Interested in Being a Real Estate Investor? The DSCR Mortgage May Be Right for You
Have you ever thought about investing in real estate? Spent hours scrolling through listings, running the numbers on potential rental income, and dreaming of buying an investment property?
But when it comes time to consider moving forward, you worry that you don’t have enough income to pull it off? It turns out that may not be a problem after all.
Meet the Debt Service Coverage Ratio loan, aka a DSCR loan. This mortgage is designed for investors. Lenders look at the property’s income potential rather than the borrower’s personal finances when deciding whether to approve the loan.
What is a DSCR loan?
While a Debt Service Coverage Ratio loan might sound complicated, the concept is simple. A DSCR loan is a type of mortgage where lenders qualify you based on the cash flow of the investment property itself, rather than how much you earn. It’s a type of non-qualified mortgage, also known as a non-QM loan.
“The main difference is on a traditional home loan we are assessing an applicant’s ability to repay,” said Stanley Coakley, vice president, consumer direct Southeast, New American Funding. He’s based in Charlotte, N.C. “On DSCR financing, we are assessing the property’s ability to pay for itself.”
The lender uses the DSCR to determine if the property’s expected rental income will be enough to cover the mortgage payments.
Here’s the basic formula that is used to determine the DSCR:
DSCR = Gross Rental Income / Total Monthly Mortgage Payment (Debt Service)
In simple terms, if a property is expected to generate $2,500 in monthly rent, and the total monthly mortgage payment (including principal, interest, taxes, and insurance) is $2,000, the DSCR would be:
$2,500 / $2,000 = 1.25
Most lenders look for a DSCR of 1.25 or higher, which indicates that the property generates 25% more income than is needed to cover the mortgage.
A ratio of 1.0 means the income covers the debt on the dot. Anything less than 1.0 means that the property has a negative cash flow.
How is a DSCR loan different from a traditional mortgage?
When you’re trying to buy a home for yourself, the mortgage process focuses primarily on you and your personal income, debt, and credit score.
With a DSCR loan, the property is the primary focus. Lenders are more concerned with the question: “Does this property make financial sense?”
So, instead of questions about your personal income and scrutiny of your debt-to-income ratio, DSCR loans do not require personal income verification. This is a huge advantage for self-employed investors, freelancers, or those with complex income structures.
DSCR loans also tend to close faster than traditional home loans because there is less paperwork to verify. These loans also have no property limits, as they are designed for portfolio builders.
You may also be able to use an LLC to purchase the property with a DSCR loan. This can offer liability protection and keep your personal and business finances separate.
The bottom line on DSCR loans
For the modern real estate investor, the DSCR loan is more than just financing—it’s a strategy they can use to maximize their potential income.
It allows them to leverage the performance of the real estate assets to build a property portfolio. By shifting the focus from their personal income to the property’s profitability, DSCR loans open doors that traditional financing might have kept closed.
Take the next step in your real estate investing path with New American Funding!
Overall Rating
More Resources
Making Homeownership More Accessible for Veterans
Rates Drop to Lowest Point in More than Three Years
Homebuyers, Your Purchasing Power Went Up
Smart Moves Start Here.