Tag Archive for: DSCR loan

How to Combat a Negative Cash Flow Rental Property

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Sometimes you end up with a negative cash flow rental property. Here’s how to combat that negative cash flow.

A negative cash flow rental property can be the lesser of two evils.

If your options are to sell your flip at a loss, or shell out tens of thousands of dollars yearly interest on a bridge loan refinance… Suddenly eating a small monthly loss making the flip a rental doesn’t seem so bad.

Let’s look at the numbers behind making a negative cash flow rental property work for you.

Refinancing with Bridge Loans vs DSCR

Getting a DSCR or no-ratio loan from a new lender is typically a better move than continuing to refinance with bridge loans from your current lender.

You don’t know where the market will be in 12 to 24 months. We know that long-term, the markets will come back, but what if that doesn’t happen for 3 years? You could get stuck refinancing with a bridge loan year after year, charging points with each refinance.

DSCR loans are often a better option in this situation. You just have to know your numbers.

Let’s go through an example so you know exactly how to calculate a DSCR loan and see if it’s the smart choice for you.

Using a DSCR Loan on a Negative Cash Flow Rental Property: The Numbers

Let’s look at an example with a $300,000 loan. We’ll assume that both the original flip loan and the DSCR loan you’re refinancing into are interest-only.

This $300,000 flip loan has a 10% interest rate. That means you’re paying $2,500/month just for interest. This is the current negative cash flow of the property.

On the other hand, if you can get a DSCR loan for a 7% interest rate, you’d be paying $1,750/month instead. Plus, you could get a tenant renting for $1,800/month.

At this point, $1,800 would be coming in, and $1,750 would be going out for mortgage payments. This is actually a positive cash flow of $50/month.

However, your mortgage isn’t your only expense on this property. We still have to take taxes and insurance into consideration. Let’s say both of those costs add up to $300 per month. 

This raises the total expenses with a DSCR loan to $2,050 per month, bringing the cash flow to a -$250 every month.

Flip Loan vs DSCR Loan Compared for a Negative Cash Flow Rental Property

Obviously, you never like to lose money on a property. But that $250 of negative cash flow multiplied by 12 months is only $3,000. After 2 years, it’s $6,000. That may seem like a lot, but let’s look back at what you’d spend with the original flip loan.

If we go back to our example, remember we’d be paying $2,500 per month in interest, plus $300 in taxes and insurance with the original flip loan. That’s $2,800 spent for 1 month with the flip loan – close to the $3,000 for the full year with a DSCR loan!

If you keep the house on the market with this flip loan for 2 months, it’s $5,600. That’s comparable to 2 years of out-of-pocket costs if the same property was converted into a rental.

Is Negative Cash Flow Worth It?

This is how you have to look at the numbers in this scenario. It will help you determine what’s right for your flip. Is it better to wait for the market and shell out thousands of dollars in the meantime? Or rent the property with a little negative cash flow for 2-3 years in hopes of recouping an extra $100k in equity when the markets come back? (Or at least until rates come back down so you can refinance?)

In many cases, it makes more sense to turn your flip into a rental ASAP. A negative DSCR or no-ratio loan is how to combat that a negative cash flow.

Read the full article here.

Watch the video here:

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Numbers Explained: DSCR Loan vs Bridge Loan

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Let’s break down an example of a loan comparison: DSCR Loan vs Bridge Loan.

DSCR loans and bridge loans are the main ways you can turn a flip into a rental.

Each loan has its pros and cons. When it comes to cost, a bridge loan is better for rentals you’ll keep for less than a year. DSCR loans, on the other hand, are best for rentals you want for two or more years.

But what about a rental you plan to have for between one and two years? Where’s the tipping point?

Let’s look at an example to see how it works.

A Look at the Numbers

To help us understand when a DSCR loan becomes the cheaper option, let’s look at an example. Then we can see exactly when the scale tips in the DSCR’s favor.

Let’s say we get a DSCR product with the following numbers:

  • A higher interest rate at 8%
  • All fees and loan costs at 2.5%
  • We’re a year or two into the loan and the prepay penalty is down to 4%

DSCR Loan vs Bridge Loan: Year One

Let’s look at the number comparison for a $250,000 loan.

The DSCR loan’s 8% rate adds up to $20,000/year. The fees at 2.5 points is $6,250. Lastly, that 4% penalty will cost us $10,000.

