A DSCR loan refers to a loan that is underwritten based on the Debt Service Coverage Ratio (DSCR).

The DSCR is a financial metric used to measure a borrower's ability to repay debt by comparing the net operating income (NOI) of an income-generating property (like a rental property or commercial real estate) to the debt payments required for that property.

How DSCR works:

• DSCR = Net Operating Income (NOI) / Debt Service (Loan Payments)

• NOI: This is the income from the property after operating expenses, but before debt payments, taxes, and interest.

• Debt Service: This is the total amount of money needed to cover the loan's principal and interest payments over a certain period (usually monthly).

What it means for the loan:

• A DSCR greater than 1 means that the property generates enough income to cover the debt payments with some surplus. For example, a DSCR of 1.2 means the property generates 20% more income than the debt service required.

• A DSCR less than 1 means that the property’s income is insufficient to cover debt payments, and the borrower may need additional sources of income or collateral to secure the loan.

Example of DSCR loan underwriting:

Suppose you are applying for a loan to buy a rental property. The property’s net operating income (NOI) is $120,000 per year, and the annual debt service (principal + interest payments) is $100,000. The DSCR would be:

DSCR=NOI Debt Service=120,000100,000=1.2\text{DSCR} = \frac{\text{NOI}}{\text{Debt Service}} = \frac{120,000}{100,000} = 1.2DSCR=Debt Service NOI​=100,000120,000​=1.2

This means the property has 20% more income than what is needed to cover the debt. Lenders typically look for a DSCR above 1.0 to ensure the borrower can comfortably make the required payments.

DSCR Loan Types:

• Commercial real estate loans: DSCR is often used to assess loans for office buildings, retail spaces, or apartment complexes.

• Rental property loans: For individual or multifamily rental properties, the DSCR is a key metric to determine the loan's viability.

• No-income verification loans: Some lenders offer DSCR loans where the borrower doesn’t need to provide personal income documentation, as the loan is underwritten based on the income produced by the property itself.

Lender Requirements:

• Minimum DSCR: Many lenders require a minimum DSCR of around 1.2–1.3 to ensure the property generates enough income to cover debt payments.

• Loan-to-Value (LTV) ratio: While the DSCR is important, the LTV ratio also plays a key role in determining loan approval. Lenders may be more willing to offer higher LTV ratios on properties with higher DSCRs.

DSCR loans are particularly common in commercial real estate and investment property financing, as they focus on the property's ability to generate income rather than the borrower’s personal creditworthiness.

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