E321 | DSCR Lending in 2025 What Note Investors Should Know About the Private Lending Surge

Welcome back to the Paper Trail podcast where we follow the numbers and uncover the real opportunities in mortgage note and private lending investing.

And if you're a note investor, fund manager or someone looking to pivot from rentals to private lending, this data should be on the radar.

So let's see what's happening in the space and let's start breaking it down.

First, what is DSER lending?

Because this might be a term that it's the first time you're hearing this.

So before we go into numbers, let's discuss it.

DSCR is loans that are business purpose loans made to real estate investors.

And instead of using personal income to qualify, lenders use property rental income.

So you don't need to use your income, it's more based off of the property.

And DSCR stands for Debt Service Coverage ratio and it's a very simple metric.

It equals the net operating income, which is the amount of money the property makes minus the normal expenses divided by the debt payment.

So simple math.

Typically they like to see the ratios be above 1.2.

Some instances you can get loans at a 1.0 D are but just understand that interest rate on that loan is going to be significantly higher.

Now these loans are ideal for investors who have a lot of investment property but maybe don't have incons, maybe have some inconsistent W2 foreign nationals.

Foreign nationals can get these loans LLC based property ownership.

A lot of these loans are issued to LLCs and really the main focus of this is for buy and hold investors who seek cash flow.

And to be honest, these have been exploding in popularity over the last few years.

As an example, I want to go buy an investment property for $200,000.

Typically you'll need to put at least 25% down.

So $50,000 down.

I'll get $150,000 mortgage and that property based off of what that mortgage payment and everything will be got to make sure that the income can cover that mortgage plus some.

So just understand that's the intent or the basis.

So again the lender looks more just at the property they do of Course, look at you and your credit which can have a significant and huge impact.

But they're not looking at your W2 income, they're looking at the property income.

Now that we've explained a little bit about DSCR loans, let's talk about what the numbers found.

According to this report, they made up over 37% of all originations generated through this platform.

Now Lightning Docs is a platform through a an attorney who creates the all the loan packages for you.

So if you're looking to have, you know, if you're a lender or private lender, this company, Lightning Docs can go create the note, the mortgage, do the closing for you.

Basically handle everything.

They handle a lot of the deals them in another company handle a lot of the originations in the private lending space.

Now the 37% is a dip from March which was just under 39% but still huge share of originations.

Where are people getting these loans?

No surprise, California, Florida and Texas.

Which is also where we're seeing the largest increase in defaults in Florida and Texas for loans people are getting a year or two ago and now getting hit with insurance and taxes.

Think about it.

If you bought that house that I mentioned earlier for say rental income of 2,000 and mortgage and everything is 1,500.

But all of a sudden your taxes insurance rise significantly and you have a vacancy or you need a repair, Insurance went up by 30 plus percent in many places.

Taxes have skyrocketed at $1,500 in expenses.

Now might be $1,900.

Then you have a vacancy or some other factors influence it.

Now you're underwater.

Now you gotta come out of your own pocket.

Can you afford to come out of your own pocket?

Some of the top lenders out in the Space Rock, 360 Sagemore, Templeview, easy street, they've been leading the charge.

Other companies, Turac, Kiavi and others also provide a lot of these types of loans.

We actually work with a third party where if people are looking for a DSCR loan, please reach out to us at 7einvestmentlending.com.

We actually can assist you in getting a DSCR loan.

One trend I think that is worth noting is they were providing this data in regards to these types of loans.

There are many options that you can get on these loans.

You can get 30 year principal and interest.

You can get a 30 year with 10 year interest only.

Prepayment penalties typically almost always apply.

So you can't get a loan and if you pay it off in a year, you're going to have a penalty.

The most effective, lowest interest rate loans typically have a five year prepayment penalty and they can scale down like 5% year one, 4% year two and scale down.

But just anticipate that these aren't loans that you're going to get and when rates drop another half a point, refinance, you get that loan.

I would hold onto it because the penalties you most likely pay, unless there is a huge drop in loans that justify paying it, you're going to have this loan for a while.

Now we're seeing the interest only options because I'm guessing the numbers weren't working if it's principal and interest.

