If you’re a real estate investor trying to scoop up your next rental property, a DSCR loan, or debt service coverage ratio loan, may be a good financing option. This type of small-business loan is easier to qualify for than a conventional loan, but can be more expensive.
How much do you need?
We'll start with a brief questionnaire to better understand the unique needs of your business. Once we uncover your personalized matches, our team will consult you on the process moving forward.
When should you consider a DSCR loan?
Consider a DSCR loan if all or most of these are true:
- You’re planning to buy a rent-ready residential or commercial property.
- You can’t qualify for a conventional investment property loan.
- You need fast financing.
- You plan to buy multiple properties.
- You have enough cash on-hand to pay at least 20% upfront.
- You also have three-to-six months’ worth of mortgage payments set aside.
If, on the other hand, this is your first investment property and your finances are strong, a conventional mortgage may help you get a slightly lower rate or better terms. See how DSCR loans compare with other loan options below.
What is a DSCR loan?
DSCR loans are used to buy rent-ready, income-generating properties, such as single family homes, multi-unit properties or office buildings. They can also be used to buy short-term and vacation rental properties.
Potential borrowers qualify based primarily on the property’s debt service coverage ratio, which measures a borrower’s ability to pay back a loan using the property’s projected rental income. The higher this ratio, the more profitable a rental property will be — and the more likely you’ll qualify for a DSCR loan.
In contrast, conventional loans for rental properties focus more on a borrower’s personal income, assets and credit score as the main qualification criteria.
» Try our free DSCR loan calculator to estimate your own DSCR.
🤓Nerdy Tip
DSCR loans can also be used to refinance an existing loan. This can be especially useful if you had to take out a less favorable loan, such as a fix and flip loan, to buy a fixer upper that you now plan to rent.Pros and cons of DSCR loans
Pros
Don’t have to have strong personal finances to qualify.
No limit on the number of properties you can buy.
Faster application process compared with a conventional mortgage loan.
Can borrow through an LLC or other business entity.
Less documentation required than conventional mortgages.
Cons
Potentially higher interest rates.
Down payment of at least 20% required, as well as a separate cash reserve.
Can’t be used to buy a fixer upper or primary residence.
Most come with prepayment penalties.
How is DSCR calculated?
To calculate the debt service coverage ratio, divide a property’s monthly rental income (or projected income) by the loan payment, which includes principal, interest, taxes, insurance and homeowners association fees.
DSCR = Monthly rental income / Monthly loan payment
A DSCR above one indicates a borrower’s ability to pay back a loan using the income the rental property generates.
For example, if you’re buying a rental property that you think can bring in $3,000 in monthly rent and the loan payment is $2,500, the DSCR would be 1.2. This means that you would earn $1.20 in rental income for every $1.00 you pay toward the loan.
The higher the rent or the lower the loan payment, the higher the DSCR will be.
How do I qualify for a DSCR loan?
Qualification requirements vary across lenders and property types, but generally, you’ll need:
- A DSCR of around 1.25 or higher for the property being financed. Lenders verify this through a property appraisal.
- A credit score of at least 620 or higher.
- Down payment of at least 20%.
- Minimum loan amount of around $100,000.
- Three-to-six months’ worth of mortgage payments set aside to cover vacancies or emergency expenses.
- A rent-ready property (no fixer-uppers allowed).
You may be able to get a DSCR loan if your DSCR is 1.00 (or even lower), but you’ll pay more in interest and may need to put more money down.
How to get a DSCR loan
Ready to apply for a DSCR loan? Follow these six steps.
Step 1. Choose the right rental property
Find a property that’s move-in ready or one that needs only light, cosmetic repairs that can be fixed quickly.
You’ll also want to consider whether the property is in an area with low vacancy rates, strong job opportunities, nearby amenities, steady population growth and reasonable property taxes and insurance rates. And don’t forget to check local rental rules or restrictions that could affect your ability to rent it out, such as those set by many homeowners associations.
Step 2. Research lenders
Finding the right lender is an important step in financing any real estate deal. While some large and regional banks offer DSCR loans, there are many online lenders that specialize in them and cater specifically to real estate investors.
Whichever route you take, choose a reputable and experienced lender. Look for third-party reviews or feedback from other investors on forums like Reddit to get real-world insight into lenders you’re considering.
As you narrow down options, start gathering loan details from each lender, including:
- Typical interest rates (and whether they’re fixed or variable).
- Loan terms.
- Any prepayment penalties or upfront fees you might need to pay, like origination fees or closing costs.
