Central Mortgage Blog

Lets look at the denominator, Total Debt Service.
This includes the principal and interest payments of all loans on the property, not just the first mortgage. Note that we have not included Taxes and Insurance.
They were already accounted for in part one when we arrived at net operating income (NOI). To calculate the Debt Service Coverage Ratio, simply divide the net operating income (NOI) by the mortgage payment.
For the sake of simplicity, let us assume that there is only one mortgage on the property: $500,000 First Mortgage 11% interest, 30 Year Amortized Annual Debt Payment (debt service)= $57,139 Then: DSCR= Net Operating Income (NOI)= $65,000 Total Debt Service $57,139 DSCR= 1.14 Obviously the higher the DSCR, the more net operating income is available to service the debt. From a lenders viewpoint it should be clear that they want as high a DSCR as possible. The borrower, on the other hand, wants as large a loan as possible.
The larger the loan, the higher the debt service (mortgage payments). If the net operating income stays the same and the loan size and therefore the debt service increases, then the lower the DSCR will be. Life insurance companies are very conservative and generally require a 1.25 or a 1.35 DSCR.
This means that their loan-to-value ratio are low. Savings and loan (s&l;’s) generally require a 1.20 DSCR, and sometimes will accept a DSCR as low as 1.10. A DSCR of 1.10 is called a break even cash flow. That is because the net operating income NOI is just enough to cover mortgage payments (debt service).
ADSCR less than 1.00 would be a situation where there would actually be a negative cash flow. ADSCR of say 95 would mean that there is only enough net operating income (NOI) to cover 95% of the mortgage payment.
This would mean that the borrower would have to come up with cash out of his personal budget every month to keep the project afloat.
Generally lenders frown at negative cash flow. Some lender will allow a negative cash flow if the loan-to-value is less than around 65%, the borrower has strong outside income such as being an electronic engineer, for the size of the negative is small. Lenders rarely allow negative cash flo on loans over $200,000.