Key Takeaways
- DSCR shows if your income can cover your debt payments.
- Use the formula: Net Operating Income ÷ Total Debt Service.
- A DSCR of 1.25 or higher is generally preferred by lenders.
- Higher DSCR can lead to lower down payments and better terms.
- Improve DSCR by increasing income or reducing expenses.
- DSCR is especially important in commercial real estate loans.
Applying for a loan to finance a property or grow your business? Before you move forward, it’s helpful to understand your Debt Service Coverage Ratio (DSCR): a number lenders use to assess whether your income can cover your loan payments.
Knowing how to calculate DSCR helps you set realistic expectations and avoid surprises during the loan process. At Sprint Funding, we believe informed borrowers make stronger financial decisions. That’s why we provide clear, actionable insights to help you get ready.
Have questions about loan options? Contact us today to get started.
Table of Contents
- What Is DSCR?
- Why DSCR Matters
- How to Calculate DSCR
- What Is a Good DSCR?
- How DSCR Affects Your Down Payment
- Improving Your DSCR
- DSCR in Commercial Real Estate Loans
- Build a Stronger Borrowing Strategy Today
What Is DSCR?
The Debt Service Coverage Ratio (DSCR) shows the relationship between your net operating income (NOI) and your debt obligations. It helps lenders understand whether you’re earning enough to make your loan payments without falling behind.
Formula: DSCR = Net Operating Income ÷ Total Debt Service
A DSCR of 1.0 means your income exactly covers your debt. A DSCR above 1.0 means you have more income than debt, while anything below 1.0 suggests that your income may not be enough to meet your loan obligations.
Why DSCR Matters
Lenders use DSCR to evaluate how much financial risk is involved in lending to you. A higher DSCR gives them more confidence that you’ll repay your loan on time.
A higher DSCR may lead to:
- Better approval chances
- Lower interest rates
- More flexible repayment terms
A lower DSCR could result in:
- Larger down payment requirements
- Tighter lending conditions
- Application denial in some cases
By knowing your DSCR ahead of time, you can prepare for what lenders may ask of you and take steps to make your financial position stronger if needed.
How to Calculate DSCR
Figuring out your DSCR is a simple three-step process:
1. Determine Your Net Operating Income (NOI)
This is your total revenue after subtracting operating expenses. Do not include taxes or loan interest in these expenses.
Example:
- Annual rental income: $120,000
- Operating expenses: $30,000
- NOI = $120,000 – $30,000 = $90,000
2. Calculate Your Annual Debt Payments
This includes all loan principal and interest you expect to pay within a year.
Example:
- Monthly loan payment: $6,000
- Annual debt service: $6,000 × 12 = $72,000
3. Use the DSCR Formula
DSCR = $90,000 ÷ $72,000 = 1.25
In this case, a DSCR of 1.25 means you make 25% more than what you need to cover your loan payments. That’s a solid position when applying for financing.
What Is a Good DSCR?
Every lender sets their own standards, but most follow these general guidelines:
- 1.25 or higher: Strong financial standing
- 1.10 to 1.24: May be acceptable but might come with tighter loan terms
- 1.00 to 1.09: Carries more risk; may result in a lower loan amount or require more cash upfront
- Below 1.00: Borrower’s income is too low to cover loan payments without outside support
In commercial real estate lending, a DSCR of 1.25 is often the minimum requirement. This gives the lender a 25% buffer between your income and your debt payments.
How DSCR Affects Your Down Payment
Your DSCR directly influences how much money you may need to contribute upfront.
- Strong DSCR: You’re more likely to qualify with a smaller down payment and better overall terms
- Lower DSCR: The lender may require you to bring more money to the table to offset potential risk
For example, if your DSCR falls below their threshold, a lender might ask for a 30% down payment instead of 20%. This helps reduce their exposure if your income isn’t enough to cover your obligations over time.
Improving Your DSCR
If your current DSCR is below what lenders require, there are ways to raise it before you apply:
- Increase income: Raise rents or grow your business revenue
- Lower expenses: Review and reduce operating costs
- Refinance existing debt: Get a lower interest rate or extend your loan term
- Pay down outstanding balances: Decrease your current debt load
These actions can strengthen your financial position and improve your chances of getting approved for the amount you need.
DSCR in Commercial Real Estate Loans
In commercial real estate, lenders rely heavily on DSCR to evaluate whether the property can support the loan. A DSCR of 1.25 is commonly required because it shows that the property generates enough income to cover debt payments with a financial cushion.
Lenders view properties with steady, reliable income and higher DSCRs as less risky. That means you’re more likely to get approved and more likely to receive favorable terms.
Build a Stronger Borrowing Strategy Today
Understanding how to calculate your DSCR gives you better control over your financial planning. It helps you approach the loan process with a clearer picture of what’s needed and how to prepare for it.
At Sprint Funding, we’re committed to helping borrowers make smart, informed choices. Whether you’re financing your first investment or scaling your portfolio, knowing your DSCR can help you move forward with confidence.
Ready to explore your loan options? Call us today!
