The first is a good coverage ratio shows that the property’s income is enough to both cover it’s historical and projected expenses as well as the mortgage (principal and interest payments) without the investor having to fork out more of his or her own money.
The second reason is that the bank or mortgage broker looks at the coverage ratio as one their primary guides for loaning applications. They will of course look at you and your financial strength as well. You can seriously improve your chances of receiving your loan at the most favourable rate if you arrive with your numbers in hand with a beyond satisfactory cover ratio worked out in advance. This small exercise will set you miles apart from the average real estate investor that sits before them.
So what is a coverage ratio? Coverage ratio is your net income (income after all bills are paid) divided by your total debt services (mortgage interest plus principal). So if your net income was $1000 and your total debt services was $800 you would have 1000/800=1.25 or a coverage ratio of 1.25.
Today banks and mortgage brokers are typically looking for 1.2 to 1.3. I recommend you go in with something much higher. At least 1.5 if possible.
You can find a 7 step guide to real estate investing on our company site www.skopikinvestments.com which highlights the various steps we recommend you take. You can also check out my book The Bartender is Your Landlord: Why the Wealthy Elite Invest in Real Estate and How Anyone Can Join Their Ranks for reasons why I think everyone should and can invest invest in real estate.