What is a Bridging Loan?
Bridging loans are a short term financing option that are quite different from a standard bank loan. They are often used by property buyers to essentially ‘bridge’ the financial gap between the sale of their current home and the final sale of their next property investment. However, these loans can be very helpful in many ways for businesses to use immediate funds to obtain quick capital, integrate cash flow or make necessary refurbishments. They are one of the most useful and viable options when you need to move quickly to buy a property.
Bridging loans are usually offered between 1-18 months, with the loan repayable in full at the end of the term. An open bridging loan does not have a repayment date, but will still be a short term loan. For example, a 12 month bridging loan must be repaid on the 12th month or before the 12 month period ends. It is in your interest to repay the loan as early as possible in order to save on interest payments.
Bridging loans are very easily accessible and immediate financing which means that they typically have high interest rates and fees.
What is Bridging Finance?
Bridging finance is a kind of commercial property finance which is usually used by companies and sole traders to quickly fund the purchase of a property. Traditional commercial mortgages often take months to arrange. Bridging finance companies can lend money much faster. This type of funding allows clients to obtain immediate funds to complete the purchase of a property or to bridge the gap between selling and buying a new estate. The loan will usually be secured against a charge of the property you are purchasing.
How Much Can I borrow with a Bridging Loan?
The amount that you can borrow is solely dependent on the value and the type of security property that you use. Bridging lenders will quote a maximum loan to value (LTV), this is usually between 65-80%. You are able to get a bigger loan depending on your exit strategy.
Bridging loans are only meant for short term periods, so attempting to get a very large amount of money through a bridging loan without an adequate exit strategy is quite unlikely.
Why is Bridging Finance Useful?
Bridging finance is useful for businesses because it is a loan option that is fast and flexible. This short term property loan option can be approved and released so quickly that it could be done in a matter of days. In many cases, this is a very valuable asset to obtain in the property industry.
These loans are a highly useful tool for businesses to bridge the gap between two property transactions. Bridging loans are a practical solution for those who need extra time to sustain suitable long term finance.
What is Bridge Capital?
Bridge capital is temporary funding that helps businesses cover its costs until it can get permanent capital. The repayment terms for bridge capital vary on the individual, but usually payment is made in full when the loan reaches the end of the term. Usually, by this time, the company receives the necessary capital from their investment or a longer term loan. Bridging loans are typically secured on any real estate asset a borrower can offer. This can include commercial or mixed-use properties.
How do I get a Bridging Loan?
Bridging loans are not widely available and are not offered by a lot of high street banks. Bridging loans are usually highly available from mortgage brokers and advisers.
Although bridging loans are generally quicker to arrange than a mortgage, do not make the mistake that they are easier because lenders are less thorough. Lenders still make thorough checks of your current finances, the value or your perspective property and your current home.
How Much do Bridging Loans Cost?
Bridging loans can end up being very expensive because they charge you a range of fees as well as interest. You will be charged monthly interest on your loan. Your lender will not quote the annual percentage rate (APR) as most bridging loans do not even last a whole year.
You will be charged interest on your loan in 1 of 3 ways:
- Monthly interest: This is the most common way interest will be added to your loan. You will pay the interest each month, and it will not be added to the balance of your loan. You will pay off the full balance at the end of the term.
- Rolled up interest: This is when you pay all of the interest including your original loan, at the end of the term. The interest will be added each month and accumulated this way, however you will just pay the full amount when your term comes to an end.
- Retained interest: Your lender will calculate the amount of interest you will have to pay over the time-frame of your term when you first take out your loan. You will borrow the interest amount from the bridging lender when you apply for your loan including your initial figure. This will cover the monthly interest payments for a set period. You will then pay the loan back and the end of the term including the extra money borrowed for interest payments.
Exit Strategies for Bridging Loans
An exit strategy is the term used to explain how the bridging loan will be repaid at the end of the term. A strong exit strategy is a vital part of any bridging loan application. It is having a strong exit strategy that makes the process of the loan application faster and lenders to be more flexible with your requests.
Why is an Exit Strategy Important?
Having a preplanned and strong exit strategy is very important on a bridging finance provider’s checklist. These loans are based on an interest only basis. How you plan to settle the end of your loan at the end of its term is the most crucial part of your loan.
When your term has come to an end, your lender will expect your loan to be paid back in full as agreed. In the case that you are unable to do this, your account will then be put into default. If this happens it could affect your credit record. In order to avoid this situation you will need to resolve the situation as quickly as possible.
Here are a few options for you:
- Extend your loan with your lender. This may mean that you will continue to add interest on your current loan if you are near your maximum loan to value. It is also important to note that your lender may not agree to renew the loan. If they do agree, they may charge a higher interest rate in exchange for the renewal.
