What is a bridging loan?
A bridging loan is a type of short-term finance available to those that need immediate access to capital. It is usually taken for a property purchase to help ‘bridge the gap’ between buying a new home while awaiting the sale of another property or while another type of finance (such as a mortgage) is being arranged.
The average term of a bridging loan is 12 months and in 2019 the most common reason for taking out a bridging loan was to purchase an investment property.
Bridging finance is secured and requires the borrower to use a property or another asset as security to the lender.
Advantages
- A quick and easy application process
- Large amounts can be borrowed
- They offer control over repayment options - (Interest payments can be ‘rolled up’ and paid on full repayment of the loan meaning no monthly payments and a positive cash flow)
- There are flexible lending criteria
- A poor credit score can still considered as the security is mainly asset-based (rather than income based)
- They provide borrowers with time to sell an existing property, complete property renovation projects or to arrange longer-term finance
- They can improve credit score if repayments are made on time
- They allow greater purchasing power because you are buying a property with cash
- They offer an alternative when high loan-to-value (LTV) mortgages aren’t available
Disadvantages
- They are generally more expensive than traditional mortgages and have higher interest rates and high fees
- Borrowers may need to take out longer-term credit to pay off the bridging loan
- There may be hidden charges as commercial bridging is unregulated. You don’t need to worry about this if you take help from Propillo, transparency is key to our service.
- Additional legal and administration costs might be added depending on your circumstances
How does a bridging loan work?
There are two types of bridge loan – open and closed.
Open bridging loan
Open bridging loans are flexible loans and most suitable for people who are uncertain about when their finance will be available due to potential legal holds ups with the sale of a property.
Open bridge finance does not impose penalties when circumstances prevent the borrower from meeting the terms. This type of bridging loan is usually more expensive however, due to the risk they carry for the lender.
Closed bridging loan
Closed bridging loans are offered when a borrower has a clear and credible repayment plan in place and a guaranteed repayment date. They may have a completion date for a property they are selling or they may have an exact date for when a mortgage will be agreed.
This type of bridging loan is a lower risk due to this certainty and should, therefore, be cheaper.
With both options, there should always be a repayment plan put in place.
Why use a bridging loan?
Bridging loans should be used by borrowers when they need a supporting form of finance while they wait for longer-term funding. They should not be used as an alternative to mainstream borrowing options.
There has been an increase in bridging loan options in recent years due to high street banks and building societies taking longer to process standard mortgage applications.
A bridging loan can be used for the following reasons:
- To buy a property before the sale of your existing property is complete
- For property development, to re-sell or rent it out.
- To buy a property at auction, where capital payment is needed quickly
- For a divorce settlement
- To pay a tax bill
Who can use a bridging loan?
Bridging loans in the UK are available to individuals or businesses. They are commonly used by landlords, property developers and investors but are also used by individuals and businesses who need a short-term property finance solution .
Types of security that can be used
When applying for a bridging loan in the UK, most lenders will consider the following property types as a form of security (They must be UK based):
Houses, flats, bungalows, maisonettes, HMOs, warehouses, factories, retail stores, shopping centres, hotels, restaurants, pubs, cafes, sports facilities, hospitals, medical centres, nursing homes and plots of land.
How much does a bridging loan cost?
Bridging loans can be expensive because they charge high-interest rates and a range of fees. This reflects the high risk taken by the lender but also the flexibility that a bridging loan offers.
The cost of bridging finance has come down significantly over the last few years as it has become less specialist and more popular with consumers.
This has led to more lenders in this space offering competition, more choice and better products
Bridging loan interest
Bridging loan interest is generally priced monthly due to them being short term loans. They, therefore, work out to be much more expensive than a normal residential mortgage. It is advisable to only take a bridging loan out if you are confident that you won’t need it for a long period of time.
Interest rates on bridging loans are normally charged in one of the following ways. You might be allowed to combine these options, depending on your lender’s criteria.
Monthly interest
Interest is charged each month and is not added to the balance of your loan, which is paid off at the end of the term.
Rolled up or deferred interest
All the interest is paid at the end of the term when you repay the original loan. The interest is charged each month but monthly payments are not made.
