DSCR Loan Vs. Conventional Loan: Which one is right for you?

Are you in the estate market for a new house or looking to refinance your current loan? If so, choosing the right type of loan that fits your unique financial needs is essential. Two popular options are DSCR loans and conventional loans.

Understanding the critical differences can help you make an informed decision. This article will explore DSCR and conventional loans to help you determine your best choice. So, let’s dive in!

Let us explore these differences between DSCR loans and conventional loans individually to help you determine if a DSCR loan is right for your financial needs.

DSCR Loan Vs. Conventional Loan

DSCR Loan	Conventional Loan
No DTI restrictions	DTI requirement of 45%
Higher interest rates	Lower interest rates
Easier to qualify	Strict qualifications
Higher Down Payment	Lower Down Payment
No PMI Premiums	PMI premiums are required (PMI Premiums will Eventually cancel)
Easy Cash Flow	Larger operating expenses
Best for Investment Properties	Best for Residential Purchase
Finance Multiple Properties	Limited to one property.
No Income Verification	Need to provide Income Documentation
Flexible Repayment Terms	Rigid Repayment Terms
Cannot use for Financing Residential Property	Fewer restrictions on the usage of funds
Quick approval process	Long approval process
No employment verification	Employment check and pay slips are required

1. DTI (Debt-to-Income) Requirements

When looking into a loan, one of the first criteria lenders consider is your Debt-to-Income Ratio (DTI).

This ratio is determined by dividing your gross income by your monthly debt obligations, including rent/mortgage payments, auto loans, student loans, and other credit or installment accounts. The higher the DTI, the more your rental income will pay the debt.

• DSCR Loans: DSCR loans don’t have debt-to-income (DTI) restrictions. That means borrowers won’t have to worry about having too high of a DTI ratio and being denied for the loan. It allows borrowers more flexibility in their borrowing power and could help them secure a loan even if their DTI ratio is too high for a conventional mortgage.

• Conventional loans: Conventional loans have a debt-to-income (DTI) requirement of 45%. If the borrower’s DTI exceeds this amount, they will not qualify for the loan. It can be a substantial challenge for those with high debt payments.

Verdict: The DSCR loan has an edge regarding debt-to-income requirements because DSCR lenders don’t consider DTI for loan qualification.

2. Interest Rates

Interest rates are the money a lender will charge you for borrowing funds. Regarding DSCR and conventional loans, it’s crucial to understand how lenders calculate the interest rate and what factors influence it.

• Conventional Loans: Conventional loans often provide lower interest rates than other types of financing. Additionally, the lender does not have to pay for government insurance or guarantee fees, which can help keep costs down.

• DSCR Loans: On the other hand, DSCR loans generally have higher interest rates than conventional financing. As lenders have higher risk with DSCR loans, they charge higher interest rates.

Verdict: Conventional Mortgages are the winner regarding interest rates, as conventional loans have a lower interest rate.

3. Easier to Qualify

When choosing between a debt service coverage ratio (DSCR) loan and conventional financing for your real estate investment, one of the key differences is that DSCR loans are easier to qualify for.

It primarily benefits those with a short history as real estate investor or limited financial resources.

• DSCR Loans: Since DSCR loans consider the property’s rental income, DSCR loans are more accessible for investors to qualify for. Therefore, it makes them attractive for real estate investors purchasing rental properties.

• Conventional Loans: A critical problem with traditional loans is that they typically require stricter qualifications than other financing options. For example, borrowers must have strong credit, a stable income, and a solid debt-to-income ratio.

Furthermore, the place must pass a property appraisal, which can add to the loan cost. You can also learn about DSCR loans and the process of getting one; this guide is for you.

Verdict: The DSCR Loan is the winner regarding easier qualification, as they do not have strict requirements in terms of credit history and income levels.

4. Down Payment

When obtaining a loan, a down payment is an essential factor to consider. A down payment is the money you must pay upfront when taking out a loan.

Generally, larger down payments can result in lesser monthly payments over the vitality of a loan and also help reduce the risk for lenders.

