Real estate investment can be a very lucrative segment of your portfolio. Potential profits are high, the market is fairly consistent and reliable, and people will always require living spaces or places of business. Many of the wealthiest people in the world have made a part of their fortune from investing in real estate. For the rest of us, it is a great strategy to secure a healthier financial future for ourselves and our families.
There are several ways to break into this market. You can purchase a property outright, either residential or commercial, and receive an income from rental payments. If you don’t have money enough to cover the full cost of the property, you could take out a loan. It is also possible to invest in real estate through a trust or fund that minimizes personal risk and allows you to leave the decision-making up to a separate entity for what properties to invest in.
If you are considering investing in real estate with the use of a loan, then you need to know about debt service coverage ratio loans, also known as DSCR loans.
What is a Loan for?
First, let’s break down what the purpose of a loan is. Loans are an option for individuals or businesses that want to make a large purchase but do not have enough funds to cover the full cost. It could be a building, a car, a house, tuition, startup costs for a company, or any number of things. In most cases, the borrower will have to provide proof of income or revenue and financial history. They may also be required to underwrite the loan with collateral in the form of owned assets that the lender will have the right to seize if the borrower cannot pay back the loan. This is true of both personal loans and business loans in most cases. There are other types of loans as well, but for real estate investors, you must know about DSCR loans.
What Makes DSCR Loans Right for Investors?
A DSCR loan works a little differently from most other types of loans. It is specifically for real estate purposes, and there are a few unique factors that make it a great option for people who want to invest in property to diversify their portfolios.
Based on Property Income Instead of Personal Income
As mentioned before, most loans that are granted are dependent upon the borrower’s ability to pay back the principal and interest with their personal income. This is why you always have to submit pay stubs and financial history to prove to the lender that you can pay the monthly premiums.
A DSCR loan, however, is granted based on the calculated cash flow of the property in question compared to the expenses and premiums of the loan. This is known as the debt service coverage ratio. If a property is calculated to have a ratio of income to expenses that is greater than 1, the lender is more likely to grant the loan. If the ratio is less than 1, then the borrower will have to dig into their own resources to cover the loan payments if the lender is still willing to grant the loan. A DSCR loan allows potential real estate investors to purchase properties based on rental income, making it quicker and easier to secure the loan.
Larger Down Payments and Strong Credit Required
Since DSCR loans are used for such large purchases and are based on property cash flow, they do have additional requirements that must be met before they are granted. Most lenders will require a larger down payment on the loan, typically at least 25%. This means that to acquire one, though your personal income does not have to be at a certain level, you do need enough resources to cover the down payment. The rest of the loan should be covered by the cash flow from the property.
Additionally, lenders want to make sure that they can trust the borrower to make good on their payments. For this reason, they may require a higher minimum credit score for you to secure the loan. The average score is 680 for a DSCR loan to be granted, with interest rates potentially dropping the higher your score.
Number of Loans Not Limited
When comparing the pros and cons of a DSCR loan, another positive is that there is no limit on how many loans you can take out at once. Some personal or business loans may require that you have paid off one before receiving another. DSCR loans do not have the same limits, meaning you can scale your real estate investment portfolio much faster. Plus, these loans can be secured much faster, allowing you to close your deals sooner.
DSCR Loans Will Change How You Invest
If you want to break into the real estate sphere, or you wish to scale up your current portfolio with additional properties, then you should be taking advantage of DSCR loans. They will completely change the game for your financial future, allowing you to secure more properties and obtain higher profits.