So they're going the interest only option, they're paying more for the loan, meaning you're going to get a higher interest rate on the loan.

But you can get the loan because the numbers still work.

So something to consider and something to keep your eye on.

Thankfully It's I think 10 years is typically what these interest only is.

So there's time for the economy and the markets to recover and rents over time should go higher during that time.

But again your expenses are also ticking up over that time as well.

Now people ask great if you're in the private lending space, but is this important for just note investors in general now why should I care about DSCR loan trends as a note investor if I am not doing the private lending space?

Here's a reason why more DSCR loans equal more paper on the secondary market.

DSCR lenders originate at high volume and eventually some of these loans will default.

And that's the future of the NPL inventory.

You want to understand the quality, the underwriting standards.

You want to know what's being written today because that's tomorrow's tape.

12 months.

You might see some of these loans out there.

And one thing to consider, many of these loans are written between six and a half and eight and a half percent.

And the borrowers typically have 25% equity.

They go in default, take the same loan as a owner occupied at 3.5%.

The discount needed to make that numbers work on these types of loans is much easier than a significant greater discount on that owner occupied that seller might not want to liquidate.

So definitely something where I envision you're gonna see more of these on the markets.

Now remember, these are business purpose loans.

That means typically fewer regulatory hurdles.

We had an investor attempt to file a complaint against us for an FDCPA violation.

But investor loans don't comply with fdcpa, meaning now they're saying basically that oh, you sent me a statement, I told you not to send statements or I told you not to call me or you're violated in some way, shape or form.

It's a business loan.

Some instances they may be quicker to foreclose.

Now I say that with hesitancy and the reason I say that is in judicial states it might be a little quicker because on owner occupied there might be required mediation where in some of these other deals they don't.

So caveat may is the keyword I'll put there.

The other is there are more flexible workout options, especially if you've got personal guarantees on them and they own other property.

You can be a little bit more flexible with the workout options and more likely you're going to see less bankruptcies.

So if there's equity in the property and they can't pay, a lot of times they'll sell.

Compared to a homeowner who will file bankruptcy to stay in that house.

These investors, they don't have the emotional equity tied to these properties.

It's all about the dollar.

So if they can still sell it and make money versus the interest that accrues on these.

And that's one other thing that I'll mention.

A lot of these loans have default interest rates that can be 15, 18 plus percent.

So as a note investor you see those types of numbers now you're licking your chops.

And from a node investor standpoint, these loans are typically written to be securitized.

That means they have very clean collateral.

So when you look to buy some of these loans, especially defaulted ones, it's usually friendlier terms including interest rate defaults, late fees and the paper is typically very clean, which again can favor the investor.

And typically these loans aren't sold seven to 10 times like a potential homeowner mortgage could be.

And as we also mentioned, many are written with these prepayment penalties and interest only periods.

And this can change the structure of cash flow.

Especially if you were to invest in a semi performing loan or reperforming DSCR loans that interest only can lead to principal and interest which can increase that payment which may enhance the yield.

So something to consider, I will say it's very rare to see these performing loans on the markets.

Typically if you do, they're called scratch and dent, meaning they couldn't be securitized.

Meaning the company at the end of the day viewed it as maybe it was rural or the borrower's credit, something happened or they took out additional loans at some period of time.

So it's not often that you see people buying these performing loans.

And if you do, the discount typically is not going to be where you would want it to be because the institutions typically chomp the stuff, stuff up.

One thing I want to add to these types of loans is geography and trends matter.

Talk to California, Florida and Texas dominating this lending space.

But Florida and Texas currently have volatile property markets.

Foreclosure laws between these three states are very different.

But most people don't realize if I had to prioritize the order of the foreclose, Texas 1, California 1B and Florida number three.

California and Texas are non judicial states.

Now there's some regulatory nuances in California with licensing and everything for these loans, but California is a quick foreclosure state.

Now evictions, whole nother animal.

But when you're dealing with investor loans, it's not a homeowner could be a tenant who actually could still be paying.

But just remember, if you're bidding on notes in these states, make sure your legal servicing teams, everybody understands all these jurisdictional quirks.

Now let's talk about positioning yourself.

