When determining whether a bridging loan is the right choice for you, there are a number of things to take into account, including the cost of the loan. A bridging loan can be an expensive form of borrowing due to the convenience of being able to borrow money at potentially short notice, so it is usually worthwhile to look into alternatives.
However, in certain situations, if you need to close a financial gap to help you purchase a home, it might be worth it to pay the higher fees linked to bridging loans.
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A bridge loan is a type of short-term loan used to fund the down payment of a newly constructed home. If you need extra money to buy a new house before selling your current one and want to make an offer without it being contingent on your house selling first, a bridge loan can be helpful.
To find out if bridge loans are a good fit for your home-buying situation, learn about the pros and cons, costs associated with them, and how they operate.
What is a bridge loan?
A bridge loan serves as a “bridge” between selling your existing house and purchasing a new one. It is also referred to as a swing loan or gap loan. For use as a down payment on a new home, a bridge loan is a short-term mortgage secured by a portion of the equity in your current residence, even if it is for sale. The amount that separates the value of your house from the remaining mortgage balance is known as your home equity.
Bridge loans are a good substitute for cash-out refinances, which prevent you from taking out a loan against the equity of your existing house if it is for sale. Additionally, bridge loans assist in the delicate balancing act of simultaneously purchasing and selling a home.
When you need a bridge loan
Typical situations where a bridge loan could be useful include:
- A new home purchase in a hyper-competitive market. Sellers are less likely to accept an offer conditional on the sale of your home when there are several bidders for the same property. However, a bridge loan might be able to help you obtain enough money to cover the shortfall until your current house sells if you need the money from it to make your new home payment affordable.
- A fixer-upper home purchase. A bridge loan might be helpful if you’re purchasing a home that requires major repairs but those repairs don’t fit the requirements of a conventional loan. For example, the Fannie Mae Home Style C2%AE Renovation Loan limits the amount of money available for renovation to either 2075 percent of the purchase price plus the cost of renovations or 2075 percent of the appraised value of the completed home, which may not be sufficient to purchase and repair the home. You could be able to finish the renovations without using up any of your savings with a bridge loan.
- A fix-and-flip home purchase. If you’re renovating and selling a house, you should think about getting a bridge mortgage. When the renovations are finished, you can return the loan if everything goes as planned. A bridge loan might be easier to get than traditional financing, so you could be able to move quickly to buy a property.
How does a bridge loan work?
A bridge loan functions much like any other mortgage in many aspects. The lender verifies your eligibility by looking over your income, assets, and credit history. To ensure the value of your house, an appraisal is required. However, there are some important differences:
You’ll need to choose whether the loan is a first or second mortgage
One mortgage allows you to borrow more than you currently owe, and you can keep the difference. Alternatively, a second loan allows you to take out a smaller loan against some of the equity in your house.
Here’s how each works:
- First-mortgage bridge loan. A lender extends an offer to you for a single loan that covers the whole amount of your mortgage plus a down payment. After your present mortgage has been paid off, the bridge loan will take precedence until you sell your house, at which point you will settle the debt.
- Second-mortgage bridge loan. A lender offers you a loan for the amount required for a down payment on a new house, but they do not take over the balance of your existing first mortgage. Since your current house serves as security for the loan, it qualifies as a second mortgage.
You’ll typically be able to borrow up to 75% of your home’s value
The entire equity in your house will not be available to you if you take out a bridge loan for either a first- or second-mortgage. If you don’t have more equity than 2020%, a bridge loan might not be the best option.
You may have options for how you make your monthly payment
You may have to make interest-only payments each month, no payments at all until the house is sold, or fixed monthly payments, depending on the terms of the loan.
You’ll pay closing costs and possibly have a prepayment penalty
Expect to pay 1. 5% to 3% of the loan amount is what closing costs for a bridge loan are. Additionally, bridge loan rates can be as high as 6. 98% to 99%, depending on your loan amount and credit profile Avoid lenders who request an upfront payment for a bridge loan, as you are responsible for paying all associated costs at the time the mortgage closes. Check your bridge loan terms for a prepayment penalty.
