What is a Bridging Loan?
Bridging loans are a short-term financing option used when buying or developing property and are designed to ‘bridge the gap’ in your funds when you’re under financial or time constraints. They can be used in a variety of circumstances and the funds are often provided much more quickly in comparison to loans like mortgages.
Bridging loans are generally used as a last resort, as they often come with high-interest rates and fees. However, when used correctly, they can make a lot of financial sense.
What can you use a bridging loan for?
Bridging loans can be used for several things, including:
- Filling the gap between selling your current property and purchasing your next one if you are having problems with selling.
- Buying a property at auction, where it can be more difficult or unsuitable to arrange a mortgage quickly.
- Paying for renovation work until your property is remortgaged based on the renovations.
- Covering the cost between buying and building on land and getting a mortgage for the finished property.
- Purchasing an uninhabitable property that can be mortgaged once it is habitable.
How does a bridging loan work?
Bridging loans share some similarities with mortgages, as interest is paid on a bridging loan until it has been repaid in full. Bridging loans are also offered at variable and fixed rates in the same way that mortgages are.
Bridging lenders will determine the value of the loan, based on the value of the property, and charges will be placed on assets during this process. Bridging loans are generally regulated by the FCA but some products are unregulated.
Different types of bridging loan
There are different types of bridging loans available depending on your circumstances.
Open bridging loan
The key feature with an open bridging loan is that there is no set date for settling the loan. This type of bridging loan could be used by investors looking to renovate a property before selling it, or by buyers who have found their next property but are struggling to sell their current one.
Closed bridging loan
A closed bridging loan means you have a set date to repay the loan by. This is ideal for someone who is selling a property and awaiting completion. Once they have sold the property, they can use the money to repay the loan.
First charge loans
When you take out a bridging loan, a ‘charge’ will be placed on your property, which takes your property as security and dictates which lenders will be repaid first should you fall behind with your repayments.
A first charge loan is taken out if you own your property outright, or if you were using the bridging loan to repay your mortgage in full. This means that if you fall behind with your repayments, the bridging loan would be repaid first.
Second charge loans
A second charge loan is typically taken if you still have a mortgage on your property. This means that if you failed to make your repayments and the property was sold, your mortgage would be paid off first.
Fixed rate or variable rate?
Like mortgages, bridging loans can have fixed or variable interest rates. Having a fixed interest rate means the amount of interest you’ll pay won’t change during the loan.
A variable interest rate will change, which means your payments can go up or down. Generally, your bridging loan should be in place for a short time, so you might not be affected by changing interest rates. However, you should speak to your lender and keep a close eye on the changing rate and payments.
How much does a bridging loan cost?
Because they are generally taken out for a short period, bridging loans are priced monthly rather than annually.
Interest rates
Interest rates for bridging loans can be extremely high, however, you can choose between a fixed or variable rate depending on your circumstances.
Fees
One of the main downsides to a bridging loan is that the fees are usually quite expensive. As well as standard fees, bridging loans can come with several set-up fees, so it’s advisable to only take one out if you’re confident that it will only be needed for a short period.
How much can you borrow with a bridging loan?
Usually, for a bridging loan, you’ll be able to borrow a maximum loan to value ratio of 75% of the value of the property. If you are taking out a first charge loan, generally you’ll be able to borrow more than if you’re taking out a second charge loan.
How to apply for a bridging loan
Bridging loans aren’t generally available from high street banks, so you will need to approach a mortgage broker or advisor to apply. Although bridging loan applications tend to be processed quicker than mortgages, lenders will still make thorough checks into your credit history, mortgage commitments and the value of your current or future property.
What are the alternatives to a bridging loan?
The main alternative for a bridging loan, if you are struggling to sell before you buy, is to consider a buy-to-let mortgage on your current property and use the equity released to purchase your new home.
Pros and cons of bridging loans
The benefits of a bridging loan are that you can borrow large sums of money quickly, and the loans can be flexible to meet your needs.
However, there are certain disadvantages, including the high-interest rates and additional fees which make the process expensive. The loans are also secured against your property, so you need to be confident in your repayment ability before taking one out.
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