The Debt Service Coverage Ratio and Loan to Value ratio are the two main metrics business banking officers use to decide if you’re eligible for a business loan.
Ever wonder what it takes to get a loan? Many commercial banking lenders rely heavily on two metrics to see if you qualify for a loan. They are the Debt Service Coverage Ratio (DSCR) and Loan to Value (LTV).
Debt Service Coverage Ratio (DSCR)
The DSCR measures your cash flow and ability to pay your loans. It’s a type of debt-to-income ratio that’s used for business loans. It’s roughly calculated as your annual cash flow divided by your annual debt payments.
At the banks I worked at, lenders were looking for a ratio of 1.25 or higher, which is consistent with industry norms. This minimum means your cash flow is a little higher than your debt payments.
Loan to Value (LTV)
LTV is calculated as the loan amount divided by the value of the collateral. It’s most useful for real estate but may also be used for equipment.
Banks require owners to have equity in their business and assets partly to reduce the loss on liquidation of the asset, but also because owners take huge risks when they have nothing to lose. For real estate, the maximum allowable LTV of a loan is usually 75-80%, which means the borrower will make a minimum 20-25% down payment.
Every bank and credit union is different, but these minimums were consistent for the business bankers I worked with. They were also minimums. Most bankers truly want to do the right thing for you, even when it means saying no. No one wins when you have a loan that’s too much for you to repay.
Knowing these two numbers helps you target the cash flow you need for the loan you want. You also know how much savings you'll need for a down payment.
I wish you the funds you need to grow your business. I wish you well.
- Rob Stephens
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