DSCR Calculator

Worked example

A fourplex collects $4,200 a month in rent, or $50,400 a year. At 95% occupancy, effective gross income is $47,880. Operating expenses at 40% of EGI are $19,152, so net operating income is $28,728.

The loan is $275,000 at 7.25% amortized over 30 years. The monthly payment is $1,876, so annual debt service is $22,512.

DSCR is $28,728 / $22,512 = 1.28x. The property earns 28% more than it needs to pay the mortgage, which clears both the 1.20x and 1.25x tests. At 1.25x the income would support a loan of up to about $280,749, and at 1.20x about $292,446.

What DSCR means

The debt service coverage ratio compares a property's net operating income to its annual loan payments. A DSCR of 1.00x means the income exactly covers the mortgage with nothing left over. Above 1.00x there is a cushion. Below 1.00x the owner has to cover the shortfall from other income.

Lenders care about DSCR because it shows how much the income can fall before the loan stops getting paid. A 1.25x ratio means NOI could drop by 20% and the payments would still be covered.

The formula

DSCR = net operating income / annual debt service.

• Net operating income is effective gross income (gross rent times occupancy) minus operating expenses such as taxes, insurance, repairs, management and reserves.
• Annual debt service is twelve monthly principal and interest payments. The monthly payment on a fully amortizing loan is P x r / (1 - (1 + r)^-n), where P is the loan amount, r is the monthly interest rate and n is the number of months.

Lenders usually underwrite their own NOI. They often apply a higher vacancy factor than you do, add a management fee even if you self-manage, and use a minimum replacement reserve per unit. Expect their NOI to come in lower than the seller's.

What DSCR do lenders want?

For commercial and multifamily loans, most banks, credit unions and agency lenders want at least 1.20x to 1.25x. Riskier property types such as hotels or single-tenant retail often need 1.30x to 1.40x or more. When the ratio comes in short, the lender does not usually reject the deal outright. It shrinks the loan until the ratio works, which means you need a bigger down payment.

That is why the calculator shows a maximum loan at 1.20x and 1.25x. It divides NOI by the target ratio to get the most debt service the property can carry, then works backward through the payment formula to the loan amount. If that number is below the loan you need, plan for more cash at closing.

DSCR loans for 1-4 unit rentals

So-called DSCR loans for small residential rentals use the same idea with a simpler formula. Instead of NOI, many of these lenders divide gross monthly rent by the monthly PITIA payment: principal, interest, property taxes, insurance and any HOA dues. They often accept ratios between 1.00x and 1.25x, and some go below 1.00x at a higher rate and lower loan-to-value.

Because the formulas differ, a property can show 1.10x on a DSCR loan program's rent-to-PITIA test and a lower number on the NOI-based test used here. Ask each lender exactly how they calculate it. The NOI version in this calculator is the stricter one, so a deal that passes here will usually pass a rent-based test too. Our guide on calculating NOI explains which expenses to include.

How to improve a weak DSCR

You can raise the ratio from either side. On the income side, raise below-market rents, add other income such as laundry, storage or parking, and fill vacant units before you refinance. On the debt side, borrow less, buy down the rate, or choose a longer amortization. A 30-year schedule has noticeably lower payments than a 20- or 25-year one. Interest-only periods raise DSCR in the short term, but the payment jumps when amortization starts.

To see how the same loan affects your own return, run the deal through the cash-on-cash return calculator.

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Results are estimates for education only, not financial, tax or legal advice. Check numbers with your lender and advisors before you buy.