- Minimum requirements for down payment, credit score and loan amount.
Step 3. Estimate your DSCR
Once you've gathered loan details from different lenders, you can plug them into NerdWallet’s DSCR loan calculator, along with property costs and estimated rental income to get a clearer picture of:
- Whether the investment is likely to be profitable. A DSCR above one means the property’s rental income will exceed monthly mortgage payments.
- Your chances of qualifying for a DSCR loan. The higher the ratio, the more likely you’ll be approved for a loan. Compare your estimated DSCR against the minimum requirements set by lenders you’re considering.
Step 4. Gather paperwork and apply
Although documentation requirements can vary by lender, be ready to submit the following:
- Authorization for the lender to pull your credit report.
- Two months of bank statements to verify you meet any cash reserve requirements.
- Proof of property insurance, which you’d provide by securing a policy and setting its start date as the scheduled closing date.
- Copies of lease agreements (for tenant-occupied properties). These may be supplied by the seller or their management company during the due diligence period.
- Business entity documents (if you’re applying through an LLC or other entity).
- Existing mortgage statements and payment history (if refinancing).
After you apply, the lender will provide a loan estimate outlining key details of the loan, including the projected interest rate, closing costs and other terms.
Step 5. Go through underwriting and appraisal
Upon accepting the initial loan estimate, the lender will order a property appraisal, which you’ll have to pay for. This appraisal evaluates the property's market value and rental income potential.
During underwriting, the lender uses the appraisal to make sure the property meets its DSCR requirement and determine your eligibility for the loan.
Step 6. Review terms and sign loan agreement
If you’re approved, your lender will send over a business loan agreement, which outlines the loan’s terms and conditions, such as the loan amount, final interest rate, monthly payments, loan terms, closing costs and more. Make sure you review this document carefully before you sign on the dotted line.
Upon signing, you’ll pay any closing costs and receive the funds to buy the rental property or refinance the loan.
Alternatives to DSCR loans
A DSCR loan may be a good fit if you’re buying or refinancing a rent-ready property and want faster approval. But it’s not always the best fit. Here’s a breakdown of how other loan options stack up to a DSCR loan:
Loan type | Best for | Typical rates | Typical down payments | Typical repayment terms |
|---|---|---|---|---|
DSCR loan | Investors buying or refinancing a portfolio of rent-ready properties, or investors who can’t qualify for a conventional mortgage. | 6% to 8% | 20% to 30% | 30 years |
Conventional mortgage used for investment property | First-time or smaller-scale investors with strong personal credit and stable income. | 6.6% to 7.7% | 15% to 25% | 15 or 30 years. |
Commercial real estate loan | Investors buying commercial or larger multifamily properties, such as apartment, office or retail buildings. | 5% to 7.5% | 10% to 30% | 5 to 10 years (balloon payment required) |
Fix and flip loan | Investors looking to buy and renovate a property to sell or rent out later. | 8.5% to 11.5% | 10% to 20% | 6 to 24 months |
SBA loan | Business owners who plan to have their business occupy at least 51% of the space and rent the rest for supplemental income. | SBA 7(a): Maximum rates between 9.75% to 14.75% SBA 504: 5% to 7% | At least 10% | Up to 25 years |
- Conventional mortgage. For first-time real estate investors with strong credit and stable income, a conventional investment property mortgage may offer more competitive rates and terms compared with a DSCR loan. However, it may not be the best fit if you plan to purchase multiple properties or invest in a multi-unit building, such as an apartment building. That’s because conventional mortgages have restrictions on the number of properties you can finance.
- Commercial real estate loan. If you want to finance and rent out a commercial property through your business, such as an apartment complex, office building, warehouse or retail space, a commercial real estate loan may offer the flexibility you need. However, these loans typically come with stricter qualification requirements and shorter repayment terms compared with DSCR loans.
- Fix and flip loans. These short-term hard money business loans are ideal for investors looking to buy and renovate a property with the intent to sell it or rent it out later. Typically lasting 24 months or less, they provide quick access to money for fixer-uppers. Once the renovation is complete, you can refinance the property into a long-term loan, such as a DSCR loan, and begin generating rental income.
- SBA loan. While not designed for traditional rental properties, SBA loans can be used to buy or build commercial real estate. In order to be allowed to rent out a property purchased with an SBA loan, your business would have to occupy at least 51% of the space (or more in the case of new construction). These loans offer competitive interest rates and long repayment terms, but qualifying can be challenging due to strict eligibility requirements and documentation.
