Total Debt/ Total Assets= Debt Ratio

Category: Finance, Real Estate.

If you re ready to invest in residential investment property, you are about to set off on a juicy, long- term investment that will bring you big bucks in the years to come- if you manage your money wisely.

Sure, you ve borrowed money before, so you know the drill, right? The first step on your way is to get an investment property loan. Actually, there are some key differences with investment property loans that make them a little bit trickier than you would expect. It takes a quite a lot of money to buy a house, but with an investment property, you re looking at a much larger sum of money. When you took out your loan for your house, it was quite a whopper. This means that you are asking the bank to finance an incredible amount of money, and this can make success difficult.

If you want to get a large sum financed, you have to be familiar with the way commercial businesses do it. Most of the borrowers that take out these loans are commercial businesses, not private individuals. This will make you much more informed when it comes time to actually sit down with the folks at the bank. There are three ratios commercial lenders use to calculate their expenses. Let s look at how commercial enterprises do it. These are the Debt Coverage Ratio( DCR) , the Loan- To- Value Ratio( LTV) and the Debt Ratio. The idea with the DCR is to determine whether the property s income will cover its mortgage.

You might also see the" Debt Coverage Ratio" as the" Debt Service Coverage Ratio, " or DSCR, to add a little more to our alphabet soup! The basic equation looks like this: Net Operating Income( NOI) / annual debt service= the Debt Coverage Ratio. The Debt Coverage Ratio should be at least If it ends up lower than 1, it means that the property will not generate enough income to take care of itself. The" annual debt service" means everything paid on the loan, including interest and principle. Anything under 1 is considered a percentage( with 1 being 100% ). On the other hand, if you have a DCR of 15, this is good.

The property needs to be able to at least pay for 100% of its mortgage. This means that your venture is not only paying for itself, but also making 15% profit. In most cases, this simply means the remaining balance of what you have to pay back. The LTV( loan- to- value ratio) is basically a ratio of the amount borrowed against either the price of the property, or its value. If you put 30% money down on a property, you will be paying the other 70% over time. Of course, it s a little more complicated then that.

This means that the LTV is 70% . Here is the equation to determine your LTV: Loan Amount/ Purchase Price= Loan- To- Value Ratio. (Purchase Price- Down Payment= Loan Amount) This is expressed either as a percentage or a decimal figure. It is the amount of debt you have compared to the amount of your assets. For our example of 30% down, we would call the LTV either 70% or The Debt Ratio is the simplest of all. Total Debt/ Total Assets= Debt Ratio. If your Debt Ratio is over 1, that means that you have more debt than assets, and you are not in a very good position to receiving any type of financing. With the Debt Ratio, the lower the better.

It will be tough to find a lender. Before heading to the bank to finance your venture, do these calculations and it will give you a better idea of where you stand. If you are under 1, that means that your debts are under control, and the lower the number, the more under control your debts are. This is an important part of the decision- making process of investing in residential real estate.