• Conventional Loan: Another edge of traditional loans is that borrowers can purchase a home with a smaller down payment than other loan options. Generally, conventional loans require a minimum of 5-20% down.

• DSCR Loan: DSCR loans typically require a 20% down payment. As a result, it can make them less attractive for borrowers with limited funds for a down payment.

Verdict: Conventional Mortgages are the winner when it comes to down payments, as they require a lower down payment than DSCR loans require. If you buy an investment property with a conventional mortgage, the downpayment will be 20% only, which is near the DSCR loan down payment.

5. PMI Premiums

PMI premiums are a kind of insurance that mortgage lenders require when the loan-to-value ratio is greater than 80% (meaning, when the borrower has put less than 20% down on a property).

The premium protects lenders in case borrowers default on their loans.

• Conventional Mortgage: Private mortgage insurance (PMI) premiums are necessary on traditional loans with a down payment lower than 20%. Therefore, it can improve the value of the loan. However, PMI premiums may stop once the borrower has repaid enough of their loan balance or if the home’s value appreciates significantly.

• DSCR Loans: In contrast, DSCR loans don’t require PMI premiums. As a result, borrowers can save money in the long run if their loan balance returns or the property appreciates significantly in value.

Verdict: The DSCR Loan is the winner regarding PMI premiums, as DSCR loans don’t require PMI Premiums since the lender focus on the rental property’s ability.

6. Cash Flow

When determining the affordability of a DSCR loan versus a conventional loan, cash flow is the critical metric to assess whether a borrower can afford a monthly mortgage payment.

Cash flow is the part left over after you pay out the expenses from gross rental income or other forms of payment.

• DSCR Loan: It is easier to manage cash flow with a DSCR loan. The lender must consider a borrower’s rental income to have enough cash flow to ensure the borrower can afford the loan payments.

• Conventional Mortgage: Conventional loans require solid proof of personal income or bank statements and consider the borrower’s debt obligations. Conventional loans require more considerable operating expenses than other financing options, such as DSCR. As a result, it can make them less attractive to borrowers with limited funds.

Verdict: The DSCR Loan is the winner regarding cash flow, as it requires a lower income level and considers rental income property generates to help borrowers have sufficient cash flow.

7. Occupancy

Occupancy is a critical factor for both DSCR and conventional mortgages. It refers to the use of property, whether you use it for personal use or as a rental property, and how long you plan to reside in it.

• DSCR Loans: When you plan to purchase a property for personal use, such as living in it, a debt service coverage ratio (DSCR) loan won’t be an option. DSCR loans are a feasible option for investment properties; if you want to buy a primary residence, bank statement mortgages are a better option if you can’t get a conventional mortgage.

• Conventional Loans: Conventional financing provides more flexibility. You can purchase an owner-occupied home, a second place, a vacation home, or an investment property with this type of loan — even though rates and upfront costs may vary depending on the type of occupancy intended.

Verdict: The Conventional Loan is the winner regarding occupancy, as it provides more flexibility for different kinds of occupancy.

8. Loan Amount

The loan amount is the money borrowed from a lender for a specific purpose. For real estate investors, this generally includes a property’s purchase price and closing costs.

Depending on the type of loan product selected, the basis of loan amounts is the property’s value or rental income.

• DSCR Loan: The usual basis of DSCR loans is on a property’s rental income, so the loan amount is determined by how much the property can generate in rent. As a result, seasoned real estate investors can take out larger loans than they would be eligible for with other types of financing.

• Conventional Loan: Conventional loans can be for smaller amounts, such as a single-family home or a duplex. The loan quantity is generally based on the property’s value and may require larger down payments than DSCR loans.

Verdict: The DSCR Loan is the winner regarding loan amount, as it can offer higher loan amounts than conventional loans.

9. Repayment terms

The repayment terms are the details of how and when a loan must be repaid, including the interest rate and other associated costs.

When evaluating DSCR or conventional loans, it is vital to understand how repayment terms may influence your decision.

