Property investors in the Golden State are using debt service coverage ratio (DSCR) loans to expand their portfolios. DSCR is calculated by taking the monthly rental income and dividing it by the property's monthly expenses including principal, interest, taxes, insurance, and association dues (PITIA). The final debt service coverage ratio is essentially an indicator to the lender of a borrower's ability to repay their loan. Many lenders have a minimum DSCR of 1.2, which indicates positive cash flow.
DSCR loans are ideal for self-employed investors or investors with large portfolios. Their simplified approval process and loan terms are designed specifically for real estate investors. Let's take a closer look.
Traditional loans focus heavily on debt-to-income ratio (DTI) and require substantial documentation including pay stubs, bank statements and tax returns. Meeting debt-to-income ratio requirements can be tricky for investors with multiple mortgaged rentals. On the other hand, DSCR loans have qualifications based on a minimum credit score and are underwritten using the property's income potential.
With a DSCR loan, borrowers can take advantage of full 30-year terms with no balloons. Most DSCR lenders will also have the optionality for interest only loans, rate buy- downs, prepayment penalty buy downs, and rate structure choices. It is great for investors to be able to tailor their DSCR loan program to meet their investment needs. For instance, investors planning to hold onto their rental property long term can choose a fixed rate and pay higher fees, while investors who might sell in the near future can select an ARM rate structure and buy down their prepayment penalty.
For the professional investor looking to build a large real estate portfolio, a DSCR program is ideal. Most traditional lenders max out borrowers at ten loans. Instead, when evaluating qualifications for a DSCR loan, lenders will use common sense to evaluate an investor's maximum credit exposure.
To calculate DSCR, use this simple formula:
DSCR = Rent / PITIA
A debt-service coverage ratio of 1 indicates that the monthly expenses of a subject property are equal to the monthly expenses. For instance, if your monthly expenses are $1,800 per month and your rental income is $1,800 per month, you are breaking even. A good DSCR ratio is a 1.2 or higher. If your debt-service coverage ratio is too low, there are some simple ways to optimize it:
Despite a higher entry point, Mashvisor finds California as a worthwhile market due to its employment opportunities, increasing property values, and high rental demand.
In fact, the California Association of Realtors (CAR) reported that home prices are expected to increase 5.3% in 2023. This means that simply by purchasing a property in California over another state, you will see a higher ROI through appreciation.
Los Angeles is our number one city to originate DSCR loans in California. According to FortuneBuilders, Los Angeles is a great city to purchase investment properties with rental income on the rise and home ownership becoming increasingly cost prohibitive. The median rent is $2,644, and it's growing at an 11% pace year-over-year.
Here are some additional cities where Mashvisor recommends looking for rental properties in California:
Thermal, CA: This California city boasts a $424,170 median property price, an $1,800 average monthly rent, and a 4.93% cash return.
Alterna, CA: Offering over a 7% cash return, this city has an affordable entry point at a $387,583 median property price. Plus, the average monthly rent is over $3,000.
Corning, CA: Corning is another great California town to invest in with a median property price of $411,750, and an average monthly rent of $2,253. That’s a 4.7% cash return.
Pomona, CA: Nearby the Claremont Colleges, Pomona has a median property price of $658,000 and an average monthly rent of $2,756.Anaheim, CA: Home to Disneyland, Anaheim has a higher median property price of $825,103, yet also a high earning potential with an average monthly rent of $3,397.
Check out some of our recently closed DSCR loans in Florida.
Los Angeles, CA
Moreno Valley, CA
Whether you are looking to invest in long term or short-term rentals, you can count on Visio Lending to close your California DSCR mortgage. We have over a decade of experience in helping real estate investors grow their rental portfolios. We've closed hundreds of DSCR loans in California over the past several years.