Now let’s factor in our bridge loan numbers. The average bridge loan for a $250,000 loan would look like an 11% rate costing $27,500 per year. This is $7,500 more yearly than the DSCR loan, or $625 more per month. The closing costs would be the same for the bridge loan, and then, of course, no prepay fee.

You can see the bridge loan is still almost $3,000 cheaper than the DSCR loan.

These calculations only represent year one of the loan, however. Within that first year, a bridge loan will definitely be cheaper. 

DSCR Loan vs Bridge Loan: Month 15 & 16

Here’s how things change by month 15:

The bridge loan’s interest starts adding up, and suddenly the DSCR doesn’t seem so expensive. And at month 16, the loans are the same price:

After 16 months, the DSCR loan in this scenario would always be the cheaper option. And every year, the DSCR’s prepay fee drops lower; meanwhile, the bridge loan keeps accruing high interest at the same rate.

Is 16 Months a Realistic Timeline for the Market Right Now?

We expect that the market won’t pick back up for another 14-16 months anyway. If your flip is stuck on the market now, you could:

  1. Get a DSCR loan for the property.
  2. Take a 12-month tenant.
  3. Leave 4 months to spare for getting the house ready, on the market, and closed.

This puts you right at the 16 month minimum to make the DSCR loan worthwhile.

Read the full article here.

Watch the video here:

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How to Calculate a DSCR Loan Ratio

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Could this be the right leverage for your deal? Here’s how to calculate a DSCR loan.

“DSCR” stands for “debt service coverage ratio.” It’s a number that explains cash flow, or money coming in vs money going out.

In a real estate rental situation, there are two important numbers to figure out this ratio:

  1. Income – rent from tenants.
  2. Expenses – mortgage principal and interest, taxes, insurance, and any HOA fees.

What Ratio Do DSCR Lenders Take?

If your income 100% covers your expenses with none left over, that’s a ratio of 1:1. Most DSCR lenders require 1:1 as a standard minimum.

Some lenders will go as low as .75, which is called no ratio. That’s if your income from your rental leaves 25% of the property’s expenses left over. 

But the ideal use of a DSCR loan is when you have a higher ratio. This would mean your rent is higher than your expenses, and your property has positive cash flow.

How Do You Calculate the DSCR?

So now you understand what the ratio is… But how do you calculate your DSCR ratio?

You need the two numbers:

  1. The rent you’ll charge (income)
  2. Mortgage principal and interest, taxes, insurance, and HOA fees (expenses)

Note: utilities and property management costs are not considered expenses on a DSCR loan.

Once you add up your expenses, you have to find out if your rent covers them. To get the ratio number, you divide income by expenses.

DSCR Loan Calculation Example

Here’s a simple example.

Let’s say you have a single-family property, and the interest and mortgage is $1,000/month. Taxes are $250, property insurance is $150, and there are no HOA fees.

Your total monthly expenses adds up to $1,400.

Now let’s say the rent you can charge based on your property’s location is $1,600.

So, you can divide $1,600 (income) by $1,400 (expenses). You get a ratio of 1.14.

A 1:1 ratio (the typical minimum) can also be called 1. So our 1.14 is higher than the minimum. With a ratio higher than one, you’ll have a much better shot at finding a DSCR lender who will work with you.

If the market in our example went up, maybe you could charge $2,000/month for rent. If your expenses were still $1,400, your ratio would be 1.42. With that ratio, you could likely get a bigger loan and lower rate.

The higher your ratio, the better your opportunities for rates and terms. The lender sees it like this: the more income coming into the property, the more guaranteed it is you’ll pay them back.

Using a DSCR Loan Calculator

If you’d rather skip the manual math, you can download our simple, free DSCR loan calculator here.

Read the full article here.

Watch the video here:

https://youtu.be/W7-P0YL_yU0

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What a DSCR Lender Looks For

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Know what a DSCR lender looks for before you close!

While conventional conforming loans have one main underwriting guideline all lenders follow, every DSCR lender creates their own requirements, offers, and processes.

The most important thing to know about DSCR loans right now is that they vary from lender to lender. You need to get to know the lenders in your area.

How DSCR Loans Differ

Firstly, each lender has their own nuances. Any number of these factors can change for a DSCR loan between different lenders:

  • Ratio requirements
  • Credit score requirements
  • Terms and products (interest-only, 40-year, etc.)
  • Interest rates

Lenders will also have different restrictions for properties, based on:

  • Location
  • Unit size
  • Short-term vs traditional rentals
  • Personal name vs LLC name

To be successful with DSCR loans, then you need to become a master of which lenders offer what in your area.

