Mar 8, 2023
Scaling Your Rental Portfolio with DSCR Loans
Conventional mortgages won't do when looking to quickly scale your real estate portfolio in a highly competitive market. You need a flexible funding solution that grants you ready access to cash.
Traditional mortgage loans take too long and can be highly restrictive because they're pegged on personal income verification. Securing Debt Service Coverage Ratio (DSCR) loans lets you surmount these obstacles.
What are Debt Service Coverage Ratio Loans?
DSCR loans are a godsend for the savvy real estate investor looking to expand into highly competitive markets. Also known as investor cash flow loans, DSCR loans are a specialty mortgage facility for real estate investors.
Unlike a standard mortgage, a DSCR loan is secured by your monthly rental income, not your personal income. It bypasses the tedious personal income verification process for faster loan processing and disbursement.
With a DSCR loan, you only need to demonstrate that your current real estate holdings generate sufficient monthly income to cover the loan's monthly payments. Lenders use the DSCR score—calculated using net monthly rental income and the expected monthly mortgage payments—to determine eligibility.
How to Calculate Your DSCR Score
DSCR score is easy to calculate—it is the product of dividing your net rental income by the monthly loan repayment.
DSCR = Income/ Monthly Payment
Your DSCR score is expressed as a decimal. A 1.5 or 1.5x DSCR would indicate your rental income is 50% higher than your monthly payment.
A high DSCR score attests to your creditworthiness and entitles you to friendly loan terms and interest rates. Anything higher than 1.0 increases your chances of qualifying for funding. Ratios below 1.0 point to negative cash flow, but don't automatically disqualify your application.
Minimum DSCR Score Requirements
There are no hard DSCR score requirements when applying for a loan. Lenders set their minimum requirements based on experience and risk appetites. Most lenders prioritize borrowers with a 1.25x ratio, while others require a DSCR score of at least 1.0x.
Other lenders are more accommodating and can fund your expansion if your score is less than 1.0x. However, you may need to raise a higher deposit and verify your personal income when applying for a DSCR loan using a property with a negative cash flow.
Pros and Cons of Conventional Loans
Conventional loans are often the go-to solution for real estate investors looking to expand their portfolios. However, that's not to say they're the best option. Let's dig into some pros and cons of using a traditional mortgage to scale your real estate holdings.
Pros
Conventional loans offer some of the lowest interest rates on the market. Conversely, the typical interest rate on a DSCR loan is 1-2% higher. However, the fast, no-hassle application process makes up for the slightly higher rates.
Cons
You can only apply for a maximum of 10 conventional loans. The Fannie Mae and Freddie Mac regulations don't allow individuals to finance more than ten properties using traditional mortgages. Qualifying for more than four mortgage loans also becomes increasingly difficult as you're subject to tighter underwriting requirements.
Eligibility for a conventional loan is tied to your debt-to-income ratio, not your DSCR score. Before approving your mortgage application, lenders will consider your current income, debt burden, and employment history. That may reduce the amount you qualify for or lower your qualification chances.
Scaling Your Real Estate Portfolio with DSCR Loans
Securing a DSCR loan can help overcome these limitations and build an impressive real estate empire. With no upper cap limit, you can take out as many DSCR loans as you need to scale your rental property holdings.
A DSCR loan also offers excellent asset protection by allowing you to separate your personal and business assets. You can use an LLC to close the DSCR loans and protect your personal assets from business debts and lawsuits.