Why DSCR Loans Aren’t Always the Best Choice for Property Investors

Debt-service coverage ratio (DSCR) loans are pretty typical in the conventional market. They are loans conventional lenders make available for financing income-based rentals. They have their purposes, but rarely is a DSCR loan the best choice for a property investor looking to move quickly and maximize his return. Hard money and bridge loans are better options.

A DSCR loan is a long- or medium-term loan that can be fully amortized. Banks want to see stable properties before they issue such loans. Any sign of instability will chase banks away. Unfortunately, many of the most lucrative properties to real estate investors aren’t deemed stable by conventional lenders. That is where hard money and bridge loans come in.

DSCR Loans in Practice

Perhaps the best way to describe a DSCR loan is as follows: a non-QM mortgage wherein the borrower is qualified primarily on the property’s rental income. Lenders do not tend to look at personal tax returns or pay stubs. In that regard, the DSCR loan is somewhat similar to a hard money or bridge loan.

However, the key metric to a conventional lender is the debt service coverage ratio. Lenders want to see a ratio of 1 to 1.25. In other words, they want to see that the property’s income will comfortably support monthly payments.

DSCR loans are typically 30-year loans, although conventional lenders will go with 5, 7, and 10-year fixed loans on stabilized properties they are comfortable with. Down payments tend to be in the 20-30% range.

Finally, although DSCR loans can help a property investor scale his portfolio over time, the loans are still cumbersome to obtain. Properties need appraisals and rent schedules. Lenders must go through a full underwriting process complete with documentation. For all intents and purposes, a DSCR loan is not a ‘this week’ loan. It could still take a lender 30-60 days to be ready for closing.

Hard Money and Bridge Loans Are Different

Property investors can also use hard money and bridge loans to scale their portfolios. For example, a bridge loan could help an investor obtain a new property and stabilize it. Once it is stable, conventional lending can be sought to refinance the property.

At any rate, the experts at Salt Lake City’s Actium Partners say there are several things that make hard money and bridge loans more attractive than their DSCR counterparts:

• Funding Speed – Hard money and bridge loans are underwritten primarily on asset value. That means lenders like Actium can approve and fund in a matter of days.
• A Business Focus – Private lenders offering hard money and bridge loans view investment transactions from a business perspective. Title quirks, transitional assets, and other things that would fail DSCR underwriting tests do not scare them away.
• Minimal Documentation – Hard money and bridge lenders don’t require nearly as much documentation as conventional lenders. Truly, it is all about the value of the property being obtained.

An investor looking for financing with minimal hassle would find a hard money or bridge loan far more attractive. In the conventional space, there are plenty of hoops to jump through. Not so in the hard money space.

DSCR Isn’t a Good Substitute

Hard money and bridge loans are preferred funding options for serious property investors. For so many of them, DSCR financing is not a substitute. Even when properties meet all DSCR tests, investors need fast and flexible funding that gets them to closing more quickly than their competitors. DSCR loans imply aren’t built for that sort of thing. They are not the best choice for obtaining properties quickly and seamlessly.