Cover ratios and metrics
Stress test
Lender's recalculation of cover ratios using a higher assumed interest rate or weaker income, to test whether the loan still clears in a worse market.
Stress test is the lender’s recalculation of ICR or DSCR using a higher interest rate (and sometimes a weaker rental or trading income figure) than the actual deal contract. On UK commercial mortgages the stressed cover ratio is what the lender underwrites against, not the contract-rate cover ratio.
How stress tests work
Two parameters move:
- Stress rate: lender applies a higher rate. Common formulas: contract rate plus 1.0 to 2.0 percentage points, or a floor of 5.5 to 7.0%, whichever is higher. For variable-rate deals the stress is built on the lender’s revert rate plus a margin.
- Stress income: for investment property, lenders sometimes apply a 90 to 95% rent factor to allow for void periods. For owner-occupier they may strip optimistic year-end forecasts back to filed accounts.
Why the contract rate is not enough
A loan that clears 1.50x DSCR at the 6.5% contract rate may only clear 1.10x at a stressed 8.5%. If the stressed cover falls below the lender’s minimum, the loan is either trimmed or the lender prices in a tighter margin to compensate. The headline rate the borrower sees does not move; the loan size or terms do.
A worked broker example
A Sheffield commercial investment refinance. Property valuation 1.5 million. Annual rent 105,000. The borrower wants 1 million.
- At contract rate 7.0% interest-only: annual interest 70,000. ICR is 150%.
- Stressed at 8.5%: annual interest 85,000. ICR drops to 124%. Below the lender’s 140% prime threshold.
- Stressed at 8.5% with 95% rent factor: stressed rent 99,750. ICR 117%.
The deal does not size at 1 million. The lender backsolves to a loan amount that clears 140% on stressed numbers. That is 837,915. The borrower either accepts the 837,915 or finds a lender with a softer stress.
How to spot which stress a lender uses
Heads of terms always disclose it. Look for phrases like “stressed at pay rate plus 200bps”, “stressed at the higher of 7.50% or contract rate plus 100bps”, or “ICR tested at 145% on a stressed rate of 8.00%”. If the heads of terms is silent on stress, ask. Every UK commercial mortgage lender stress-tests; the only question is how visible they are about it.