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Are Bridging Loans a Good Idea?
Bridging loans have become a popular funding solution in the last decade, but how do they really work and are they a good idea?
A bridging loan can be a good idea depending on what kind of property finance you need, for how long, and whether you have a solid exit strategy in place.
In this guide, we explain what bridging loans are, how they work, and their pros and cons, and we provide lots of examples so you can be confident in deciding if a bridging loan is right for you.
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Key Takeaways
- Bridging loans are short-term financing solutions designed to provide funds quickly before a long-term financial arrangement is secured.
- They're useful in situations such as buying a property before selling your current one, auction purchases, renovations, and property development.
- They differ from a mortgage in a few key ways, namely that they have higher interest rates, shorter loan terms (typically 12-18 months), and that the loan is settled in a lump sum rather than monthly installments.
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When are Bridging Loans a Good Idea?
How Bridging Loans Differ From Mortgages
The Pros and Cons of Bridging Loans
How to Qualify for a Bridging Loan
When are Bridging Loans a Good Idea?
Bridging loans can be a good idea in situations where there's a temporary need for funds before a more permanent financing solution can be arranged.
Some examples of this are:
- Buying a house before you sell your current property
- Buying a house at auction
- Renovation or refurbishment
While they do tend to have higher interest rates than mortgages, they typically offer more flexibility. They're also short-term, so if you pay your bridging loan early, you'll only pay interest for the months you had the bridging loan.
How Do Bridging Loans Work?
In a nutshell, a bridging loan is a short term finance solution for buying a property.
They typically span a 12-month term – although they can be more flexible given the need and depending on the lender.
Many people find bridging a great solution when traditional finance, like a mortgage, is not an option for them.
As the name would suggest, bridge loans assist in 'bridging the gap' between selling and buying property. Alternatively, you may find bridge loans useful when financing renovations, buying a property at auction or investing in property development.
Naturally, bridging can be applied to myriad scenarios, but its most common usage is buying a new property before your previous home has sold.
How Bridging Loans Differ From Mortgages
The main difference between the two is that a mortgage is a long-term loan while a bridging loan is short term.
Mortgages are typically used to purchase a property outright for the long term while bridging loans are often used to secure a property quickly in the short term before refinancing later down the line.
Like most short term loans, bridging finance usually comes with higher interest rates and additional fees, so they’re typically designed to be held for only 12-18 months.
The key difference, and a great selling point, for bridging loans is how repayments and interest rates function.
With a bridge loan, you don’t make monthly repayments towards the capital of your loan like you do with a mortgage.
Instead, you pay it off as a lump sum at the end of your term.
This is where your exit strategy comes in – how are you going to repay your loan?
The most common type of bridging loan exits are:
- Selling another property (your current home, for example)
- Selling the property you’ve bought with your bridging loan (after you’ve done some renovations, for example)
- Refinancing with a standard mortgage for the long term (perhaps you were buying at auction and needed to complete within the 28-day timeframe)
- Selling a separate property or asset altogether
- Any other expected large cash windfall (such as a pending inheritance, for example)
This convenience is also reflected in how the interest is charged on a bridging loan.
You often have the option to 'roll up' interest payments to the end of your loan term.
This means you don’t have to worry about making any repayments to your bridging loan for its entire term (which helps with moving costs or cash flow for your development project, for example), and you repay your loan and interest together when you have the funds.
You’ll also only pay interest up until you repay your loan, so if you can pay it back sooner than 12 months, you could save money.
A standard mortgage doesn’t allow this type of interest structure or early repayment.
Ultimately, bridge loans offer flexibility for those with experience but require a level of preparedness for those uninitiated – it’s important, and a requirement from lenders, to have a clear and robust exit strategy.
What Are the Types of Bridging Loans?
Aside from the most common use (bridging the gap between buying a property before yours sells), there are several different types and uses of bridge loans.
Here’s an overview of what bridge loans can be used for:
- Refurbishments - Bridging loans can be used to fund property refurbishments or renovations. This can be particularly useful for property developers and landlords who need to make improvements to a property in order to rent or sell it.
- Property development - Bridging loans can also be used to fund business ventures, such as purchasing a new commercial property or investing in property development or land purchase.
- Auction purchases – You will have only 28 days to finalise the purchase of a property bought at auction, therefore, bidders can make use of the fast financing a bridge loan allows for.
- To pay care home fees - care home fees can be expensive upfront, and you might need to sell a property that's no longer in use to cover the costs. But if the timings don't line up, a bridging loan can help.
- To pay inheritance tax (IHT) - it's common to have to pay a large IHT bill before you've received the money, so if you don't have the funds to hand, a bridging loan can fill the gap.
