How to figure out my Debt Coverage? 7% factor?

Question

Can I use 7% interest as a conservative number to figure out my mortgage payments?

If i got $1,000,000 Lent to me. I would pay 70k in mortgage payments per year

Robert Leonard · Answer

Yes, that appears to be what GC was suggesting. He is very good at explaining and answering questions about how he analyzes deals.  It’s a rule of thumb and if I understood his use of it, he suggests that he is including some of the transaction fees added to the bank financing to come up with using “the 7 factor” to capture or round off to estimate the cost.  To get the bestt answer, I recommend catching one of his live broadcasts and posting the question to him.

Matt Lefebvre · Answer

@Jim Growfer there is no need to "estimate" your mortgage payment at a rate of 7%.  Mortgages are something you can calculate down to a couple dollars off a month in one direction or another within a matter of minutes.  Take a quick google search of "mortgage calculator" and you'll be able to crunch the exact numbers on any mortgage within two minutes by filling out the appropriate information that accounts for all of the variables (different down payment scenarios, amortization timelines, etc.)

You can even find an amortization calculator online and build it into an excel spreadsheet so you can automatically plug in those numbers when you run analyses on potential properties.

If you want to determine the debt coverage ratio, its simply diving the total net operating income by your debt service  (principal + interest... NOT including taxes & insurance).

Account Closed · Answer

Hey Jim,

If you're talking about debt coverage I'm assuming you're using a commercial lender. When this lender goes to calculate the DSCR (debt service coverage ratio) for your potential purpose they are going to use certain expenses- some pro forma, some actual. Every lender is going to pencil out the expenses a bit differently too, so I would strongly recommend you get on the phone with your lender and learn about how they're calculating incomes, expenses, and mortgage on the property, paying special attention to income and expenses.

EX: My commercial lender does the following-

Vacancy- will use 10% standard, or 7.5%/5% IF at least one of the following conditions can be met:

1. There is adequate market data available to the bank about vacancy for the type of commercial property being lent against, which justifies a lower standard vacancy rate.

2. They have access to leases, rent ledgers, and sellers Schedule E's showing vacancy losses/ a signed operating statement from the seller.

Management- 3% of rents or actuals as shown on an executed property management agreement.

Insurance- 3% of rents or actual as shown on a commitment from an insurance provider.

Property Tax- Actuals for most current year as stated on county records

Cash Reserve- 3% of rents as an additional buffer

Operating Reserve- 20%-25% of rents depending on the type of property. For MFR my lender assumes 20%. This is to account for maintenance/capex/advertising/owner paid utilties/ etc... If I can produce seller's schedule E's or a signed operating statement with detailed operating expenses below 20% they will use actuals, but with hesitation.

Make a genuine effort to provide favorably accurate expense information to your commercial lender. It doesn't only affect the property's DSCR and qualification for financing, but it may have an impact on appraisal results, depending on the type of income-based appraisal you elect to have performed on the property during escrow!!!

Good luck!

Theo Hicks · Answer

I was just offering a strategy to determine the annual mortgage payments, that all. Using the 1.25 DSCR and NOI will give you the max debt service the deal will qualify for. But that doesn't mean you will qualify for that loan. Does that make sense? In the end, the debt service may be lower based on the purchase price.

Jim Growfer · Answer

@Theo Hicks

Doesn't a broker need to know what my financing is in order to figure out my DSCR?

if i told my broker that im looking for 1.25 DSCR are they going to need my financing details?

Robert Leonard · Answer

I yield any further explanation of what GC means or implies to the man himself. He is accessible.

Jim Growfer · Answer

@Robert Leonard So if the 7% factor as a quick rule of thumb,  anything under a 7% cap wouldnt cash flow, correct? or am i misunderstanding cap rate

Theo Hicks · Answer

A better strategy is to use the NOI and a DSCR of 1.25 (which is the standard minimum for commercial loans) to calculate the maximum debt service. For example, if the NOI is $100,000, the maximum debt service is $100,000/1.25 or $80,000 a year.

But the best way is to work with a commercial mortgage brokers on a deal-by-deal basis.

Jim Growfer · Answer

@Robert Leonard

thank you robert. so if i do 100% of the purchase price *.07.... if anything that will just give me a more conservative number as far as financing goes, correct?  Bank financing is going to be cheaper financing than 7% for the rest of the 75% lending

How to figure out my Debt Coverage? 7% factor?

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