Lenders won’t come knocking on your door to let you know what products they have available. You have to be proactive.

How to Connect with DSCR Lenders

With more investors asking for money and less money available, many lenders are overwhelmed. The best thing you can do is be proactive, educated, and prepared with your lenders.

It’s also wise to get someone who can help connect you with lenders and products. A place like The Cash Flow Company can help with this aspect of real estate funding. They can advocate for you to make sure you get the best loan for your deal.

What Ratio Requirements A DSCR Lender Looks For

“DSCR” stands for “debt service coverage ratio.” It’s a number that explains cash flow, or money coming in vs money going out.

In a real estate rental situation, there are two important numbers to figure out this ratio:

  1. Income – rent from tenants.
  2. Expenses – mortgage principal and interest, taxes, insurance, and any HOA fees.

The ratio is income divided by expenses. Therefore, if your income 100% covers your expenses with none left over, that’s a ratio of 1:1. Most DSCR lenders require 1:1 as a standard minimum.

Read the full article here.

Watch the video here:

https://youtu.be/W7-P0YL_yU0

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Refinancing: DSCR Loans vs Bridge Loans

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Refinancing can save you from a bad fix-and-flip. But which is better: DSCR loans vs bridge loans?

This market could force you to sell your fix-and-flip for much less than anticipated. Or – it could not sell at all.

When your lender asks for the money from your flip loan, a refinance could be the solution. Refinancing buys you time. With the right refinancing loan, you can safely wait for a better market to sell the property.

Let’s take a look at DSCR loans vs bridge loans for this type of refinancing.

DSCR Loans

Are you open to keeping your flip for a little longer term? Would you convert it to a rental in the meantime? If so, a DSCR loan is a great way to refinance out of a fix-and-flip.

A DSCR loan is a type of rental loan, based only on:

  • Your credit
  • Rental income from the property (not your personal income)
  • LTV (appraisals, listing price, etc that show the value of the home)

If you’re considering a DSCR loan, let’s look at the pros and cons of shifting gears from a flip to a rental.

DSCR Loan Pros

A DSCR lender will loan you up to 80% of the value of the home.

Cash Flow Opportunity for Your Flip

Your options for a DSCR loan product are broad. You can get anything from an interest-only to a 40-year loan.

With these options, you can spread the payments out. With lower payments and a potential tenant, you can match the cash flow to break even on the property (or maybe even bring in positive cash flow!).

This cash flow frees up your money to buy more flips and keep your business going. With that free money, you can jump on the good deals that will pop up in the next few months.

“Easy” Loan

Some of the biggest advantages of a DSCR loan is how easy it can be to apply and qualify.

For this type of loan, there are no income requirements. You just need good credit and rent that covers the monthly loan payment.

DSCR Loan Cons

There’s one important trick to refinancing a house that’s been on the market:

The appraiser is going to use the last price the house was listed for in their appraisal.

It’s tempting to drop the price when you have a flip on the market to try and attract a buyer. But once you decide to refinance, your house won’t appraise for higher than that lowest listed price.

So, it’s important to decide what you want to do with a flip ASAP. If you know you may want to refinance, you don’t want to keep lowering the list price, or it will negatively impact you.

Pre-payment Penalty

All DSCR loans have some kind of pre-payment penalty. Many are for around 3 years.

This means you have to keep the loan for that period of time, otherwise you’ll be charged a percentage fee for paying off the loan early.

If you want to keep this loan on your property for less than 3 years, you’ll be stuck paying that pre-payment penalty with a DSCR loan.

Not Available for Rural Areas

Also, DSCR loans are not designed for smaller towns. They can be great if you’re in a larger community, but they’re just not available in small ones.

And as money tightens up overall in the real estate lending space, DSCR programs are tightening up too. Rates will go up, LTVs will go down, and they will concentrate more on city centers. 

Most DSCR loan programs go as far as 25 miles from a city. But anything that shows up rural on an appraisal will likely not qualify for DSCR.

Bridge Loans

A bridge loan is a short-term loan that’s designed to give you flexibility on flips that are slow to sell.

With a bridge loan, you’re free to keep the house on the market, or convert it to a rental. The main purpose of a bridge loan is to get you out of a tough situation with the lender of your flip. What you choose to do with the house afterward is flexible with a bridge loan.

