Debt sizing is the underwriting process a commercial real estate lender uses to set the maximum loan amount for a property. The lender calculates a ceiling under each of three tests, loan-to-value, debt service coverage ratio, and debt yield, then lends the lowest of the three. The most restrictive test binds.
How Debt Sizing Works
Debt sizing is a three-constraint calculation. The lender computes the maximum loan permitted by loan-to-value (LTV), by debt service coverage ratio (DSCR), and by debt yield, then takes the minimum of the three. Each test isolates a different risk, and the binding constraint is whichever produces the smallest loan.
Each ceiling comes from its own formula. The three run in parallel, not in sequence.
Test | Maximum loan formula | Guards against |
|---|---|---|
Loan-to-value | Max LTV x property value | Collateral shortfall at a forced sale |
Debt service coverage | (NOI / min DSCR) / mortgage constant | Cash flow failing to cover payments |
Debt yield | NOI / min debt yield | Weak income return, independent of rate or term |
The LTV and debt yield ceilings are direct division or multiplication. The DSCR ceiling takes one extra step: divide net operating income by the minimum DSCR to get the maximum annual debt service the property can support, then capitalize that payment into a loan balance using the mortgage constant for the quoted rate and amortization schedule. Wall Street Prep frames the output as a "ceiling," not a target: "the maximum loan is merely an upper parameter to not exceed," after which the lender trims the number down for a cushion against underperformance.
The debt yield ceiling has a property that the other two lack. Because it divides NOI directly by a required percentage, it moves with neither the interest rate nor the amortization term. LTV depends on an appraisal that can inflate in a low cap rate market, and DSCR loosens as rates fall and payments shrink. Debt yield holds the loan to the property's actual income no matter what financing markets do, which is why it entered wide use after the 2008 credit cycle.
Why Debt Sizing Matters
Debt sizing is the step that decides how much equity a sponsor writes at close. The gap between purchase price and the sized loan is the required equity check, so a loan that comes in below expectation forces the sponsor to fund the difference, restructure, or walk. A ceiling misread by a few percent can move a deal from viable to dead.
Which test binds also shifts with the market, and that shift drives underwriting outcomes. Altus Group shows that in a low cap rate market the LTV allowance can imply a payment the property cannot cover, dragging DSCR down to 1.16x, well under the roughly 1.25x floor most lenders hold. In a high cap rate market the reverse happens: sizing to a 1.40x DSCR can imply an LTV near 79%, higher than a lender will accept. Debt yield was adopted precisely because it pins the loan to income regardless of these swings.
The most restrictive of the three tests sets the loan, so the sponsor must know which one binds before term sheets arrive, not after.
Example
A lender sizes a stabilized property with $1,200,000 of net operating income. Valued at a 6.0% cap rate, the property is worth $20,000,000. The quoted loan carries a 6.5% rate on a 25-year amortization, giving an annual mortgage constant of 0.0810. Lender minimums: 70% LTV, 1.25x DSCR, 9.0% debt yield.
Test | Calculation | Maximum loan |
|---|---|---|
Loan-to-value | 70% x $20,000,000 | $14,000,000 |
Debt yield | $1,200,000 / 9.0% | $13,333,333 |
Debt service coverage | ($1,200,000 / 1.25) / 0.0810 | $11,848,216 |
Sized loan | Minimum of the three | $11,848,216 |
The DSCR test binds at roughly $11.85 million, about $2.15 million below the LTV ceiling. At that loan the implied LTV is 59.2% and the implied debt yield is 10.1%, both comfortably inside their limits. The property does not lack value or income return: it lacks the cash flow to service a larger payment at this rate. Refinancing at a lower rate, or extending amortization, would relax the DSCR test and lift the ceiling toward the LTV cap.
Variations and Edge Cases
Debt sizing is standard as a three-test minimum, but the inputs and the number of tests move by loan program, property type, and business plan. A construction or value-add deal sizes against a fourth test, loan-to-cost, and against a stabilized pro forma rather than in-place income. The variants below change which ceiling tends to bind.
Situation | How sizing changes |
|---|---|
Value-add or transitional | Adds loan-to-cost; sizes to stabilized NOI, often with an interest reserve |
Construction loan | Loan-to-cost usually binds; income tests apply at stabilization |
Interest-only period | DSCR loosens while IO runs, so LTV or debt yield tends to bind |
Rising-rate market | Higher payments push DSCR down; DSCR or debt yield binds first |
Agency multifamily | Program-specific DSCR and LTV grids can override generic minimums |
Lenders also adjust net operating income downward before sizing, marking rents to market, loading a vacancy factor, and reserving for capital items. A sized loan built on lender-adjusted NOI is smaller than one built on the sponsor's pro forma, and the difference is often where a deal is won or lost.
Debt Sizing vs Loan-to-Value
Debt sizing is often confused with loan-to-value, but one contains the other. Debt sizing is the full process that produces a maximum loan from the lowest of the LTV, DSCR, and debt yield tests. Loan-to-value is a single one of those tests, the ratio of loan to appraised value. LTV can set the ceiling, but only when it comes in below the DSCR and debt yield ceilings.
Dimension | Debt sizing | Loan-to-value |
|---|---|---|
Scope | The whole sizing decision | One input test |
Output | A dollar maximum loan | A percentage ratio |
Drivers | Value, cash flow, and income return | Value only |
Role | Takes the minimum across tests | Supplies one candidate ceiling |
Reading LTV as the loan amount is the common error. A 70% LTV allowance is a ceiling, not the sized loan, and it holds only if no other test comes in lower.
Frequently Asked Questions
What is debt sizing in commercial real estate? Debt sizing is how a lender sets the maximum loan on a property by calculating a ceiling under the loan-to-value, debt service coverage, and debt yield tests, then lending the lowest of the three. The smallest ceiling is the binding constraint.
Which constraint usually binds in debt sizing? Any of the three can bind depending on the market. In a low cap rate market DSCR often binds because inflated values imply payments the income cannot cover. In a rising-rate market, higher payments push DSCR or debt yield to the front.
What are typical lender minimums? Wall Street Prep cites a maximum LTV around 70% to 80%, a minimum DSCR near 1.25x, and a minimum debt yield most often quoted at 10%, or a range of 8% to 12%. Altus Group notes LTV commonly runs 60% to 70% with a DSCR floor near 1.25x. Minimums vary by property type and loan program.