Debt Service Coverage Ratio for an Apartment Building: Computing It From Your Own Books

What is the debt service coverage ratio of an apartment building?

The debt service coverage ratio is an apartment building's net operating income divided by its loan payment. It shows how many dollars the building earns for each dollar the loan costs.

Net operating income is rent collected less running costs: what the building has left before the loan. Debt service is the loan's principal and interest. At Birch Way, $41,150 left before the loan against a $33,500 loan payment gives 1.23. The building earns $1.23 for every $1.00 the loan costs. On our home page calculator this is the loan coverage gauge.

The loan payment in this ratio is split in recording a multifamily loan payment.

What is the DSCR formula for an apartment building?

DSCR equals net operating income divided by debt service. Debt service is the principal and interest paid on the loan over the same period.

In words: loan coverage equals rent collected less running costs, divided by principal plus interest, for the same months.

Both numbers must cover the same period. 1 month of income against 1 month of loan payments, or 12 months against 12. The ratio moves every month, because rent collected and running costs move every month while the loan payment stays the same.

How do you calculate an apartment building's DSCR from its own books?

Take net operating income from the P&L. Take principal and interest from the lender statement. Divide. Birch Way: $41,150 divided by $33,500 is 1.23.

1. 1Take net operating income from the P&L: rent collected less running costs. Birch Way: $68,150 less $27,000 is $41,150.
2. 2Take principal and interest from the lender statement. Birch Way: $9,200 of principal and $24,300 of interest, $33,500.
3. 3Divide the first by the second. $41,150 divided by $33,500 is 1.23.

Birch Way, 1 month and 12 months, invented data

Both documents already exist. The P&L is your monthly report. The lender statement arrives with the draft. Nothing new has to be prepared to get the number.

What counts toward the top number is in net operating income for an apartment building. The 12-month figures come from the T12 statement for an apartment building, the last 12 months of the P&L in 1 column.

What counts as debt service on a multifamily loan?

Principal and interest. Escrow deposits do not count, because the tax and insurance are already in operating costs. Reserve deposits are treated as your loan documents say.

Birch Way's lender takes $41,050 from the operating account each month in 1 draft. Only $33,500 of it is debt service. The draft has 4 parts.

The Birch Way lender draft, invented data

If your loan documents take the reserve deposit out of income first, Birch Way's top number becomes $40,100, and $40,100 divided by $33,500 is 1.20. Same building, 2 definitions, 2 numbers. The definition in your documents is the one the lender tests, so read it before you compare your figure with the minimum.

What is a good DSCR for an apartment building?

Above 1.00 the building earns more than its loan costs. The number that matters is the minimum in your own loan documents. This site's gauge shows 1.25 and above as comfortable.

Our home page calculator shows the ratio on a gauge with 3 bands. They are this site's own bands, chosen so an owner can read the number at a glance. They are not a lender's rule.

The band tells you how much room there is. The minimum in your own loan documents tells you whether the lender is satisfied. To test a rent drop or a higher payment, use the multifamily DSCR calculator.

What is a DSCR covenant on a multifamily loan?

A DSCR covenant is a promise in the loan documents to keep the ratio at or above a stated minimum. The documents also say how it is calculated and how often it is tested.

A covenant is a promise written into the loan. Look for it in the loan agreement, in the section on financial covenants or reporting. It gives 3 things: the minimum ratio, the way the lender works the ratio out, and how often the lender tests it.

Take an example minimum of 1.25. It is the line where this site's gauge turns green, not a lender's rule. $33,500 times 1.25 is $41,875 of net operating income. Birch Way has $41,150, so it is $725 a month short of that example. Your own minimum may be higher or lower, and your loan documents say which.

The ratio is one of the figures the lender asks for in the lender reporting package.

What happens when an apartment building's DSCR falls below the minimum?

What follows is set by your loan documents, not by a general rule. Read the covenant section, and ask your attorney what the lender may do.

A loan document may name any of these:

• The lender holding back the building's cash until the ratio recovers.
• More frequent reports to the lender.
• A required paydown of the loan balance.

Each one is either written in your documents or it is not. Knowing your own number every month means you see it move well before a test date, with time to act on rent, costs or the loan.

How do you check an apartment building's DSCR every month?

After the month is closed, divide net operating income by principal and interest. Do the same for the last 12 months. Compare both with the minimum and with last month.

1. 1Close the month: every rent payment and every bill recorded, the bank account reconciled.
2. 2Divide the month's net operating income by the principal and interest paid that month. Birch Way: $41,150 divided by $33,500 is 1.23.
3. 3Do the same for the last 12 months in one go. Birch Way: $493,800 divided by $402,000 is 1.23.
4. 4Compare both figures with the minimum in your loan documents and with last month, and write all 3 on the monthly report.

At Birch Way the month gives 1.23 and the last 12 months give 1.23. Against an example minimum of 1.25, the building needs $725 more net operating income a month. The owner knows that distance from the books, before the lender runs its own test.