Debt Service Coverage Ratio (DSCR)
The DSCR provides a margin of safety for banks by allowing them to build a cushion in the cash flow of the property over and above its annual debt service. For instance, if a 1.20x DSCR is required, the bank can maintain a cushion of about 17% in the event that the NOI of the property goes down.
The DSCR is also set by the bank’s loan policy and can vary depending on the type of property that’s involved. For instance, if a property is considered to be risky, then it has higher requirements than stable properties.
The goal of the maximum loan amount analysis is to determine how much support the borrower can get based on the various factors that are involved in the loan process, such as the DSCR and the NOI. Once the calculation of the net operating income has been completed, the lender can then start calculating the loan amount.
Let’s take a look at an example to understand how this works. For instance, if you’re planning on acquiring a property with a stable NOI, then you should consider taking into account the following factors.
A loan underwriting process is carried out using a proforma. For example, if you’re planning on buying a property with a stable NOI, then you have to take into account these factors.
After you’ve talked to your lender, you’ll be able to determine the current guidelines for this type of property.
The guidelines for commercial real estate loans are based on the current market conditions.
Maximum Loan Amount
The following shows how a bank will initially look at a loan request. The LTV approach is used by the lender to determine the maximum amount of money that can be loaned. It’s usually based on the property’s value and the market conditions. The cap rate that’s used is based on the lender’s knowledge of the local market, but it should also be supported by an appraisal. For instance, in our example, if the NOI is 100,000, then the total value of the property is $1,250,000.
The maximum amount that can be loaned based on the DSCR approach is determined by taking into account the required amount of NOI. After taking into account the required amount of NOI, the lender can then divide it by the required DSC ratio. For instance, if the total NOI of the property is 100,000, then the total amount of debt service that’s payable annually is 80,000.
With 80,000 debt service payable annually, the lender can now use this amount to fund a loan. To do this, the bank needs the amortization period and the interest rate to calculate the loan’s present value. A financial calculator can also be utilized to solve this issue.
A financial calculator can be utilized to determine the present value of a mortgage. The bank needs the interest rate and the amortization period to come up with a figure.
The maximum loan amounts that the bank can use based on the LTV and DSCR approaches are 937,500 and 859,883, respectively. After taking into account these two figures, the last step is to determine the maximum amount that can be financed for the property. For our example, we’ll be using a total loan amount of $859,000.