Debt Service Coverage Ratio (DSCR): A measure of a property's ability to pay its mortgage. Calculated as Net Operating Income (NOI) divided by annual debt service (principal + interest). A DSCR of 1.25x means the property generates 25% more income than needed to cover its mortgage.
What Is Debt Service Coverage Ratio (DSCR)?
Every commercial real estate loan decision comes down to one question: "Can this property pay back the loan?" DSCR answers that question with a number.
How Do You Calculate DSCR?
Where:
- Net Operating Income (NOI) = Effective Gross Income − Operating Expenses
- Annual Debt Service = Total mortgage payments (principal + interest) for 12 months
Example Calculation
| Gross Potential Rent | $500,000 |
| Less: Vacancy & Bad Debt (5%) | ($25,000) |
| Plus: Other Income | $15,000 |
| Effective Gross Income | $490,000 |
| Less: Operating Expenses | ($195,000) |
| Net Operating Income | $295,000 |
If the proposed loan has annual debt service of $236,000:
This property generates $1.25 for every $1.00 of mortgage payment required.
What DSCR Do Lenders Require?
| Lender Type | Minimum DSCR | Notes |
|---|---|---|
| Freddie Mac SBL | 1.20x – 1.25x | Varies by market and property type |
| Fannie Mae Small | 1.20x – 1.25x | Similar to Freddie Mac |
| Regional Banks | 1.25x – 1.35x | More conservative; relationship dependent |
| Credit Unions | 1.25x – 1.30x | Often flexible for members |
| Bridge/Private Lenders | 1.00x – 1.20x | Asset-focused; accept lower coverage |
| CMBS | 1.25x – 1.35x | Standardized underwriting |
The minimum DSCR determines your maximum loan amount. If your NOI only supports a 1.15x DSCR at your desired loan amount, you'll need to either reduce the loan or increase the NOI.
Why Does DSCR Matter?
DSCR serves two purposes:
1. Determines Maximum Loan Amount
Lenders work backward from DSCR to calculate how much they'll lend:
If your NOI is $295,000 and the lender requires 1.25x DSCR:
The lender then calculates what loan amount produces $236,000 in annual payments at their rate and term.
2. Provides Cushion for Variability
A 1.25x DSCR means income can drop 20% before the property can't cover its mortgage. This cushion protects against:
- Unexpected vacancies
- Rent collection issues
- Expense increases
- Economic downturns
What Factors Affect Your DSCR?
Factors That Increase DSCR (Good):
- Higher rents
- Lower vacancy
- Reduced operating expenses
- Lower interest rate
- Longer amortization (lower payments)
- Smaller loan amount
Factors That Decrease DSCR (Bad):
- Rent declines or stagnation
- Higher vacancy or bad debt
- Increased expenses
- Higher interest rate
- Shorter amortization
- Larger loan amount
What Is the Difference Between DSCR and LTV?
Lenders constrain loans by both DSCR and Loan-to-Value (LTV). The more restrictive constraint wins.
| Constraint | Definition | What It Protects |
|---|---|---|
| DSCR | Income ÷ Debt Service | Monthly payment ability |
| LTV | Loan Amount ÷ Property Value | Recovery if property sold |
Example: Dual Constraint
Property value: $4,000,000
NOI: $295,000
Lender requires: 75% LTV and 1.25x DSCR
LTV constraint: $4,000,000 × 75% = $3,000,000 max loan
DSCR constraint: At 6.5% rate, 30-year amortization, $3,000,000 loan = $227,568 annual debt service
DSCR = $295,000 ÷ $227,568 = 1.30x ✓
In this case, LTV is the binding constraint. The property's income supports a higher loan, but the value doesn't.
Advanced Tactics: The DSCR Defense
Most borrowers accept the lender's DSCR calculation as law. It isn't. It's an opening bid.
The most powerful lever you have is Forensic Expense Classification—moving legitimate one-time items from "Repairs" (Operating Expense) to "Capital Expenditures" (Below the Line). This instantly increases your NOI and your loan amount.
The $200,000 Invoice
Scenario: You spent $15,000 repairing the roof after a storm. Your bookkeeper booked it as "Repairs & Maintenance."
Lender View (OpEx):
- Reduces NOI by $15,000
- At a 6.5% Cap Rate/Constant, this reduces your loan proceeds by ~$230,000 ($15,000 ÷ 0.065).
S-Tier Defense (CapEx):
- You provide the invoice showing "Replacement of 400sqft of shingles and decking."
- You argue this is a capital improvement extending the useful life of the asset, not a recurring repair.
- Lender moves $15,000 "below the line" (excluded from NOI).
- Result: Loan proceeds increase by $230,000.
The Rule: You cannot fabricate this. It must be a legitimate capital item (roof, HVAC replacement, flooring replacement, appliance replacement) supported by an invoice. One-time "repairs" (clogged toilets, painting) must stay in OpEx.
How Can You Improve Your DSCR?
1. Increase NOI
The numerator. Options include:
- Raise rents to market levels
- Reduce vacancy through better marketing or tenant retention
- Add income streams (laundry, parking, storage)
- Reduce controllable expenses
2. Reduce Debt Service
The denominator. Options include:
- Request lower interest rate (shop multiple lenders)
- Extend amortization period (30-year vs. 25-year)
- Reduce loan amount (larger down payment)
- Accept interest-only period (temporary solution)
3. Clean Up Your T-12
If your T-12 has variance or undocumented income, fixing these issues increases your provable NOI—and your DSCR.
Caution: Lenders verify NOI through bank statement reconciliation. You can't inflate your way to a better DSCR—you can only document your way to a better DSCR.
How Does DSCR Apply in Different Scenarios?
Refinance
Your existing NOI must support the new debt service. If rates have risen since your original loan, your DSCR may be lower even at the same loan amount.
Purchase
Lenders use the seller's T-12 (verified) to calculate DSCR. Pro forma projections generally aren't accepted for DSCR calculations.
Cash-Out Refinance
Higher loan amount = higher debt service = lower DSCR. You may be limited by DSCR even if LTV allows more.
Value-Add Business Plan
Bridge lenders may underwrite to projected NOI after renovations. Permanent lenders typically won't.
DSCR is not just a ratio—it's a constraint. Every dollar of NOI you can't prove is debt service capacity you can't access.