Money & Finance › Commercial real estate lending › Commercial real estate loans: how income property is financed
Underwriting a property loan: DSCR, LTV and debt yield
· Concept
Fact, law or dataA rule, statute, definition or measured number.
How a lender sizes a property loan: three tests on income and value, and the smallest loan that passes all three wins.
See it on the Money & Finance map →How it works
DSCR: net operating income divided by annual debt service, usually at least 1.20–1.35x. LTV: loan divided by appraised value, usually 55–75% at most. Debt yield: NOI divided by the loan, often at least 8–10%. Example: $1 million NOI, a 6.5% rate on 30-year amortization, an 8% cap rate. A 1.25x DSCR allows about $10.5 million, a 10% debt yield $10 million, 65% LTV $8.1 million. The lender offers about $8.1 million.
Why it matters
An owner who knows the tests can predict the loan size, see which test binds, and work on what raises it: more NOI, a better appraisal or a lower rate.
Think of it like
A tenant credit check run on the building itself: the rent roll is its paycheck.
Facts, rules and data
Lender term sheets and credit policies, federal FIRREA appraisal rules (required for CRE loans over $500,000 since 2018), and rating agencies' published CMBS criteria.
Inside this (3)
Connections (3)
▸Underwriting a property loan: DSCR, LTV and debt yield decides the size of Commercial real estate loans: how income property is financedFact, law or data
The connection
The lender runs the DSCR, LTV and debt-yield tests on its own 'underwritten' NOI, after market vacancy, a management fee and reserves, and offers the smallest loan that passes all three. The same tests apply at refinance, so lower NOI or a weaker appraisal can leave an owner needing new equity.
When and why
All US commercial lenders; CMBS adds rating-agency criteria, and life companies use stricter thresholds.
How we know
Term sheets, bank credit policies and rating agencies' published CMBS methods.
Debates and risks
Lenders differ on which test should bind; debt yield, which ignores interest rates and appraisals, gained favor after 2008.
▸Underwriting a property loan: DSCR, LTV and debt yield values the collateral using Cap rates: how real estate is pricedFact, law or data
The connection
Appraisers value income property by dividing NOI by a market cap rate. A rise from 6% to 7% cuts a $1 million NOI building's value from about $16.7 million to $14.3 million, and a 65% LTV loan from about $10.8 million to $9.3 million, with no change in rent.
When and why
Every appraisal for a US bank or CMBS loan; appraisers follow the USPAP standards.
How we know
Appraisal reports, federal FIRREA appraisal rules, and cap rate surveys from CBRE, Green Street and others.
Debates and risks
Office cap rates are uncertain when few buildings trade, so appraisals can lag reality in either direction.
▸Debt service coverage ratio (DSCR) is the first test in Underwriting a property loan: DSCR, LTV and debt yieldFact, law or data
The connection
Lenders run DSCR, LTV and debt yield and lend the smallest amount that passes all three. When rates are low, LTV usually binds; when rates are high, as since 2022, DSCR or debt yield often binds, shrinking loans even where values hold.
When and why
In US commercial lending at banks, CMBS lenders, life companies and the agencies.
How we know
Lender term sheets and credit policies, and rating agencies' CMBS criteria listing minimum DSCRs.
Debates and risks
Whether to test DSCR at the actual rate or a stressed higher rate is a judgment call that varies across lenders.