So what can you do based off of some of these trends that I'm telling you?

One thing that we do is we track these originators.

We want to know who's lending, what their underwriting.

Right, sorry, we want to start tracking these originators.

You want to know who's lending, what their underwriting looks like.

Many of these lenders will eventually sell off paper, especially if it's distressed.

In March I went to the NPLA conference, got to meet a lot of these originators and I felt like a rock star at this event a little bit.

And I say that and there's a investor out there, Matt Kelly out in California who always tells you on his posts, besides note investing conferences, there's a lot of other conferences that can add so much more significant value.

Opus hosts a bunch of events in these other ends but like this NPLA conference I went to and I was one of the only people there that bought non performing loans and people are seeing more on their books and they don't know what to do with them.

Now sudden I come across and say yeah, we buy non performing, we would love to take a look at your inventory and somebody we met at that conference in March, the end of April, we bought five and a half million dollars in loans from them, I believe just from meeting them at March to end of April.

So to me that conference paid off.

So understanding who they are, talking with them, talk to the aggregators Talk to the fund managers.

Some of these people are sitting on warehouse lines of credit.

And some of these aggregators, if the loan goes in default within the first six months, they may have to buy it back.

If they have to buy it back, they're going to look to exit it because it's on a warehouse line and they're paying steep interest on it.

So if you can get in that circle, you could be first in line when deals start trading.

So understanding those aggregators or some of these other fund managers that play in that space, also you want to educate yourself on working out these loans.

It is slightly different than an owner occupied workout.

As we mentioned, they don't come with some of the same protections as owner occupied mortgages.

They also can have very steep interest rates tacked onto the loan.

And in some instances when you are dealing with a homeowner, you want to send the demand and just get that process started immediately.

In this space you could have a little more patience if the loan is chomping at an 18% interest rate for you.

It's also extremely important that you underwrite the property.

But also the person behind that llc, you really need to underwrite everything because if this is their only property, you're not going after the person, you're just getting that property.

Which again is very similar to the owner occupied standpoint.

But a lot of these loans, they may have done some rehab work too.

And was it done, was it completed, what type of, what did it look like?

Lastly, some of these investors can't get a DSCR loan, so they're looking for shorter term bridge financing.

You've got capital, you don't want to wait to buy a loan off someone else's tape.

You could look to originate directly through private lending platform where you could do a six or 12 month loan.

You could get 12 to 10 to 12% interest only and it's going to be backed by solid collateral.

Should target predictable income and you still have the hands on control.

That's something at 70.

We incorporate some of that elements in our strategy where we buy performing loans and based off of our portfolio that we want to be very diverse in.

We also have some short term loans as well that are 12 months to allow us to recycle that capital.

We keep a very close eye on this industry, especially how these loans are priced.

They're very susceptible to the ten year treasury and interest rates.

Just last week when the 10 year went up, we saw a significant uptick in the rates on these types of loans.

They can get updated bi weekly to monthly.

They're very sensitive to the markets.

So I wrap up this episode.

Some final thoughts.

This type of lending I don't believe is just a blip.

It is a structural shift in the way investor capital is starting to move.

And while the front of some of this pipeline is hot with originations, US savvy note investors are looking 12 to 24 months out at where loans will go when things don't go as planned.

More DSCR originations does equal more future inventory, which equals more opportunity for those prepared.

So ask yourself this Are you positioned for the next wave of non performing paper that could be investor loans?

Do you understand the cash flow, the mechanics, the exit options and that state specific timelines?

If you don't, that's what we're here for.

It's what we do at 7e.

Go to 7einvestments.com you can see some of the programs we have at 7e investmentlending.com continue to follow us on the Paper Trail podcast that I'm recording right now or meet us at the paper trail conference papertrail conference.com where we are running three verticals at this conference one on private lending hosted by Beth Johnson lend 2.

Live seller financing Tracy Z.

And Fred Rui talking about the seller financing space and of course I will specialize in that non performing space.

So check us out September 18th to 20th in Chandler, Arizona.

And as always, please leave a review or forward this to someone you think would find this valuable.

Until next time, stay curious, stay informed and keep following the paper trail.

Thank you.