What Are DSCR Loans? 7 FAQs
7 frequently ask questions we get, answering the question – what are DSCR loans?
The easy answer to, “What are DSCR Loans?” is: they’re loans designed for real estate investors that are approved based on the property’s rent income alone.
But that doesn’t answer all the questions you have about DSCR loans. Here are 7 of the most frequently asked questions we get about this type of loan.
1. Are DSCR Loans Long-Term or Bridge Loans?
DSCR loans are typically long-term hold loans. They are usually 30-year fixed, although they do come in different forms.
This isn’t a bridge loan that you’ll refinance out of or sell in a few months to a year. DSCR loans are designed as long-term options for investors. You get them, and then you stay put.
2. Can You Use a DSCR Loan to Buy and Flip a Property?
Technically, you could use a DSCR loan to buy and flip a property, but it will cost you more money. DSCR loans come with some unique features, such as prepay penalties.
They’re also not set up to be fix and flip loans because they require you to put 20% down, no matter what the value of the property is.
So if you bought a property to flip with a DSCR loan, you would have to put 20% down and cover all the costs of rehab on top of that. Plus, the interest rates and points involved in DSCR loans are not profitable as a short-term fixed loan.
The DSCR loan has its time and place, but if you need to flip a property, there are better loans designed for that.
3. What Is a Prepay Penalty?
Most, if not all, DSCR loans come with a prepay penalty.
A prepayment penalty is a fee charged by lenders when a borrower pays off their loan before the agreed-upon term ends.
If you have a three-year prepay and sell or refinance your loan before the end of the term, you may be charged a fee. These exit fees are usually between three and 5% of the loan amount. For instance, a $200,000 loan may cost you up to $10,000 in exit fees.
DSCR loans typically have a prepay period of 3-5 years.
4. How Do You Calculate DSCR?
All a DSCR calculation looks for is whether income (rent) covers expenses. The calculation looks like:
Rent ÷ Expenses = DSCR
When they’re looking at expenses, they’re only looking at your mortgage, your taxes, your insurance, and any HOA fees. They’re not going to take into account property management or maintenance.
They’re just looking at those four things. The DSCR calculation just wants to make sure your rents are equal to or higher than your expenses.
5. How Long Do You Have to Be in Business to Get DSCR Loans?
Number five, how long do you have to be in business to get a DS c R loan? We all understand with some banks and even conventional loans typically have to be in business for two years or have some track record. That’s the great thing about DS C R loans. You start the business yesterday and close on a Dscr R loan. There are no business requirements because they don’t ask and look at income from you personally or the business. They’re just looking at the income from that rental property.
Some banks and conventional loans require you to be in business for two years or have some other proof of experience.
For DSCR loans, however, there are no business requirements. Even if you started the business yesterday, you can close on a DSCR loan. Underwriting for DSCR loans doesn’t look at your personal income or your business experience. Just the rental income from the property.
6. Is a DSCR Loan or Conventional Loan Better?
A DSCR loan is not always better than a conventional loan, but it is in certain circumstances.
For example, if you just started in business and can’t go the conventional or bank route, DSCR loans wouldn’t care. They also don’t care if you write everything off or want to pay the IRS as little as possible. In addition, DSCR loans will finance up to an eight-unit property, whereas conventional loans only go up to four units.
DSCR loans usually won’t have better rates, but they’re overall easier to qualify for.
7. How Do You Get Approved for a DSCR Loan?
#1: Credit score. You’ll typically need a score of 680 or higher to be eligible for a DSCR loan. The higher your score, the better your terms, including your down payment, loan-to-value ratio, interest rate, and cost.
#2: The property’s income. To qualify for the best rates, rent must exceed your expenses. While some products allow for negative cash flow, these loans don’t offer good rates.
#3: Loan-to-values. The more equity you have in the property, the better chance you have of being approved with more favorable rates and terms.
Making DSCR Loans Simple
Have a question about DSCR loans that we didn’t cover? Send us an email at Info@HardMoneyMike.com.
We’d also like to offer a free DSCR calculator here for you to download and use on your deals. The calculator will help you find out if the property will cash flow before you get to your lender.
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