How to Choose the Target DSCR for Your Rental Property Investment
How to Choose the Target DSCR for Your Rental Property Investment
DSCR, or debt service coverage ratio, is an essential piece of information when it comes to financing a rental property. At first glance, it can seem to be somewhat of a minefield—especially if you’re new to rental property investment.
At its most basic, DSCR compares all the expenses of owning a property (known as the debt service) against the potential rental income (the net operating income). This figure is then determined as a ratio (the DSCR), such as 1:7.
While this sounds complicated, it becomes easier to understand when it’s broken down into bite-sized chunks.
All About DSCR: from choosing a target to understanding DSCR Loans
- Calculating DSCR
- Choosing the target DSCR for your rental property
- DSCR loans
Calculating DSCR
It doesn’t matter whether you’re purchasing a multi-family unit or a single home, calculating DSCR is the same. To do it, you need two key pieces of information:
The net operating income (NOI)
and
The debt service
NOI is the gross income from the monthly rental.
The debt service is the sum of all the debts incurred from owning the property. This is the monthly mortgage payment (including primary and interest payments), plus anything else, such as taxes, insurances, etc.
The debt service is often described by the acronym, PITIA. This stands for property, interest, taxes, insurance, and association.
If we divide the NOI by the PITIA, we come up with a ratio.
For example, your monthly rental brings in $2,500. Your PITIA comes to $2,250. We therefore divide $2,500/$2,250 to give a ratio of 1:11.
This means that 1:11 is your DSCR number.
Choosing the target DSCR for your rental property
Deciding the target DSCR will be driven by your circumstances. For instance, if you’re retired and rely on a rental income to supplement your pension, then you’re probably going to want a high DSCR (which also equals low risk). At this time of life, you might only have a small loan against the property—or even none at all. This means that your DSCR will be high, as the only expenses are the ongoing ones, rather than the additional sums involved in paying back a loan.
For the property investor, you’re more likely to be open to higher risk. Having a DSCR closer to 1 means that you’ve got additional leverage to purchase more properties. The tradeoff is that you have less liquid cash per month, but provides you with more options to purchase additional real estate.
The key takeaway is that choosing your target DSCR will be determined by the level of risk you’re prepared to take and what it is you want to achieve from your rental income.
DSCR loans
Of course, the DSCR will determine how willing a lender is to provide you with funds. A ratio of 1:0 means that you’re only breaking even, with no leeway to cover additional expenses that might occur. While it’s possible to secure funds with a DSCR of 1, you’ll need to hit a higher credit score and provide a bigger down payment.
Ideally, your DSCR should be a minimum of 1:2 or 1:25 to ensure you get the best deal.
Ready to Discuss DSCR Loans? Call BRRRR Loans Today
The profit you make on a rental property is directly impacted by the interest rate you pay for your DSCR loan. BRRRR Loans is a leading US provider for property investors. Not only are our interest rates highly competitive, but we offer attractive close rates, crystal-clear Ts & Cs, and the best customer service in the business.
Whether you’re poised to purchase or simply exploring the art of the possible, then our experienced team is ready and waiting to answer your financing questions.
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