In the world of multifamily real estate, there are many different types of loans that can be used to finance a property. One type of loan that is relatively common is a DSCR loan. In this article, we will take a closer look at DSCR loans and how they can be used to finance a multifamily property.

So, What Is a DSCR Loan?

A multifamily DSCR loan is a type of non-qualified mortgage loan that is based on the debt service coverage ratio, or DSCR, of an apartment building. A DSCR loan is typically used for commercial real estate, but it can also be used for certain personal or business needs.

Wait. What's DSCR?

A debt service coverage ratio, or DSCR, is a very common financial metric that is used to assess a borrower's ability to repay a loan.

The DSCR is calculated by dividing an asset’s net operating income by its annual total debt service, sometimes referred to as TDS. The NOI is the income that is generated from the property, minus any operating expenses. The TDS is the total amount of debt payments owed on the property, including any principal and interest payments, over the course of that year.

DSCR Calculator

Want to calculate your property's DSCR? Slot in your NOI and annual debt service into the calculator below.

What Can DSCR Loans Be Used For?

First of all, DSCR loans aren’t exclusive to the multifamily sector. DSCR financing is also present in most other commercial real estate sectors, including office, industrial, retail, and many others.

The loan’s purpose may be a limiting factor, though. Typically, a DSCR loan is used for an acquisition or refinance. Finding a DSCR construction loan, while technically possible, is extremely unlikely, due to the risks involved with projecting an unbuilt property’s future income.

Comparing DSCR Loans With Standard Multifamily Loans

DSCR loans may be a unique lending instrument, but they share some common elements with many other popular multifamily financing options. Let’s examine some pros and cons of DSCR loans below.

What Are the Advantages of DSCR Loans?

First, as mentioned above, DSCR loans can be used to finance a variety of different types of properties. This means that no matter how your portfolio is composed, there’s likely a possibility to use one of these financing options. And terms are flexible, too — some lenders may offer loans of up to 35 years, and shorter-term financing packages aren’t uncommon.

Second, DSCR loans are extended based not on a borrower’s financial strength but the expected earnings of the property itself — not unlike most CMBS loans. This greatly expands the pool of investors who can use this tool, and it also significantly speeds up loan approval and closing processes.

Third, a DSCR loan may offer a very competitive financing option for properties with very high debt service coverage ratios. As with any loan, the lower the risk to the lender, the better terms you’ll receive as the borrower. So, if you have a multifamily property with a DSCR above, say, 1.5x, you will receive far better terms than if your asset has a 1.2x DSCR.

Finally, a serious pro of DSCR loans is that they generally allow unlimited cash out. This could be particularly useful in the event of an unexpected or surprisingly large property expense.

What Are the Disadvantages of DSCR Loans?

First, DSCR loans are commonly — though not always — interest-only loans. While this may be a pro in terms of lower monthly payments, it brings a risk of going underwater on the loan should your property lose significant value.

Second, DSCR loans are usually, albeit not always, shorter-term loans. This can present a challenge if subsequent financing has not been lined up — as a potential balloon payment at the end of the loan’s term could be massive and something a borrower must adequately prepare for.

The maximum amount of a DSCR loan could be a major constraint. Most lenders don’t offer this type of financing for amounts higher than $5 or $6 million, though there are exceptions. That said, if you’re looking for a $15 million financing package, a DSCR loan probably isn’t a good option.

Finally, DSCR loans typically have higher interest rates than many traditional financing options, like Freddie Mac or Fannie Mae multifamily loans.

When Should I Use a DSCR Loan?

You may wish to consider using a DSCR loan if you have some credit issues but are looking to finance a property with a strong DSCR. A strong DSCR indicates to a lender that the borrower has a good ability to repay the loan. 

You should also consider DSCR loans when you need a loan fast. Because of the asset-focused risk assessment, this financing type closes far quicker than most other multifamily loans.

The good news is that DSCR loans typically aren’t constrained by asset type. As previous discussed, they can be used to finance a variety of different types of properties, from office buildings and retail assets to warehouses and small apartment buildings.

Eligibility Criteria for DSCR Loans

The main eligibility criteria for a DSCR loan are surrounding, understandably, the property’s debt service coverage ratio. Broadly speaking, DSCR financing is available for assets with a ratio of at least 1.25x. Every lender is different, however, and some may even offer financing for buildings with a DSCR of less than 1x — but expect those loans to be far more expensive and may require additional reserves.

How Do I Get a DSCR Loan?

Not sure where to go for one of these loans? Or, not convinced this is the right type of financing for your needs? You’re not alone. DSCR loans can be a useful tool, but they certainly aren’t right for every investor in every situation.

That’s where we come in.

At Janover, we can connect you with any type of multifamily loan you need, including agency loans, bank financing, and, yes, even DSCR loans. Just fill in your details in the form below, and we’ll get back to you with a quote.