These are general uses that can apply to numerous scenarios, and the key takeaway is the flexibility with which bridge loans can be applied to your own circumstances.
Watch our video below for an example of how to fix a broken property chain with a bridging loan:
Fergus Allen
Head of Bridging
Let us do all the hard work of finding the right bridging lender for your circumstances.
We secure bridging finance for applications of all types, and we negotiate competitive lending to meet your needs and timescale.
What Are the Costs of Bridging Loans?
The cost of a bridging loan depends on a variety of factors, including the amount of your loan, the length of your loan, and your lender.
Interest rates can vary from lender to lender and can be determined by your creditworthiness, the LTV (Loan-to-value), the type of loan you wish to take out and the value of the property (or properties) used as collateral.
In addition to interest, some of the other most common bridging loan costs include:
- Arrangement fee - A fee charged by the lender for setting up your loan and processing your application. This can be a percentage of your loan amount or a flat fee.
- Valuation fee - A fee the lender charges to have your property valued - typically a flat fee (Tip: our brokers try to prioritise lenders that accept online valuations to save you costs).
- Legal fees - Some lenders require you to pay your own legal fees, while others may include these costs in your loan.
- Exit fees - Some lenders charge an exit fee when you repay your loan, usually a percentage of your loan amount.
It's also worth noting that each lender has different fees, lending criteria, and varying interest rates, so it’s important to shop around and compare the costs of different bridging loans to find the most cost-effective solution.
- Broker fee - most people use a finance broker, like us, to help them find a suitable and low-cost bridging loan, and a fee will apply.
Bridging Loan Calculator
Our bridging loan calculator is a valuable tool that helps simplify the process – it’ll work out an indicative quote and support the initial stage of finding out if bridging finance is the best option for you:
Get started with our calculator
The Pros and Cons of Bridging Loans
Bridging loans can be a useful financing option for certain situations, but they also have their own set of pros and cons. Here are some of the main advantages and disadvantages to consider:
Pros:
- Speed of funding - Bridging loans can be approved and funded much more quickly than traditional mortgages, making them a good option for property buyers who need to move quickly.
- Flexibility - Bridging loans can be tailored to the borrower's specific needs, with options for open or closed loans, first or second charges, and more.
- No early repayment charges - Most bridging loans don’t carry any early repayment charges, meaning if a borrower can pay off the loan early, they can do so without incurring any additional costs.
- Unmortgageable property - Some properties that would not qualify for a traditional mortgage can be acceptable for a bridging loan – properties bought at auction, for example. You can then refinance later after developing the property.
Cons:
- Higher interest rates - Bridging loans typically come with higher interest rates than traditional mortgages.
- Short term - Bridging loans require the borrower to pay them off in a relatively short period of time, which can be a problem if a property doesn't sell as quickly as expected or if refurbishment and development plans exceed costs.
- Risk - If the borrower cannot pay back the loan on time, they could lose the property as collateral, meaning it can be a relatively high risk strategy without a level of preparedness.
- Fees - There are many fees and additional costs associated with bridging loans, such as arrangement fees, valuation fees, and more.
It's important to weigh these pros and cons and compare different options before applying for a bridging loan.
An experienced bridging broker can ensure you understand the terms and conditions of your loan and find the right lender and product suited to your circumstances.
How to Qualify for a Bridging Loan
Qualifying for a bridging loan can vary depending on the lender, as they’ll consider your application based on a variety of factors:
- Property - Most bridging loans are secured against a property, so the property will need to be valued and considered as worthy deposit against your loan.
- Purpose - The lender will need to know what your loan is intended for, such as buying a new property or renovating a property before selling. They will need to assess the project's feasibility before agreeing to lend.
- Exit strategy - Since bridging loans are short-term loans, the borrower must provide a solid repayment plan – typically, this comes through the sale of the property the loan is raised against, but it could be in the form of additional assets or other properties.
- Credit History - Borrowers typically need a good credit history to qualify for a bridging loan. This will include a minimum credit score and a track record of paying bills on time and managing credit responsibly. But if your credit score is poor, we may still be able to help you.
Related: Guide to finding the best bridging loans
How We Can Help
Bridging loans aren't typically offered by high street banks anymore, so it's likely you'll need a specialist lender. Each lender will have their own approach to assessing risk and the feasibility of each application.
At Clifton Private Finance, we have an award-winning bridging team dedicated to driving results. We have relationships with lenders across the whole bridging market and have access to the best deals. Our bridging brokers can guide you through the process and liaise with lenders on your behalf.
To see what we can do for you, call us at 0117 959 5094 or book a consultation below.