Bridge Loan Pros

Bridge loans are designed to help you refinance out of a flip. It gets you out of your original loan quickly –which is crucial when you’re getting calls from your lender. Plus, it helps you from paying high monthly payments with no cash coming in.

Additionally, bridge loans:

  • have no pre-payment penalty
  • can be interest only
  • close very quickly.

Bridge Loan Cons

Too Short-Term?

Bridge loans are short-term – varying between 1 and 3 years. 

In our market, we don’t expect interest rates to trend down for at least another year. If your bridge loan only covers you for a year, that might not be enough time to carry you into a better market.

You’ll want your refinance bridge loan for at least 2 years to give you some flexibility with the property.

You may need to shop around – 3-year bridge loans can be difficult to find, and many are limited to 1 year only.

Low LTV

Bridge loans are usually only 65% to 70% of the house’s current appraised value. 

Again, remember that your listing price will have a direct impact on that appraised value. If you slide the price down on the market to attract buyers, your refinance loan will be lower.

DSCR Loans vs Bridge Loans to Refinance

When we meet with a client about how to refinance out of a fix-and-flip, we weigh DSCR loans against bridge loans.

There’s always a tipping point – usually somewhere between the 14th and 17th month of a DSCR loan – where the pre-pay fee becomes cheaper than a bridge loan.

Bridge loans typically have 2% to 4% higher annual rates over a DSCR loan. Always analyze this tipping point, and choose the right loan (DSCR loans vs bridge loans) for you based on the length you’ll need it.

Read the full article here.

Watch the video here:

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How DSCR Loans Work in Today’s Real Estate Market

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Here are the basics of how DSCR loans work for your real estate investment.

Finding the right loan isn’t as easy as it used to be.

We’re getting more and more calls asking about different loans. And the most common loan investors want to know about? DSCR loans.

How are DSCR loans changing in this current market? Where will rates go? Who is still offering them? Is a DSCR loan even still a good option for investors right now?

Let’s go over those answers and see how DSCR loans work in today’s real estate market.

The Basics of How DSCR Loans Work

To begin with, the most important thing to know about DSCR loans right now is that they vary from lender to lender. You need to get to know lenders in your area.

Conventional conforming loans are different – they have one main underwriting guideline all lenders follow. For DSCR loans, every lender creates their own requirements, offers, and processes.

How DSCR Loans Differ

Each lender has their own nuances. Any number of these factors can change for a DSCR loan between different lenders:

  • Ratio requirements
  • Credit score requirements
  • Terms and products (interest-only, 40-year, etc.)
  • Interest rates

Lenders will also have different restrictions for properties, based on:

  • Location
  • Unit size
  • Short-term vs traditional rentals
  • Personal name vs LLC name

To be successful with DSCR loans, you need to become a master of which lenders offer what in your area.

You have to be proactive. Lenders won’t come knocking on your door to let you know what products they have available.

How to Connect with DSCR Lenders

With more investors asking for money and less money available, many lenders are overwhelmed. The best thing you can do is be proactive, educated, and prepared with your lenders.

It’s wise to get someone who can help connect you with lenders and products. A place like The Cash Flow Company can help with this aspect of real estate funding. They can advocate for you to make sure you get the best loan for your deal.

How DSCR Loans Work – What is the “DSCR”?

“DSCR” stands for “debt service coverage ratio.” It’s a number that explains cash flow, or money coming in vs money going out.

In a real estate rental situation, there are two important numbers to figure out this ratio:

  1. Income – rent from tenants.
  2. Expenses – mortgage principal and interest, taxes, insurance, and any HOA fees.

What Debt Service Coverage Ratio Do DSCR Lenders Take?

If your income 100% covers your expenses with none left over, that’s a ratio of 1:1. Most DSCR lenders require 1:1 as a standard minimum.

DSCRs Lower Than 1:1

Some lenders will go as low as .75, which is called no ratio. That’s if your income from your rental leaves 25% of the property’s expenses left over. 

There’s one main circumstance when investors would take a loan with no ratio. If you have a fix-and-flip in a tough spot and need to refinance it into a rental for a short time, a no ratio DSCR loan could make sense.

Making $2,500 rent on a $3,000 per month property is better than spending $3,000 every month for a house that’s just sitting on the market. Some income is better than none.

DSCRs Higher Than 1:1

But the ideal use of a DSCR loan is when you have a higher ratio. This would mean your rent is higher than your expenses, and your property has positive cash flow.

Some lenders require a ratio of 1:2. This requires a much bigger gap between what your tenant pays for the property and what you pay. Hitting this ratio can be unrealistic for many markets. Rents are steadily increasing, but not by that much.

