After the gold rush of 2020–2021, the dust is finally settling, and a hard truth is coming into view: Just because a property cash flows on paper doesn’t mean it cash flows in real life.
DSCR (Debt Service Coverage Ratio) loans exploded in popularity over the last few years, giving investors a fast lane to scale portfolios without traditional income verification. No W-2s? No problem. If the property paid for the loan, you were good to go.
But now, with rates still stubbornly high and expenses creeping up faster than rents, the numbers are cracking. Investors who scaled fast are finding out the hard way that growth without operational discipline isn’t just risky, it’s expensive.
Where the Math Went Wrong With DSCR
Many DSCR underwriting models skipped or underestimated key operational costs for rental properties:
- Turnover costs, which often run $10,000–$15,000 when factoring vacancy, repairs, marketing, and concessions.
- Maintenance reserves, rarely baked in but always necessary.
- Property management fees, especially for investors scaling out of state.
- Rising taxes and insurance have outpaced rent growth in many markets.
So that 1.2x DSCR that got you approved? In real life, it might be closer to 0.9x. And now, you’re operating with negative leverage – borrowing money at a higher cost than your return. That’s not investing; that’s slow-motion loss.
How to Calculate DSCR
To properly evaluate your property’s performance and risk profile, DSCR must be calculated with disciplined accuracy:
DSCR = Net Operating Income (NOI) / Total Annual Debt Service
When determining your true NOI, subtract the following from your predicted gross rental income:
- Vacancy allowance
- Property taxes
- Insurance premiums
- Property management (including renewal or leasing fees)
- Ongoing maintenance and repair expenses
- Utilities (if landlord-paid)
- Capital reserves for major systems or long-term upkeep
- Turnover-related costs
Then calculate your debt service by adding your mortgage payments, interest, and other loan-related fees.
If the resulting ratio falls below 1.2x, the property may not generate adequate cash flow to justify the leverage, especially in today’s interest rate environment.
A Market in Transition, Not Collapse
The cracks are showing, but this isn’t 2008. It’s a recalibration. Over-leveraged investors are exiting, creating opportunities for well-capitalized buyers to acquire discounted assets, assume loans from distressed sellers, or negotiate better terms on off-market deals. Smaller operators may also find entry into competitive markets that were previously overheated.
The fundamentals haven’t changed; they’ve just reasserted themselves.
In a market where appreciation can’t be counted on, cash flow, reserves, and operational accuracy will define who survives and who scales.
INVESTOR TAKEAWAYS
What is DSCR and why is it important for real estate investors?
DSCR, or Debt Service Coverage Ratio, measures a property’s ability to cover its loan payments using its net operating income. A DSCR above 1.2x is generally considered safe, signaling that the property earns more than enough to cover debt obligations. It’s a critical metric for assessing risk and long-term sustainability.
Why do some DSCR-approved properties still lose money?
Many investors base underwriting on overly simplified models that exclude real-world costs like turnover, maintenance, and rising taxes. While a loan may be approved based on a 1.20x DSCR, actual operations may bring that number closer to 0.90x, resulting in negative cash flow even when the property looks profitable on paper.
What should be included when calculating NOI for DSCR purposes?
To get a true picture of property performance, investors should subtract expenses such as vacancy, property taxes, insurance, management fees, maintenance, utilities, capital reserves, and turnover-related costs from gross rental income. This more accurate NOI provides a reliable foundation for DSCR analysis.
What happens when your DSCR falls below 1.0x?
A DSCR below 1.0x means the property isn’t generating enough income to cover its debt service. This results in negative leverage, where you’re effectively losing money on borrowed funds. If not addressed, it can lead to eroded equity, depleted reserves, and eventually forced sales or defaults.
How does the DSCR loan model change in a high rate environment vs a low rate environment?
In a low-rate market, DSCR loans made it easy to scale quickly because debt was cheap and cash flow thresholds were easier to meet. In a high-rate environment, those same loans demand tighter underwriting and stronger operating performance. Margins shrink, expenses rise faster than rents, and the cost of mistakes is much higher, making conservative modeling and cash flow discipline essential.
