Debt-Service Coverage Ratio (DSCR)
Candlefocus EditorThe DSCR is an important measure for lenders in assessing a company’s ability to pay off the debt it takes on, and the amount of risk associated with the loan. Generally, a ratio of 1.0 and higher is considered acceptable by lenders, though the amount may vary depending on macroeconomic conditions and the risk involved with the loan.
The DSCR ratio is commonly used in commercial and residential mortgage loan evaluation, lease and purchase agreements, and bank loan underwriting. In essence, it functions as an efficiency indicator, allowing lenders to determine whether a borrower can reasonably be expected to make scheduled payments on a loan without straining its cash flow. The higher the ratio, the more comfortably a lender can assume the borrower’s existing obligations can be met along with the new loan.
The debt service coverage ratio is a useful tool both for lenders and borrowers. For lenders, it allows them to determine the amount of risk associated with providing a loan, while for borrowers, it helps them to decide what amount of loan they can comfortably take on. Evaluating a potential borrower’s DSCR can also allow lenders to modify the terms of the loan, such as the interest rate, to make it more likely to be repaid successfully.