You should verify what ratio lenders use before you even consider closing on a DSCR property. Do your research, learn your lending options, and find out each DSCR lenders’ minimum requirements.

How DSCR Loans Work – How Do You Calculate the DSCR?

So now you understand what the ratio is and how lenders use it… But how do you calculate your DSCR ratio?

You need two numbers:

  1. The rent you’ll charge (income)
  2. Mortgage principal and interest, taxes, insurance, and HOA fees (expenses)

Note: utilities and property management costs are not considered expenses on a DSCR loan.

Once you add up your expenses, you have to find out if your rent covers them. To get the ratio number, you divide income by expenses.

If you don’t want to worry about doing the math yourself, you can download our free DSCR loan calculator at this link.

DSCR Loan Calculation Example

Here’s a simple example.

Let’s say you have a single-family property, and the interest and mortgage is $1,000/month. Taxes are $250, property insurance is $150, and there are no HOA fees.

Your total monthly expenses adds up to $1,400.

Now let’s say the rent you can charge based on your property’s location is $1,600.

So, you can divide $1,600 (income) by $1,400 (expenses). You get a ratio of 1.14.

A 1:1 ratio (the typical minimum) can also be called 1. So our 1.14 is higher than the minimum. With a ratio higher than one, you’ll have a much better shot at finding a DSCR lender who will work with you.

If the market in our example went up, maybe you could charge $2,000/month for rent. If your expenses were still $1,400, your ratio would be 1.42. With that ratio, you could likely get a bigger loan and lower rate.

The higher your ratio, the better your opportunities for rates and terms. The lender sees it like this: the more income coming into the property, the more guaranteed it is you’ll pay them back.

Short-Term Rental Options with DSCR Loans

It’s still possible to use DSCR loans for short-term rental units (like Airbnb or VRBO).

However, the requirements may be different for a short term-rental. You can get your DSCR loan for a short-term rental one of two ways:

  1. You’ll need to have 2+ years of experience with the property, with proof of income for that time. The rental will be treated as “no ratio,” so you’ll get higher rates and lower LTVs.
  2. They’ll go off of market rent of traditional rentals in the area. If the DSCR with that market rent qualifies, you can get a decent loan.

In either case, DSCR loans for short-term rentals don’t count the rent you receive from guests as the income. The ratio has to be calculated using regular rent rates.

Get Someone On Your Team Who Knows How DSCR Loans Work

You may be stepping into unfamiliar waters with this market, unsure of where or how to get investment loans. Yet leverage will still be vital for your real estate career.

The Cash Flow Company searches every day for the best loans for real estate investors.

If you have a DSCR loan or a deal you need a loan for, reach out to us at Info@TheCashFlowCompany.com.

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DSCR Calculation

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An important part of considering a DSCR loan is understanding the DSCR calculation. All lenders will look at this formula for DSCR loans.

Let’s go through and look at the numbers to find out if your property has enough cash flow for a DSCR loan.

Income & Expenses

The number one thing DSCR lenders look at is income.

For this example, let’s say our rent is $1,000 per month.

The next thing they look at is expenses.

They want to make sure your income more than covers your total costs. They’ll look at: mortgage payments, taxes, insurance, and HOA. Right now, they don’t look at property management costs, but that could change in the future.

Let’s fill out these numbers for our example property:

Table. Title: "DSCR Formula." Rent: $1000. An itemized list of expenses totaling $850.

So, the total expenses for this property are $850. Right away, we can see that income more than covers expenses, and this property cash flows $150/month.

Applying the DSCR Formula

Then, the equation lenders will do to determine this cash flow will be:

Income  ÷  Expenses  =  Cash Flow Rate

Or, in this case:

1000  ÷  850  =  1.17+

Lenders are looking for a positive cash flow. They want properties with:

  • Bare minimum: One-to-one. This means your rent at least covers your costs. (Example: Rent is $1000 and your monthly expenses on the property is $1000).
  • Better: 1+
  • Best: 1.25+

Download our free spreadsheet to fill out this formula for your properties to see if they’d qualify for a DSCR loan.

DSCR calculation.

Find out more on how to leverage up your real estate investments on our Youtube channel.

The Cash Flow Company can help you with DSCR loans and all real estate investor loans.

We also can help you find and set up real private money from those around your area.

We scour 100’s of loan programs across the country every month locating the best investor friendly loans.

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