Are you looking to grow your real estate portfolio? There are many ways to increase your investments, from diversifying to investing in new properties. One popular strategy among modern investors is to make use of a metric called the Debt-Service Coverage Ratio (DSCR). Rather than looking at your personal income verification or going through complicated conventional loan underwriting procedures, you can use your DSCR to estimate the potential income value of a property versus its assumed debts. Let’s take a closer look.

A Quick Primer on DSCR

DSCR is a rental property’s performance number. It takes the net operating income and divides it by expenses or debt services. A DSCR of 1.0 means your property makes enough to cover its debts but not to earn a profit. Less means you are losing money on the property, more means you are profiting.

To increase the DSCR of a rental, you can either increase the property value, increase rent, or decrease operating expenses. It’s a fine balance to run a property efficiently while maintaining a good relationship with your tenants. A good strategy for raising DSCR is to focus rental profits on paying down property loans so the overall debt services are reduced. The freed-up operating income can then be put towards the next loan and so forth.

But how does DSCR help you expand your real estate portfolio?

What is a Debt Service?

Debt services are money you owe, whether monthly or annually, to keep and maintain your property. They can include property taxes, insurance fees, monthly mortgage payments, utilities, and any services like landscaping or property management.

How DSCR Loans Work for Investors

DSCR is not just a way for investors to determine how well their properties are performing. It’s also a metric that lenders will use to determine your eligibility for DSCR loans and other rental loans. DSCR loans have a quicker turnaround time than conventional mortgages, and they aren’t based on your personal finances—- aside from your credit score.

Instead, lenders use DSCR to determine the risk values of approving the loan.

DSCR Loan Requirements

As with any loan, different lenders may have different requirements. But DSCR Loans typically want to see a DSCR of 1.25 and a minimum credit score of 640. Previous successful property management is a plus but not required. Previous unsuccessful real estate shows you are a higher risk and may lead to additional terms if approved. It’s better to go in fresh or with positive trends.

Why Are DSCR Loans A Better Alternative to Conventional Loans?

DSCR Loans are non-QM loans, and they aren’t held to the same rigorous standards as conventional loans. Additionally, they aren’t based on your finances. If you are self-employed or have a lot of property rental income, you know how complicated taxes and paperwork can be. DSCR loans eliminate that extra baggage by focusing on the property and its location to determine potential cash flow.

Underwriting and documentation aren’t the only differences. DSCR loans also have a higher loan-to-value ratio, meaning borrowers can expect a down payment of around 20-25% on average. They do tend to have higher interest rates, around 1-2%, but they also offer longer repayment periods to better balance your net operating income.

What Can DSCR Loans Cover?

DSCR Loans can be used for residential and commercial rental properties, whether they will be short or long-term rentals. They cannot be used for primary residences, so they won’t work with the House Hacking strategy.

Residential rentals can include single-family residences, apartment complexes, office spaces, multifamily properties, and more. However, they are generally not available for rural properties, condotels, manufactured housing, log cabins, dome homes, or properties with less than 750 square feet.

Ways to Implement DSCR Loans

You can use a DSCR loan to finance, refinance, or cash out a rental property. They are a popular choice for refinancing hard money loans that were used to secure an asset, and they have excellent snowball potential for paying off investment property debts and building cash reserves or reinvesting.

Some lenders also offer portfolio DSCR loans. If you have multiple DSCR loans with a remaining balance of $50,000 or more and a credit score of around 660, a portfolio loan combines individual DSCR loans into one simple payment. If you keep your own books, then you understand just how convenient a portfolio loan can be!

However you choose to implement DSCR loans, you’ll quickly see how efficient and convenient they are compared to conventional mortgages when financing new investment rental properties.

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