Table of Contents
- What Are Netting Escrows & How Does It Work?: The Best Guide - January 2, 2024
- The Secret About Prescriptive Easement: Top Guide 1 Must Know - December 4, 2023
- About Home Equity Loans In Texas And How Can One Obtain It - November 27, 2023
About Bridge Loan
A loan taken against a homebuyer’s current home for making the down payment on their new home is a bridge loan.
If you want to purchase a new home before your current home has sold then a bridge loan may be an ideal option for you.
Businesses that need to cover operating expenses while awaiting long-term funding may also opt for this form of financing.
When a bridge loan is used for real estate, to secure the debt it requires a borrower to pledge their current home or other assets as collateral.
The borrower must have a minimum of 20% equity in that home. Bridge loans are best for borrowers who are expecting their current home to sell quickly because it has high interest rates and they last only for between six months and a year.
What is a Bridge Loans?
A bridge loan is a short-term loan that gives borrowers the flexibility to borrow money for up to a year.
They are sometimes referred to as bridge financing, bridging loan, interim financing, gap financing, and swing loans.
Bridge loans need to be secured by collateral in the form of the borrower’s home or other assets. Bridge loans have interest rates are between 8.5% to 10.5%, making them more expensive than long-term financing options.
Compared to traditional loans the application and underwriting process for bridge loans is much faster. A borrower who qualified for a mortgage to purchase a new home needs to have the required equity (20%) in their first home.
The homeowners who want quick access to funds the purchase of a new house before they have sold their current property find bridge loans a popular option.
How do Bridge Lending Works
Sometimes before receiving money from the sale of their first home it may be difficult for a homeowner to make a down payment on the second home.
In such a situation, the homeowner can take out a bridge loan against their current home and cover the down payment on their new home.
During such times, to “bridge the gap” between the new purchase and the sale of their old home a homeowner can work with their current mortgage lender to obtain a short, 6 to 12-month loan.
All traditional mortgage lenders do not make bridge loans, they’re more commonly offered by online lenders.
Even if bridge loans are secured by the borrower’s home, compared to other financing options they often have higher interest rates similar to home equity lines of credit, because of the short loan term.
Once their first home is sold, the borrower can use the funds to pay off the bridge loan, and thereafter they just have to pay the mortgage on their new property.
If the borrower’s home does not sell within the brief loan term, they will have to make payments for their first mortgage, the mortgage on their new home, and the bridge loan.
Making the bridge loans a risky option for homeowners who are not able to sell their homes in a very short amount of time.
When to use Your Bridge Loan
Bridge loans are usually used when a homeowner before selling their current property wants to buy a new house. A portion of their bridge loan can be used by the borrower to pay off their current mortgage and use the rest as a down payment on a new home.
A homeowner can also use a bridge loan as a second mortgage that covers the down payment for their new house.
When is the bridge loan the right choice?
- When a borrower has chosen a new home and is now in a seller’s market the houses are selling really quick
- The borrower can’t afford a down payment on the new property without first selling their current home
- The borrower wants to close on a new home before selling their current home
- The sale of their current home is not scheduled before closing on the new house
- Businesses can use bridge loans to take advantage of immediate real estate opportunities or to fund short-term expenses. Bridge loans charge higher interest rates than other types of business loans.
Business bridge loans are commonly used for:
- While a business awaits long-term financing this loan can cover operating expenses
- Obtaining the funds needed to acquire real estate quickly
- If there is limited time offers on inventory and other business resources
Bridge loan costs
Depending on the borrower’s creditworthiness and the size of the loan the rates change and the prime rate ranges between 3.25% to 8.5% or 10.5%.
Interest rates for business bridge loans are higher and range between 15% to 24%.
Along with paying interest on the bridge loan, borrowers also need to pay closing costs and additional legal and administrative fees.
Closing costs and fees for a bridge loan ranges between 1.5% to 3% of the total loan amount and may include:
- Appraisal fees
- Administration fee
- Escrow fee
- Title policy costs
- Notary fee
- Loan origination fee
Types of Bridge Loans
Bridge loans lenders extend their lending term based on factors like borrower creditworthiness and financing needs. Bridge loans often vary by interest rate, repayment method, and loan term.
For repayment of interest on bridge loans, some lenders require borrowers to make monthly payments, whereas others prefer lump-sum interest payments made at the end of the loan term or some lenders take it from the total loan amount at closing.
The Pros and Cons of Bridge Loans
Pros of Bridge Loan:
- Borrowers can have immediate access to cash
- When shopping for real estate it provides flexibility
- The application, underwriting, and funding process are faster than traditional loans
Cons of Bridge Loan:
- Compared to other types of loans, like HELOCs bridge loans have higher interest rates.
- Because lenders require the borrowers to have at least 20% home equity so it is not an available option for everyone
- As bridge loans are secured debt borrowers would have to pledge their home or other assets as collateral
- In addition to their current mortgage, the borrower must pay debt service on their bridge loan.
Other Alternatives to a Bridge Loan
Before committing to a bridge loan borrowers can consider other alternatives like –
1 – Home Equity Line of Credit (HELOC)
2 – Home Equity Loan
3 – 80-10-10 Loan
Conclusion
Bridge loans can be ideal when one requires urgent funds that a long-term financing solution cannot give.
The thing to beware of with bridge loans is, they can put you at risk of losing your first home, as they only last for up to a year and often come with a high interest rate.
