What is a DSCR covenant?

A DSCR covenant is a provision in a commercial real estate loan requiring the property's net operating income to cover its debt service by at least a stated ratio, called a DSCR floor, commonly between 1.20x and 1.35x. It is one of the most common commercial real estate loan covenants, and it is tested on a schedule for the life of the loan rather than only at origination.

How is DSCR calculated?

Debt service coverage ratio is net operating income divided by debt service. A property producing $1.3 million of NOI against $1.0 million of annual debt service has a DSCR of 1.30x. The formula is straightforward. The complications start when you ask whose NOI goes in the numerator, and on floating-rate debt, whose debt service goes in the denominator once an interest rate cap expires before loan maturity and the payment stops being capped.

Why is the lender's DSCR different from yours?

Loan documents typically let the lender adjust NOI before running the test, and those adjustments differ lender to lender. Common ones include imputing a minimum vacancy rate even when the property is full, imputing a minimum management fee even when you self-manage, deducting replacement reserves per square foot or per unit, and excluding income the lender considers non-recurring. Each adjustment moves NOI down, so the lender's DSCR usually comes in below the number in your own operating statement.

This is why computing DSCR once is not enough. The number that matters for covenant purposes is the one computed under the lender's rules, and across a portfolio with a dozen lenders that means a dozen different adjustment recipes applied to the same operating data. TractTerm, part of Composed Studio, computes DSCR twice for every loan: the lender's number, using the per-lender NOI adjustment rules the lender actually applies, and the borrower's number, so a covenant test never surprises you with math you didn't run.

What happens if DSCR falls below the covenant floor?

Falling below the floor is a covenant breach, even while payments are current. What follows depends on the loan documents: cure rights, cash-management triggers, or escalation toward default, a sequence covered in what happens if you breach a loan covenant. Many loans also require you to certify the ratio each period on a compliance certificate, which means a deteriorating DSCR is a number you report to the lender on a schedule. That is one more reason to see it trending before the certificate is due.

The determination of compliance rests with the lender under the loan documents. What a borrower controls is early sight: headroom computed each period, under the lender's own rules, with enough lead time to act on it, whether that means a refinance conversation, expense work, or a waiver request made from ahead of the problem rather than behind it.