The debt service coverage ratio is net operating income divided by the annual loan payment. At 1.0 the building earns exactly its mortgage; lenders typically want a cushion, commonly 1.20 to 1.25 on multifamily, and they size the loan down until the ratio holds. In practice, DSCR, not the asking price, decides how much debt a building can carry.
DSCR=NOIAnnual debt service
Maximum annual payment=NOIRequired DSCR
- NOI
- The lender's own reconstruction of net operating income, not the seller's.
- Annual debt service
- Twelve monthly payments of principal and interest on the proposed loan.
- Required DSCR
- The minimum coverage stated in the lender's term sheet, commonly 1.20 to 1.25 on multifamily.
- The lender's constraint, not the buyer's. It sets the loan, and the loan sets the size of the equity check.
- Blind to everything after year one. It tests today's NOI against today's payment and nothing else.
- Run it before falling in love. If the honest NOI carries less debt than the price assumes, equity fills the gap.
- The ratio is only as honest as the NOI inside it, and the lender rebuilds that number their own way.
The same income, a lender asking 1.25 coverage, priced at 6.5% over 30 years.
The lender never argued about the price. It sized the loan off the income, and everything above that number is the buyer's to fund.
Related terms
All termsNOI (Net Operating Income)
Net operating income is what a property earns from operations in a year: all collected income minus operating expenses, before any mortgage payment, income tax, or capital projects.
FinanceLTV (Loan-to-Value)
Loan-to-value is the loan amount divided by the property's value.
FinanceLeverage
Leverage is using borrowed money to control a larger asset than cash alone would buy.
Terms arrive with the writing.
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