Debt Service Coverage Ratio (DSCR)

The debt service coverage ratio is net operating income divided by annual debt service, the principal and interest due on the loan. NOI is the numerator. Commercial lenders usually require 1.20 to 1.25, meaning the property earns 20 to 25% more than its payment, and they size the loan to hit that floor.

With $18,270 of NOI, a lender wanting 1.25 coverage allows about $14,616 of annual debt service, or $1,218 a month. At 7.25% over 30 years that supports a loan of roughly $178,000, about 59% of the $300,000 price. Buy with 25% down instead and the $225,000 loan costs $18,420 a year, a DSCR of 0.99, which a commercial lender would decline.

Residential DSCR lenders use a different formula, gross rent divided by the full payment including taxes and insurance, and the same house scores around 1.28 on that test. Know which version a lender means before comparing quotes. The Wikipedia article covers the commercial definition and its use in corporate lending as well.

Further reading: Debt Service Coverage Ratio (DSCR) on Wikipedia.