- Refinance to a new lender. This option could get very expensive for you as you will have to restart the process and pay all setup costs again.
Remember that if you do refinance your loan, you still need to consider what your exit plan is for your new loan. Refinancing blindly is a temporary solution, you will just be delaying the inevitable unless you plan a way to properly pay back the loan.
What if I can’t Pay Back the Loan by the End of the Agreed Term?
Bridge loans in their nature are arranged for short term requirements and the lender expects all clients to contractually abide by the terms of repayment within the set time frame agreed.
Bridge loans, like many other loans, are set up with a set plan to arrange how the loan will be repaid. Usually, the lender will not allow the loan to proceed if there are any hesitations about your ability to repay the loan.
When you hit the end of your term, you are expected to repay the loan in full. Acceptable exit methods are usually sale of property or refinance. There are a range of different exit strategies that may work for you.
Loans are a contractual agreement, however, it is inevitable that some loans will overrun the agreed term. The lender will often contact you (the borrower) at least 3 months prior to the end of the agreed term to examine how things are going for you and determine whether you will be able to pay back the loan in time of the agreed term. If the lender believes that it is not likely, they will usually recommend other steps that you can take to ensure that you can get back on track and eventually, you will be able to fully repay your loan.
The lender will obviously want the loan repaid as and when agreed but they will normally work with borrowers who have over run their term only if the borrower is open about their situation and is in continuous regular contact with the lender. This way you and your lender are able to work out a plan to get you back on track together.
We always recommend that when taking out a bridging loan, you opt for the longest term available as many plans can over run the expected timeframe.
How Long Can I Take Out a Bridging Loan for?
The average term for a bridging loan is approximately 6-7 months. In different circumstances, longer terms can be discussed and arranged. It is often dependent on how much your loan is for that your term can be extended.
Are Bridging Loans Regulated?
A bridging loan becomes ‘regulated’ when the loan is secured against a property that is or will be occupied by the borrower. A regulated loan can be secured by a first or second charge, the bridging loan will be regulated by the FCA.
Bridging loans that are unregulated are usually associated with commercial buy-to-let properties.
Can I Get a Bridging Loan Without a Credit Check?
No. Like most other loans, bridging finance involves a thorough check into the finances of the borrower.
Applicants with clean credit history are often more attractive to lenders which results in these applicants receiving favourable rates. However, good credit is not only what lenders look for. There are other aspects and details of your loan that will help you get approved by your lender even though you may have a bad credit history.
Can I Still Get a Bridging Loan if I Have Credit Issues?
Although thorough checks into your credit history will be taken before you take out your loan, bridging loans can still be available to you even if you have a poor credit rating. Your bridging finance is often determined by the security of the property being offered as well as the exit route. Your lender will also take into account the size of your deposit and the assets you put up as security.
A lender’s biggest concern is that having poor credit history will prevent you from repaying the loan at the end of the term. It is highly dependent on what you put up as security and what your exit strategy is. If you have a strong exit strategy such as, to sell the property or another estate, then there is a lesser chance to have an impact on you taking out the loan.
Closed-Bridge and Open-Bridge Loans
What is a closed bridging loan?
A closed bridge loan is for people who have set a fixed date to repay the loan. A closed bridging loan includes a feasible exit strategy as part of the lender’s application. If you are able to produce proof to your lender that you are able to repay the debt as soon as your transaction is completed, then a closed bridging loan is the most effective and sensible option for you. They are defined by the set repayment date and are the most common type of bridging finance option available. Closed loans are usually offered with lower interest rates and have the highest rates of approval.
What is an Open Bridging Loan?
An open-bridging loan differs from a closed bridging loan as an open loan does not require a clearly defined exit route in place to provide to the lender.
Due to the unpredictable nature of repaying an open bridging loan, they are a lot harder to arrange. However, if this is your preferred loan type, it would be in your best interest to be able to provide enough security, so that it is more likely that you are able to be approved for this type of finance.
What is the Interest Rate on a Bridge Loan?
The interest rate on a bridge loan is generally between 1% and 1.5% per month. That being said, there are some lenders who have better rates than others. Because of this, it is always useful to shop around or use the services of brokers in order to get the best possible deal for your loan.
How Much Can I Borrow for a Bridging Loan?
You are usually able to borrow from 80% – 100% of the property value purchase price with bridging loans. It is important to understand that all lenders are different and have different terms. If you are looking to borrow more, you may need to offer additional security in the form of an additional property or several other properties.
How Much Does a Bridging Loan Cost?
There are four main factors that will impact the cost of your loan and they are:
- The term of your loan
- The amount borrowed
- The lenders agreed interest rate
- Start up fees
The general trend with bridging loans is that your costs will generally increase the longer your term is. This is also the case the larger your loan is.