• DSCR Loan: DSCR loans also often have more flexible repayment terms. For example, you can select fixed or adjustable-rate mortgages and other loan repayment options and structures. Lenders may also offer opportunities to add an extra payment each year or pay off the loan early without penalty.

• Conventional Loan: Conventional loans typically have stricter repayment terms and require an unchangeable fixed monthly payment.

Verdict: The DSCR Loan is the winner in terms of repayment terms, as conventional loans have strict repayment terms compared to DSCR loans.

If you want a DSCR loan, HomeAbroad specializes in DSCR loans, and we offer the most competitive loan terms to our customers. Get a quote today!

10. Approval Process

An approval process is a structured workflow that involves a series of steps to review, authorize and monitor a request, document, or action.

It helps ensure that all relevant parties have reviewed and agreed to a decision before it is complete, reducing errors and ensuring compliance with company policies and procedures.

• Conventional Mortgage: Conventional loans often have a longer approval process. As a result, it can delay the loan’s closing and make it less attractive for those who need to close quickly.

• DSCR Loan: In contrast, DSCR loans can close quickly since the lender only needs to verify the property’s cash flow and not the borrower’s income. Consequently, it makes it simpler for real estate investors to acquire rental properties quickly.

Verdict: The DSCR Loan is the winner regarding the approval process. Since fewer verifications exist, it’s only plausible to finish the approval quickly.

If you want to possess a rental property, a DSCR loan is likely the best option.

11. Employment Check

When deciding between a DSCR and a conventional loan, it’s essential to understand the differences in the employment checks conducted by each lender.

• DSCR Loan: DSCR loans don’t require an employment check. The lender does not need to verify your income source or job security when approving a DSCR loan.

• Conventional Mortgage: Conventional loans require an employment verification process to determine a borrower’s ability to make timely payments. Moreover, they will also require pay slips and other evidence to validate the borrower’s income source.

Verdict: The DSCR Loan is the winner for employment checks, as conventional mortgages need income and job security documentation. DSCR lenders don’t consider these factors when deciding whether or not to approve your loan.

12. Personal Income Verification

Regarding loan approval, lenders must verify your income to understand your capability to repay the loan. Therefore, it is essential when deciding between a DSCR loan and a conventional loan.

• DSCR loans: DSCR loans don’t require income verification. It means the lender doesn’t need to review a borrower’s tax returns or proof of income to determine their eligibility for the loan.

• Conventional Mortgage: Conventional loans require income verification to prove that a borrower has enough money to pay their loan payments by showing bank statements. As a result, it can be more demanding for self-employed borrowers with multiple income sources.

Verdict: The DSCR Loan is the winner for income verification since conventional mortgages require pay stubs, tax returns, and many more, whereas DSCR loans don’t consider your income.

13. Finance Multiple Properties

Real estate investors have an essential decision to make when financing multiple properties. Should they pursue a debt service coverage ratio (DSCR) or a conventional loan?

When deciding which option is best, it’s essential to comprehend the differences between these two loans and how each could affect your investment goals.

• DSCR Loan: DSCR loans can also help investors finance multiple properties at once. Since DSCR lenders are looking at the property’s rental income, so they will be more likely to approve the loan. As a result, it could help investors diversify their portfolios and purchase multiple properties with a single loan.

• Conventional mortgage: conventional mortgages are usually limited to one property purchase at a time. Therefore, it can be challenging for investors looking to expand their portfolios quickly.

Verdict: The DSCR Loan is the winner for financing multiple properties because conventional loans are limited to one property compared to a DSCR loan, where you can grow your real estate portfolio.

14. Best for Investment Properties

Investment properties are an excellent way to generate income and build wealth, but securing funding can take time and effort. For real estate investors, debt service coverage ratio (DSCR) and conventional loans offer unique advantages.

But which loan is best for your investment property? Firstly, let’s take a closer peek at the DSCR loan vs. conventional loan so you can understand.

