DSCR without penalty for selling early?

Question

Hello BP Fam,

Most DSCR lenders I've spoken to have a penalty for selling a property within the first 5 years of purchasing the property. Does anybody know of a lender that has DSCR loans that do not have this penalty? Or maybe not as severe a penalty as I've heard so far? What I have heard so far is 5% penalty within 1st year, 4% in year 2, 3% in year3, etc.

Let me know your thoughts!

Thanks!

Rich

Steven Stanimirovic · Answer

Hi Rich,

The prepayment penalties you’ve encountered are quite standard with DSCR loans, as lenders often structure these penalties (commonly called "step-down prepayment penalties") to offset the risk of early loan payoff. The 5-4-3-2-1 structure you mentioned is among the most common. However, there are lenders who offer more flexible terms or even no prepayment penalties, depending on the deal structure and your investment strategy.

To find such lenders, here are some options to consider:

• No Prepayment Penalty Loans: Some lenders, often private or portfolio-based, offer DSCR loans without prepayment penalties, though the trade-off might be a slightly higher interest rate or fees.
• Yield Maintenance or Defeasance Alternatives: Ask about other prepayment structures like yield maintenance, which can sometimes be less restrictive depending on market conditions.
• Custom Terms: There are lenders (like us at Phoenix Funded) who can structure loans tailored to your needs. For example, we might arrange a shorter penalty period or reduced fees if you expect to exit the property within a specific timeframe.

Ultimately, the key is aligning your financing terms with your exit strategy. If you anticipate selling the property soon, it’s worth negotiating or shopping around for a lender with flexibility in prepayment penalties.

Feel free to reach out if you'd like to explore tailored DSCR options that suit your goals. I’d be happy to help you navigate this!

John W. · Answer

Hi Rich,

Most DSCR loan programs are available without a pre-payment penalty. The rate will be higher (typically 1% to 1-1/2% higher) but you will be able to sell, refinance, or payoff the loan without having to worry about paying what could potentially be thousands of dollars in a pre-payment penalty.

Brandon Croucier · Answer

There’s different ways to structure the prepay.5 year option (5,4,3,2,1) (5% fixed) (6 mo interest)

3 year option (3,2,1) (5,4,3) (5% fixed) (6 mo interest)

1 year option (1%) (5%) (6 mo interest)These are the ones I work with.

Erik Estrada · Answer

Hey Rich,

You can do a DSCR loan with no prepayment penalty, however the rate will be higher than one with a PPP. If the goal is to refinance within the next couple of years it could make sense.

David Bilandzija · Answer

@Rich Emery If you plan to sell early, consider a 12 to 24 mo bridge loan.

Highlights:

* no prepay on 12 mo bridge

* 6 months guaranteed interest on a 24 month bridge

These are interest only loans and the DSCR calculation isn't a factor in the lending decision.

Compare the cost of your lower interest rate DSCR loan, including PPP versus what the bridge would cost at a higher interest rate and no or minimal PPP.

PPP=pre payment penalty :)

Stacy Raskin · Answer

Depending on the lender there are DSCR loans from a 6 month prepay or no prepay to a five year prepay. The actual penalty varies but it's often a step down or if a 5 year prepayment penalty term, it will be 5% of the original or unpaid mortgage balance if refinanced or sold in the first year, then 4% in the second year and then on down (the exact penalty varies which is why I mention both the original and unpaid mortgage balance. There are other variations).

The shorter the prepayment penalty period, the more it has an impact on the rate. How much it impacts the rate varies by lender. One example is a 1 year prepayment penalty term will be around 0.5% higher than a 3 year prepayment penalty term. This is for one lender's program. It will vary based on the lender's guidelines.

More on how DSCR programs work below:

DSCR loans won't use your income to underwrite the loan. DSCR loans are based off of down payment, credit score and either actual or market rents so it helps to supercharge an investor's real estate goals and net worth.

Here's a bit more in detail about how rates are calculated for DSCR loans:

1. Credit score- the higher the best. 760-780+ generally gets best pricing for investment property loans with most lenders. From there every 20 point increment affect pricing differently. So for example, a 761 credit score will be in the 760-779 credit category, then going down to 740-759 and so on.

2. Loan to value ratio: The higher the loan to value ratio (LTV) is, pricing takes a hit. So your pricing will be higher for a 80% LTV loan than for a 60% LTV loan.

3. Prepayment penalties- usually 1-5 year terms. The shorter the prepayment term has an impact on increasing the rate.

4. Are you cash flowing the property? More on how that is calculated below. Is your DSCR ratio greater than 1-meaning are you cash flowing (according to the lender's criteria of mortgage, property taxes and insurance (and HOA) if applicable). Many lenders will not do a DSCR loan unless cash flowing. If they will do a loan with less than 1, the pricing takes a hit. This criteria is for 1-4 and 5-8 unit programs.

I've included an example below to help illustrate this.

So different lenders have different rates (which do vary even for DSCR loans) but these are factors they all consider.

See example below:

DSCR < 1

Principal + Interest = $1,700

Taxes = $350, Insurance = $100, Association Dues = $50

Total PITIA = $2200

Rent = $2000

DSCR = Rent/PITIA = 2000/2200 = 0.91

Since the DSCR is 0.91, we know the expenses are greater than the income of the property.

DSCR >1

Principal + Interest = $1,500

Taxes = $250, Insurance = $100, Association Dues = $25

Total PITIA = $1875 Rent = $2300

DSCR = Rent/PITIA = 2300/1875 = 1.23

If a purchase, you also generally need reserves / savings to show you have 3-6 month payments of PITIA (principal / interest (mortgage payment), property taxes and insurance and HOA (if applicable). If a cash out refinance, many lenders will allow the cash out to satisfy the reserves requirement.

DSCR lenders generally let you vest either individually or as an LLC. It's a great way to increase your net worth and these loans can also be used to pull cash out of a property as it appreciates allowing you to reinvest money into new deals.

Happy to connect to discuss further.

Brittany Minocchi · Answer

3-year PPPs are usually reasonably priced while also shaving off those extra 2 years...if you drop below 3, rate/cost can get a little gross. You'll either have a higher rate for no prepay, or it will cost you points at closing. I'd compare the cost of the buyout vs. the penalty you'd get hit with IF you refi or sell.

Kyle Deutschmann · Answer

We can do DSCR loans with no prepayment penalty. As others have mentioned, the rate will be higher compared to a loan with a 5 year prepayment penalty.

Patrick Roberts · Answer

Almost all DSCR loans will have either A) a prepayment penalty which prevents you from selling or refinancing within a given period without paying a cost, or B) a combination of higher rates and points to offset the lack of a prepayment penalty. This is just the nature of commercial loans.

Stevan Stojakovic · Answer

Steven, you’ve brought up an excellent point about the trade-off between prepayment penalties and interest rates in DSCR loans. It’s a nuanced topic that often depends on the investor's strategy and exit plan for the property. For someone focused on quick flips or shorter holding periods, paying a slightly higher rate for flexibility might make more sense. However, if the property is a long-term hold, the lower interest rate with a prepayment penalty can often result in better overall returns.

Another consideration investors should evaluate is how prepayment penalties are structured - whether it's a declining penalty over time or a flat fee - because this can significantly impact their profitability when selling earlier than expected. It’s crucial to run the numbers and consult with a lender who can tailor solutions based on the specific investment goals.

Best regards, Stevan

DSCR without penalty for selling early?

DSCR without penalty for selling early?

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