What Is Debt Coverage Ratio?
DSCR = NOI ÷ Annual Debt Service. A property with $30,000 NOI and $24,000 annual debt = 1.25x DSCR. The property earns $1.25 for every $1 of mortgage—a 25% cushion. Most commercial loan lenders require 1.2x–1.35x minimum. DSCR below 1.0 means the property doesn't cover the mortgage—cash flow is negative. Lenders use DSCR to size loans: if they require 1.25x and NOI is $28,000, max debt service = $22,400. That caps how much they'll lend.
Debt coverage ratio (DSCR) is NOI divided by annual debt service—how many times the property's income covers the mortgage payment. Lenders typically require 1.25x or higher.
At a Glance
- What it is: NOI ÷ annual debt service
- Why it matters: Lenders require 1.25x+ typically; determines max loan size
- Threshold: 1.0 = break-even; 1.25x = 25% cushion; 1.5x = strong
- Formula: DSCR = NOI ÷ (Principal + Interest)
DSCR = NOI / Annual Debt Service
How It Works
The math. NOI = gross income − vacancy − operating expenses. Debt service = annual principal + interest. DSCR = NOI ÷ Debt Service. Example: $32,000 NOI, $25,600 debt = 1.25x. The property generates $1.25 of income for every $1 of mortgage.
How lenders use it. Lenders set a minimum DSCR (e.g., 1.25x). They reverse-engineer the loan: Max Debt Service = NOI ÷ 1.25. If NOI is $28,000, max debt service = $22,400. They then calculate the loan amount that produces that payment at the given rate and term. A 7% rate, 25-year amortization, $22,400/year = ~$280,000 max loan. Your DSCR determines how much you can borrow—not just your credit score.
LTV vs. DSCR. LTV (loan-to-value) caps how much you borrow relative to price. DSCR caps how much you borrow relative to income. On a low-cap rate property, DSCR often limits the loan before LTV does. A $500,000 property at 4% cap = $20,000 NOI. At 1.25x DSCR, max debt service = $16,000. That might support only a $200,000 loan—40% LTV—even though the lender might allow 75% LTV on paper. Income is the constraint.
Real-World Example
Nashville 8-plex. Purchase $680,000. NOI $54,400 (8% cap). Lender requires 1.25x DSCR. Max debt service = $54,400 ÷ 1.25 = $43,520/year. At 8% rate, 25-year amortization, that supports a $510,000 loan. You need $170,000 down (25% of price). If you wanted 75% LTV ($510,000 loan), you'd need $68,000 NOI to support $54,400 debt service at 1.25x. Your NOI is $54,400—you're right at the edge. The lender approves. Your actual DSCR = 1.25x. One bad year (vacancy, expense spike) and you're below 1.0. You add reserves.
Pros & Cons
- Income-based—reflects whether the property can sustain the loan
- Standardized—lenders and investors all use it
- Predictable—NOI and debt service are knowable
- Protects you—1.25x cushion absorbs vacancy and expense variance
- NOI-dependent—inflated pro forma inflates DSCR
- Ignores CapEx—roof replacement doesn't reduce NOI in the calculation
- Snapshot—doesn't capture NOI trajectory
- Can limit leverage—high debt service reduces DSCR even if property is strong
Watch Out
- Pro forma trap: Lender uses your pro forma NOI. If you overstated rent or understated expenses, DSCR looks good at approval but reality is worse. Conservative underwriting protects you.
- Rate sensitivity: Refinancing at higher rates increases debt service and lowers DSCR. A 1.35x DSCR at 6% can become 1.1x at 8%.
- Vacancy spike: A 20% vacancy in one year (two units down in an 8-plex) can cut NOI 25%. DSCR drops from 1.25x to 0.94x. You're cash flow negative. Build reserves.
- DSCR covenant: Some loans have DSCR covenants—if you fall below 1.1x, you're in default. Know your loan terms.
Ask an Investor
The Takeaway
DSCR = NOI ÷ annual debt service. Lenders require 1.25x+ typically—it's how they size loans. A property with $30,000 NOI can support ~$24,000 debt at 1.25x. Get NOI wrong and your DSCR is wrong—verify every line with conservative underwriting. DSCR below 1.0 means cash flow negative; build reserves for that scenario.