• DSCR Loan: DSCR loans are ideal for a real estate investor looking to finance an investment property. The lender looks at the rental income generated from the property instead of relying on the borrower’s income. It makes it easier for investors to qualify and get approved for a loan while having ample cash flow to make timely payments and manage their investments.

• Conventional Mortgages: Conventional loans are usually best for a residential purchase. However, they require income verification and may be more challenging to qualify for if the borrower can’t meet the strict qualification criteria.

Verdict: The DSCR Loan is the winner when investing in properties, as it is a loan made for real estate investors.

15. Restrictions on the Use of Funds

Restrictions on using funds refer to specific guidelines or limitations on spending money.

Funding organizations or donors put these restrictions in place to ensure the funds are going for their intended purpose and to prevent misuse or mismanagement.

• Conventional Loan: Conventional loans also have fewer restrictions on using funds than other loans. As a result, borrowers can use them to purchase a primary residence, an investment property, or even to refinance an existing mortgage.

• DSCR Loans: In contrast, DSCR loans are for rental property purchases or to refinance existing mortgages. As a result, borrowers cannot use them to purchase a primary residence and have limited ability to use the funds for other purposes.

DSCR loans are only available for commercial and investment properties. They are not used to finance residential property.

Verdict: The Conventional Loan is the winner regarding restrictions on using funds because DSCR loans are for commercial and investment properties, not residential ones.

DSCR loans can be an excellent financing option for businesses and real estate investors. However, examining the potential challenges of a DSCR loan is crucial before taking out a loan.

16. Ownership of the Property in an Entity’s Name

Ownership property in an entity’s name refers to assets, such as real estate or equipment, legally owned by a business entity rather than an individual. It offers benefits like liability protection, tax advantages, and ease of transferring ownership.

• Conventional Mortgage: A traditional loan allows property ownership in an entity’s name if the borrower meets the credit requirements.

• DSCR Loan: DSCR loans also typically allow property ownership in an entity’s name. It makes it easier for real estate investors to transfer ownership as needed without having to go through the procedure of reapplying for a loan or changing the borrower’s name on the loan agreement.

Verdict: Conventional and DSCR loans allow property owners in an entity’s name, making it a tie.

Understanding their differences is crucial in finding the best loan for your business needs.

Which Loan is Best for Real Estate Investors?

Both DSCR and conventional loans can be beneficial options for real estate investing. However, the best choice will rely on your financial situation, needs, and goals.

• If you are going for a mortgage that is easier to qualify for and offers flexible repayment terms, then a DSCR loan may be the right choice for a real estate investor.
• However, a conventional loan may be more suitable if you have a good credit ratio and a stable income.

Ultimately, it is important to research both types of loans and explore their potential edges and challenges before deciding. It will help you make intelligent choices when financing your real estate investments.

This consideration lets you choose the best option for your unique needs. If you plan on getting a DSCR loan, HomeAbroad is an investor-centric mortgage platform where you can qualify for a DSCR loan with the best loan terms in under 10 days.

5 Things to Remember When Deciding Between DSCR Loan Vs. Conventional Loan

There are five things that everyone should remember when looking at DSCR Loan vs. Conventional Loan to help you make an informed decision. They are as follows:

1. DSCR loans have higher interest rates than conventional loans but no DTI requirements.
2. Conventional loans have stricter qualification requirements and a longer approval process.
3. DSCR loans are best suited for real estate investment properties, while conventional loans are better for primary residences.
4. DSCR loans have flexible repayment terms and are easier to qualify for than conventional ones.
5. Conventional loans offer lower interest rates but require PMI premiums and a DTI ratio of 45%.

Contact HomeAbroad today if you’re determined to obtain a DSCR loan, and we’ll connect you with a reputable DSCR lender who can offer you the most favorable terms.

Conclusion

In the DSCR Loan VS Conventional Loan debate, one must consider one’s financial situation, needs, goals, and risk tolerance before deciding. Therefore, researching both loan types can help you make an informed choice when financing your real estate investments.

Moreover, if you are looking to make real estate investments or cannot show personal income, then a DSCR loan may be a better option.

Frequently Asked Questions