Commercial Financing

Understanding DSCR: How Commercial Lenders
Actually Evaluate Your Deal

If you've financed a home before, you're used to a lender looking at you: your income, your credit, your existing debts. Commercial mortgages flip that around. For an income-producing property, the lender's first question isn't "can you afford this?" It's "can the property afford this?"

That question is answered with one number: the Debt Service Coverage Ratio, or DSCR.

What DSCR actually measures

DSCR compares what a property earns to what it costs to carry. The formula is straightforward:

DSCR = Net Operating Income (NOI) ÷ Annual Debt Service

Net Operating Income is the property's rental income after operating costs, but before the mortgage payment. Annual debt service is simply the total of a year's worth of mortgage payments (principal and interest).

A DSCR of 1.00 means the property's income exactly covers its mortgage payment, with nothing left over. A DSCR above 1.00 means there's a cushion. A DSCR below 1.00 means the property doesn't generate enough income to cover the mortgage on its own, and you'd be topping up the shortfall out of pocket every month, something most lenders won't approve.

What counts as NOI

NOI starts with gross rental income, then subtracts the property's operating expenses, most commonly:

  • Property taxes
  • Insurance
  • Utilities, where the landlord pays them
  • Property management fees, typically 8 to 10% of gross rent
  • Maintenance and repairs
  • A reserve for future replacements (roof, mechanical systems, and so on)

It does not include the mortgage payment itself, depreciation, or income taxes. Lenders will also typically apply a vacancy allowance, often around 5%, against your gross rents regardless of how full the building is today, and they'll lean on market rents rather than above-market leases when stress-testing the income.

What ratio lenders actually want to see

This is where property type and financing program matter. Most conventional commercial lenders want a DSCR in the 1.20 to 1.30 range, meaning the property needs to earn 20 to 30% more than its mortgage payment. CMHC's MLI Select program, built for multi-family properties with 5 or more units, is considerably more forgiving, with a minimum DSCR as low as 1.10 for properties that score well on the program's energy efficiency, affordability, or accessibility criteria.

That gap matters in practice. A lower required DSCR means a given NOI supports a larger loan, which is a big part of why MLI Select has become such a popular route for multi-family investors.

Why this can work in your favour

Because DSCR looks at the property rather than you personally, it opens a door for borrowers whose personal numbers wouldn't otherwise support more borrowing: investors whose residential debt ratios are already maxed out, self-employed borrowers whose reported income doesn't reflect their actual cash flow, and anyone whose personal file is complicated but who's found a property that cash flows well on its own.

The flip side is just as true. A strong personal financial picture won't rescue a deal where the property's income genuinely doesn't support the debt. Get the NOI numbers right, and lined up with realistic vacancy and expense assumptions, before you get too attached to a purchase price.

Every property and every lender's appetite is a little different. If you want a second set of eyes on whether a deal's numbers actually pencil out, that's exactly the conversation worth having before you make an offer.

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