Retained interest
The interest is borrowed in one lump sum from the bridging lender when you apply for the loan. You then pay everything back at the end of your term
Bridging Loan Fees
There are a number of fees that need to be paid when taking out a bridging loan. Each lender’s loan fees may differ so it is important to check fees with the lender before you commit to the loan, to make sure you can afford to repay everything.
Arrangement fees
These are usually 1 – 2% of the loan balance and can also be referred to as a facility fee. The purpose of these fees is for the lender to make some profit from the arrangement and should ensure that interest stays slightly lower for the borrower.
Administration Fees
After the loan has been accepted, there is usually a small administration fee when the borrower executes any draw-down from the bridging loan’s credit line.
Solicitor Fees
Lenders use solicitors to handle the loan agreements and the cost is charged to the borrower . The fee will often be included within the terms of the agreements.
Valuation Fees
Valuations provide lenders with clarity about whether they should lend to a borrower based on the security of the loan. The valuation fees will depend on the value of the property that is being used as security, the location of the property and also on the type of reports generated from the survey.
Legal fees
These cover the lender’s legal and solicitor fees and are usually charged at a set rate. They should be set out in the terms provided by the lender for transparency.
Redemption fee
The major advantage of a bridging loan is the flexibility that they offer. They very rarely have early repayment charges and can be redeemed after 30 days without any penalty.
An administration or redemption fee is charged when the loan is repaid to cover the legal cost of removing their charge from the security property.
Bridging loan term lengths
Bridging loans are short term loans by definition and are usually offered for periods of a few weeks to 12 months. Lenders will however consider longer-term loans, depending on the exit strategy proposed by the borrower. They are not usually used for long term loans due to the high-interest rates that apply.
As mentioned, if you want to repay the loan early, there are no repayment charges, although some lenders will have a minimum loan term of 30 days.
First and second charge bridging loans
When you take out a bridging loan, a ‘charge’ is placed on your property. Charges determine the priority of debts if you’re unable to repay your loan.
- First charge loans are where it is the first or only loan secured against your property. Mortgages are normally first charge loans
- Second charge loans are where you take out another loan on an asset on which you already have a loan or mortgage.
Typically, if you have a mortgage on your property, the bridging loan will be a second charge loan. This means that if you failed to meet repayments, and your home was sold to pay off your debts, your mortgage would be paid off first.
You would take out a first charge bridging loan if you owned your property outright, however, or if you were taking out the loan to repay your mortgage in full.
How much can you borrow with a bridging loan?
You’ll usually be able to borrow a maximum loan-to-value ratio (LTV) of 75% of your property’s value. If it is a first-charge bridging loan, you’ll typically be able to borrow more than if you were taking out a second charge loan.
What does loan to value (LTV) mean?
Loan to value (LTV) is the ratio that lenders use to work out how much you will be able to borrow versus the value of the asset you want to borrow against. For example, if you owned property worth 200,000 and wanted to borrow £50,000, the LTV of the loan would be 25%. Use Propillo’s easy-to-use LTV calculator and guide to work out LTV and for further information.
Can I Get a 100% Bridging Finance?
Some providers specialise in offering a 100% LTV bridging loan which means the loan covers the full value of the property being secured. It is only offered if a borrower has cast-iron security in place such as multiple properties or another asset. A 100% LTV loan will be offered with higher fees to reflect the level of risk involved.
How long does it take to get a bridging loan?
Bridging loans can be approved within 24 hours but you will usually need to wait a few weeks for the money to be released. The following needs to take place after approval, before the money is released:
- Your property needs to be valued
- The lender needs to complete the relevant checks
- The money needs to be transferred
Alternatives to bridging loans
A bridging loan might not always be the right loan for your circumstances. Depending on your requirements, there are some alternative options. If you want to move but can’t yet sell, you could also consider a let-to-buy mortgage where you remortgage your current home onto a buy-to-let mortgage and use the equity released to buy a new property.
Other loans that offer an alternative include:
Homeowner loans, commercial loans, secured loans, commercial mortgages, buy-to-let mortgages, asset refinancing, development finance, mezzanine finance and invoice finance.
To help you establish whether a bridging loan is the right solution for your short term borrowing requirements, speak to Propillo for free online advice.
