DCR and DTI: The yes/no decision on your loan rests on one or (more likely) both of these ratios. They represent hurdles that, if you cannot jump them, make it very difficult for the lender to make the loan. This is true despite your
- long history of prompt payment
- strong management skills
- previous success in business
If your numbers are good, it will still take longer than you are accustomed to. Approach your lender early.
Ask about their current guidelines. What else should you emphasize in your loan request to help them say ‘yes’?
If your numbers are not as good, be ready with your story. What are you doing now to improve the numbers. Why are they too low or high right now? What have you tried that did not work?
What is your Plan B and Plan C?
DCR: Debt Coverage Ratio
Also called the DSR or Debt Service Ratio, this indicates whether your business has enough cushion to cover debt. Used in commercial and commercial real estate lending, the ratio is:
Debt due this year
A 1.0 DCR means you have enough anticipated cashflow to just pay the debt. A 1.2 DCR was standard pre-recession. As I write in November 2009, most of my bank and credit union clients are looking for 1.25 or better.
This requirement may vary depending on liquidity, credit score and loan-to-value.
DTI: Debt-to-Income Ratio
Used in consumer and mortgage lending, this ratio is also used by business lenders evaluating the business owner(s) as guarantors for a business loan. The ratio is:
Cashflow from all sources
Cashflow from all sources includes wages, net cashflow from your business (after it pays it’s debts), net cashflow from rentals (after they pay their debt). It may also include alimony and child support you pay. Banks and credit unions vary as to whether they’ll include cashflow from capital gains activities and less common sources.
Around 40% is typical if using before tax numbers (ie. gross wages rather than net). With higher income a higher debt-to-income ratio might be acceptable. At the lowest income levels, even meeting the 40% requirement may not leave enough income for family living expenses and taxes.
Start early enough that you can shop your loan if your first option says no. Some banks or credit unions are in a better position to lend than others. And even in the best of times guidelines vary among financial institutions.
Business lenders are actively looking for good loans
Most banks and credit unions have money to lend. However, the regulators are not
cutting any lenders any slack…none at all. So either come in with very good
numbers or a very good story about how you’ll get there.