Lenders do not size a commercial loan off the purchase price alone. They run three tests at once: loan-to-value (LTV), debt service coverage ratio (DSCR), and debt yield. Whichever test produces the smallest loan wins. In today's higher-rate market, DSCR is usually the constraint on triple net deals, which is why buyers are often surprised to get a 62% loan when they asked for 70%.
The Three Tests Lenders Run
Loan-to-value compares the loan to the appraised value (not your contract price). If the appraisal comes in light, your loan shrinks with it. DSCR divides net operating income by the annual mortgage payment, so it is a direct measure of how much cushion the property's cash flow gives the lender. Debt yield divides NOI by the loan amount and ignores the interest rate and amortization entirely. It answers one blunt question: if the lender had to take the property back tomorrow, what return would it earn on the money it lent?
| Metric | Formula | What it protects against | Typical floor / cap |
|---|---|---|---|
| LTV | Loan / Appraised value | Falling values, thin equity | 65% to 75% max |
| DSCR | NOI / Annual debt service | Cash flow too thin to pay the loan | 1.20x to 1.35x min |
| Debt yield | NOI / Loan amount | Low cap rates and cheap-rate inflation of loan size | 8% to 10% min (higher for hotels) |
Worked Example: Sizing a Loan on a Triple Net Property
Take a single-tenant triple net building producing $400,000 of NOI, bought at a 7.0% cap rate, so value is about $5.71M. The lender quotes 6.75% on a 25-year amortization and requires 70% max LTV, 1.25x minimum DSCR, and a 9% minimum debt yield.
- LTV test: 70% x $5.71M = $4.00M
- DSCR test: the most debt service the NOI can carry is $400,000 / 1.25 = $320,000 per year. At a 6.75% / 25-year loan constant of 8.29%, that supports $3.86M
- Debt yield test: $400,000 / 9% = $4.44M
The buyer who planned on a 70% loan now needs roughly $140K more equity. That gap is the most common late-stage surprise in small-balance commercial lending, and it is almost always a DSCR problem.
Why DSCR Became the Binding Constraint
When rates were 3.5% to 4.5%, a 7% cap rate property threw off so much cash relative to debt service that LTV was nearly always the binding test. Once rates moved into the 6% to 7.5% range, the loan constant rose above many going-in cap rates. When the cost of debt is higher than the property's yield, each additional dollar of leverage lowers coverage fast, and DSCR takes over.
How Debt Yield Fits In
Debt yield became standard after 2008 because lenders realized low rates and long interest-only periods could make almost any loan pass a DSCR test. Because debt yield ignores the rate, it caps leverage on low-cap-rate assets no matter how cheap money gets. On a 5.5% cap rate Walgreens or Chick-fil-A ground lease, a 9% debt yield limits the loan to about 61% of value even if DSCR and LTV would allow more. On higher-yield multi-tenant retail at 8% or more, debt yield rarely binds.
How to Get More Proceeds
- Ask for longer amortization. Moving from 25 to 30 years lowers the loan constant and can add 5% to 8% to DSCR-sized proceeds.
- Negotiate partial interest-only. Some lenders size on the amortizing payment but allow 1 to 3 years of IO, which helps early cash flow even if it does not raise the loan amount.
- Clean up the NOI. Lenders underwrite their own NOI with a vacancy factor, management fee, and reserves even on a triple net lease. Documenting reimbursements and a long lease term narrows the haircut.
- Buy down the rate. Paying points to cut the rate 25 to 50 bps directly improves DSCR.
- Shop lender types. Credit unions and local banks often accept 1.20x on strong-credit tenants; CMBS and life companies may be firmer.
Frequently Asked Questions
Is DSCR calculated on my NOI or the lender's?
The lender's. Underwriters typically apply a vacancy and credit loss factor (often 3% to 5% even for single-tenant NNN), a management fee, and replacement reserves. Your broker's NOI is usually higher than the number the loan is sized on.
What DSCR do I need for an SBA 504 loan?
SBA lenders commonly look for about 1.15x to 1.25x on the combined business cash flow for owner-occupied property, since the business pays the rent. Investment property does not qualify for SBA 504.
Does a higher DSCR get me a better rate?
Often yes. Many lenders price in tiers, and a deal at 1.40x or above with a low LTV can earn a lower spread than one at the minimum.
Bottom Line
Before you sign an LOI, run all three tests yourself. Assume the smallest loan wins, size your equity to that number, and treat any extra proceeds as upside. On most triple net deals today, DSCR is the test that decides how much you can borrow.
Educational content only, not legal, tax, or investment advice. Figures in examples are illustrative. Confirm specifics with your attorney, CPA, and lender before acting.