DSCR after owner pay: will the business pay its debt and still pay you?

What is DSCR?

Debt service coverage ratio (DSCR) is the cash a business has available for debt, divided by the debt payments it owes. A DSCR of 1.00 means every dollar of cash flow goes to debt, with nothing left over. A DSCR of 1.25 means the business makes $1.25 for every $1.00 of debt payments. Lenders use it to judge whether a loan is safe.

Why measure it after owner pay?

Because the profit in a listing usually includes the owner's own pay, and you will need to be paid too. Small business listings often show seller's discretionary earnings (SDE). SDE adds the owner's salary and personal perks back into profit. That's fair for comparing businesses, but it means part of that number is your paycheck. If you spend it on debt, you are working for free. See SDE vs EBITDA.

So take your pay out first. Whether you run the business yourself or hire a manager while you keep your job, someone has to be paid to run it.

How do I calculate it?

Yearly cash flow, minus the pay you need, divided by yearly debt payments.

• Start with verified yearly cash flow (SDE that matches tax returns and bank statements).
• Subtract the yearly pay you need, or the cost of a manager.
• Add up every yearly debt payment the deal creates: asset loans, business credit, the seller note, and any bank loan.
• Divide step 2's result by step 3.

What does that look like with numbers?

Here is an illustrative example with made-up round numbers.

• Yearly cash flow (SDE): $200,000
• Your pay: $70,000
• Left for debt: $130,000
• Yearly debt payments: $100,000
• DSCR after owner pay: $130,000 ÷ $100,000 = 1.30

Now try the same deal if you needed $90,000 a year: $110,000 ÷ $100,000 = 1.10. Same business, same debt, much tighter. Your pay matters.

What DSCR is good enough?

1.25 is a common floor, and more room is better. When an SBA 7(a) loan funds the purchase of a business you don't already own, the SBA's rules require debt service coverage of at least 1.25 to 1. The SBA measures it as EBITDA divided by all the debt payments after the purchase, using the last year or the average of the last two years. That is a different formula from the after-your-pay check above, which is stricter on purpose. Lenders can ask for more than the minimum. Below 1.25, one slow month or one lost customer can mean a missed payment.

What if the number is too low?

Change the deal, not the math. Ways to raise it:

• Lower the price. Less debt means lower payments.
• Stretch the term. A longer seller note lowers the monthly payment.
• Ask for a payment pause. Some seller notes start with a few months of no principal payments while you settle in.
• Use more of the business's own cash or assets in place of costly debt. See equipment and inventory financing.
• Keep your job at first, so the business pays its debt before it pays you.

What doesn't work: assuming next year's sales will be higher. Lenders and sellers price on what already happened.

What if part of the price has no funding yet?

Then you don't have a real coverage number yet. If some of the price still has no source, any DSCR you calculate leaves out a payment you will eventually owe. Fill the gap first, then test coverage on the whole plan.

How DealBrain checks coverage

DealBrain runs this test on every preview, after your pay, for free. You tell DealBrain what yearly pay you want from the business. It reserves that pay, adds up the estimated debt in the funding plan, and shows your coverage. It aims for 1.35 and won't call a fix workable below 1.25. If more than 10% of the price still has no funding source, it shows "Needs a funding plan" instead of a coverage number, so you aren't misled by a figure that's missing a payment.

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Estimates only. Not a loan offer, and not legal, tax, or financial advice.