How to Invest With DSCR Loans

Last Updated: 

August 17, 2023

The real estate market is booming in the United States. Sellers and landlords are especially thriving in the modern market. With rental properties in such high demand, this could be the perfect time to invest. You might think that investing in real estate is only for people with perfect credit scores and plenty of wealth already to their name, but this isn’t necessarily the case. With the right research and drive, almost anyone can break into the world of real estate investing. Here’s how.

Key Takeaways on Investing with DSCR Loans

  1. DSCR Loans: Debt service coverage ratio (DSCR) loans are a viable option for new real estate investors, as they focus on the potential income of the rental property rather than the buyer's financial situation.
  2. Calculating DSCR: Lenders use a DSCR calculator to determine if the rental property generates enough income to cover the loan. The ratio should be at least 1, but lenders typically require at least 1.2 for approval.
  3. Rental Type: Lenders prefer stable rental income, making single-family-style rental properties more favourable than vacation rentals like Airbnbs.
  4. Condition of the Property: Move-in ready properties are more attractive to lenders, as they minimise repair costs and potential income loss during renovations.
  5. Location: The location of the investment property greatly influences its income potential. Consider the needs and preferences of your target demographic and select a property close to desired amenities.
  6. Thorough Research: Analyse neighbourhood data, such as crime rates, average household income, and property values, to identify areas that offer the best return on investment and increase your chances of loan approval.
  7. Prioritise Stability: Demonstrating stability through rental income, property condition, and location increases your chances of being approved for a DSCR loan.
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DSCR Loans

If you’re a new investor, then debt service coverage ratio (DSCR) loans could be the perfect tool for you. Conventional mortgage loans are usually granted based on the financial situation of the buyer. Lenders typically look for exceptional credit scores and credit history, and proof of both a substantial and steady income. These loans won’t be granted unless lenders have proof that the buyers will be able to afford the monthly payments that they’ll be taking on. With DSCR loans, this is not the case, which makes them perfect for new investors. These loans do not require the buyers to have a perfect financial situation. Instead, they are primarily granted based on the potential of the rental property that you’re planning to invest in. Lenders will use a DSCR calculator to determine the value of the property and decide whether or not it qualifies for a loan. 

To calculate the debt service coverage ratio, they will calculate the projected net operating income of the property—how much rental income you’ll get after subtracting all of your expenses—and then divide it by your expected annual debt. The debt service coverage ratio given to you by this equation will determine whether or not your property will be able to generate the amount needed to cover your loan. The ratio needed to cover the loan is at least a 1, but lenders typically require at least a 1.2 for approval. This provides an extra bit of financial security in case you struggle with the vacancy of the property. So, if you want to get approval for an investment loan, you must do your research and pick the perfect rental property.

Rental Type

One of the most important things lenders will consider when deciding whether or not to give you approval for a loan is stability. Lenders want to guarantee that you’ll have a steady rental income so that you can make all of your loan payments. Because of this, they tend to not approve rental properties like AirBnb’s or other vacation-type rentals. If you want to increase your chances of getting approved for a loan, then you should prioritise investing in a single-family-style rental property. This has a much higher chance of generating a steady income.

Condition

The condition of your investment property is another thing that could affect your chances of getting approved for a loan. Lenders will be much more hesitant to give you a loan for a property that’s still a work in progress since it’s much more difficult to gauge the potential value. Additionally, properties that need a lot of repairs will end up wasting a lot of time and money. While waiting for repairs, you could end up losing a couple of months worth of incoming, putting you behind on loan payments. For these reasons, you should look for a property that’s move-in ready. Something freshly renovated will be more attractive to potential tenants anyway.

Location

The location of your investment property is arguably the most important factor in guaranteeing steady income. This is because the majority of renters value location over the condition of a rental property, opting for something that fits their needs and lifestyle. You can use this to your advantage and cater to specific demographics when selecting your investment property. For instance, if you’re wanting to rent primarily to college students looking for off-campus housing, then you should select a property that’s within walking distance of both the college and the bars and restaurants of the downtown area. 

Alternatively, if you’d prefer to rent to families, then you should try to find a property in a quiet, suburban neighbourhood that’s close to quality schools. Purchasing a rental property that is close to desired amenities like grocery stores, parks, fitness centres, and public transportation can greatly increase your rental value. When deciding on a property to invest in, you should also do thorough research on any neighbourhoods that you’re considering. Pay attention to data like the crime rates, average household income, and average property value of each neighbourhood. Comparing this data can help you find the property that will guarantee the best return on investment and increase your chances of being approved for a DSCR loan.

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