To minimise the cost of your loan, it will help your expenses if you compare the total cost of borrowing the funds, not simply the interest rate and arrangement fees on their own.
There are many fees that are charged in addition to the interest and arrangement fee. Different lenders include their own fees. Here are some common fees charged in addition to your interest rates.
- Exit fees
These exit fees are payable on repayment of the loan. There are some lenders that do not charge an exit fee where some others charge from 1 to -1% month’s interest.
- Valuation fees
These fees are payable for surveyor’s costs in order to ensure your property is suitable security. Some lenders do not require a valuation.
- Legal fees
These fees are to pay lenders own legal costs while they are setting up the loan.
- Admin fees
These can also be labelled as asset management fees. These are costs that are payable to the lender as they handle the setup of your loan.
Pros and cons of Bridging loans
Pros of Bridging Loans:
Bridging finance is quick to arrange. Applications can be completed and authorised quickly allowing you to obtain the funds you need quicker than you could with any other type of loan. Many property deals are highly dependent on factors that are rapidly changing within the business. Being able to obtain funds quickly can be a major attraction.
Bridging loans allow you to complete a property transaction that would otherwise not be possible.
You are able to get funds up to 100%. Usually the most you are able to borrow is 80%, however, provided the security put in place is sufficient, lenders will allow you to borrow up to 100%.
Often with bridging loans there are no monthly repayments, this allows the loan to raise capital for your business where cash flow is tight, while you have assets that can pay back the loan.
Cons of Bridging Loans
Your home / property you put up as security is at risk if you do not keep up repayments on a bridging loan.
There are usually several fees which you will have to pay which makes bridging loans more expensive than traditional mortgages. These fees include an arrangement fee, broker fees, valuations fees and sometimes even legal fees, before you are able to take out your loan. If you are borrowing for a long period of time, the interest charges are a lot more expensive than a standard loan.
As most loans are short term, if you have issues with your repayment method, you could potentially face major issues. Failure to repay your loan at the end of the term could have major repercussions. It could lead to your property being repossessed.
When Would you Need a Bridging Loan?
When a buyer pulls out on an investment into your property, your finances on the offer of your next home and potential deposits could be put in jeopardy. A bridging loan will be able to tide you over until your home is back on the market and is under offer again.
Bridging finance allows you to buy a second property before selling the first.
As long as you can provide your lender a valid exit strategy, the money you obtain for a bridging loan can be used for a variety of business reasons from providing your business with working capital to covering cash flow issues.
Auctions: Bridging loans allow you immediate funds when you are bidding for properties at an auction.
Bridging loans could also be used if you wanted to buy a property with a short lease. You could use the loan to buy the property, then add value by extending the lease. This would also provide a valid exit strategy.
Refurbishment projects: You can use residential bridging loans for cash flow to refurbish a property before full capital is available.
What is a Commercial Bridging Loan?
Commercial bridging loans are similar to residential bridging loans, they are used when there is a gap in financing that needs to be filled quickly.
For a commercial bridging loan, the overall use of the property has to be more than 40% commercial. This means that retail units with residential flats on top or at the back have to occupy more than 40% commercial space of the property.
The exit strategy for residential bridging loans usually include landlord or landlord companies to refinance the loan into a buy-to-let mortgage. This is usually done after the loan is used for renovations to make the property more attractive or suitable for rental.
For commercial units that are bought specifically by using a commercial bridging loan, the exit strategy usually involves selling or refinancing the property on to a conventional commercial mortgage after buying or refurbishing the property.
What is a Bridge-to-let Loan?
This type of bridging loan is specifically aimed at the buy-to-let market. The loan is used to secure a property that is fully intended to rent out without having a basic mortgage organised. This loan would be based around your ability to obtain 100% rental income. This means that your potential rental income should equal your payments.
You can use this type of bridge loan for both residential and commercial properties. The exit strategy would be to refinance the property on to a conventila buy-to-let mortgage and gaining capital by renting the property out either in part or fully.
Defaulting on your Bridging Loan
With all bridging finance, you have to put up security therefore, defaulting on your loan will not only affect your credit score, but will also put your asset at serious risk. Even though bridging loans are able to be authorised quickly, all lenders are very thorough with background checks and legal rights.
There are a variety of legal options your lender has at their disposal in order to compel you to pay what is owed to them. This not only includes the right to your security asset but could also include county court judgments, or statutory demand letters which would ultimately force your company into liquidation.
Breaching the Terms of your Bridging Loan
Bridging loans have many terms and conditions that are different to standard mortgage loans. A lot of lenders are at liberty to insert their own terms and conditions which is why it is imperative to read the fine print carefully before signing all contracts to understand the fees, repayments, charges and when they are all due.
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