate charged for a DSCR loan will be about 0.5% to 1.5% higher than a conventional mortgage. Investors are ok the higher interest rate since there is no limit on how many DSCR loans one can have (there is a limit on conventional loans) and the DSCR loan does not consider the personal income of the borrower. Sometimes real estate investors may have low income reported on their taxes based on tax advisor guidance and that can prevent them from qualifying for a traditional mortgage.

How Do You Apply for a DSCR Loan?

If you have a property in the states listed below, applying for a DSCR loan with us is as simple as clicking on this link and starting the application process. You will need to have on hand the rent rolls of the building, a trailing 12-month profit/loss statement that shows the expenses and income for the building for the last two years and expect to have your credit pulled for review. Once a complete application and all additional paperwork have been submitted the loan review process will begin to determine if the property qualifies for a DSCR loan. Loans can be closed in as little as 21 days if all paperwork is in order for a well prepared investor.

Ready to apply for the DSCR loan in these states: Alabama, Alaska, Arkansas, Colorado, Connecticut, Delaware, Georgia, Hawaii, Illinois, Indiana, Iowa, Kansas, Kentucky, Louisiana, Maine, Maryland, Massachusetts, Mississippi, Missouri, Montana, Nebraska, New Hampshire, New Mexico, Ohio, Oklahoma, Pennsylvania, Rhode Island, South Carolina, Tennessee, Texas, Virginia, Washington, Washington, D.C., West Virginia, Wisconsin, Wyoming ?

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