You need to be prepared to pay the loan off within a short time period
Typically, a bridge loan must be returned in 12 months or less. If you’re not sure you’ll be able to sell your house in that time frame, you might want to think about using piggyback financing to purchase your new house. You can divide your mortgage into two payments: a first mortgage amount that satisfies your desired payment amount, and a second mortgage, home equity line of credit, or home equity loan to cover the difference. You will only have to make the first mortgage payment after you sell your house and pay off the second mortgage balance.
You won’t have the same legal protections as a standard loan
The Real Estate Settlement Procedures Act (RESPA), which establishes guidelines for educating consumers about settlement costs and lender payment terms, does not apply to bridge loans, in contrast to conventional mortgage loans. Make sure to compare rates from several lenders to get the best bridge loan terms, as they can differ substantially.
An illustration of the math required for a bridge loan in the given scenario is provided below:
- you buy a home priced at $400,000
- your current home is worth $350,000
- you owe $150,000 on your current mortgage and
- The bridge loan company offers you two options: either you take out a new first mortgage that replaces your existing mortgage to get cash back, or you take out a new second mortgage that is added to your existing first mortgage to get cash back. Approximately 20% of your home’s value can be borrowed.
| First-mortgage bridge loan | Second-mortgage bridge loan | |
|---|---|---|
| Current home | $350,000 current value X .80 (80% of value) __________________________ $280,000 first-mortgage bridge loan ($150,000) current mortgage payoff __________________________ $ 130,000 cash back for new purchase | $350,000 current value X .80 (80% of value) __________________________ $280,000 maximum both loans ($150,000) current loan balance _________________________ $ 130,000 second-mortgage bridge |
| New home | $400,000 ($130,000) bridge loan down payment __________________________ $270,000 needed for new home | $400,000 ($130,000) bridge loan down payment __________________________ $270,000 need for new home |
In summary, a bridge loan in the aforementioned example transfers $130,000 of your home’s equity to cash that you can use to buy a new house while you wait for the sale of your old one.
The only difference between the two examples is the amount of cash you receive; however, the number of mortgage payments you still have to make on your current home is different. Your current mortgage balance is settled by a first mortgage bridge loan, leaving you only responsible for the bridge loan payment on the house you’re selling. The existing mortgage balance is unaffected by the second mortgage bridge loan, but a second lien is added, requiring you to make two payments on your house until it is paid off.
How to get a bridge loan in 5 steps
In most cases, you will need at least 2020% equity to obtain a bridge loan; however, you will likely need much more if you require additional funds to cover a down payment on a new home. Remember that you may have to use cash to settle the remaining balance on your bridge loan if the sale of your house is less than you had anticipated.
Watch your debt-to-income (DTI) ratio
Both the payments on your existing house and the one you’re purchasing must be within your means. If your income fluctuates because of commissions or self-employment, give a bridge loan second thought. If you’re making three mortgage payments, a few slow months could quickly deplete your savings.
Boost your credit scores
Since bridge lenders are aware that you will probably be making multiple mortgage payments, they want to see evidence of your responsible debt management. The best rates will come from having a high credit score, though some bridge loan programs accept scores as low as 600.
Find a bridge loan lender
Because they are a specialized product, not all lenders provide bridge loans. Find out if the lender you’re working with for the purchase of your new house offers bridge loans. If it doesn’t, consider these options:
- Local banks and credit unions. Inquire about bridge loans from the local bank you currently use if you do. Local banks and credit unions understand your local real estate market and provide personal service, even if you don’t bank with them.
- Non-QM lenders. Bridge loans are among the alternative mortgage products that non-qualified mortgage, or non-QM, lenders specialize in. Features like interest-only and balloon payment plans, which are prohibited in qualified mortgages, are present in non-QM loans.
- Hard-money lenders. Individuals or groups of investors that provide loans with short repayment terms, such as bridge loans, are known as hard-money lenders. Although their interest rates are typically higher, their credit requirements might not be as strict. Confirm the lender is reputable before working with one.
THINGS TO KNOW
Verify that any loan officer or institution you’re considering is appropriately licensed by visiting the Nationwide Multistate Licensing System (NMLS) Consumer Access website. You can search by loan officer or company name and confirm they’re licensed in your state.
Have a bridge loan payoff backup plan
Make sure you have the assets to repay the bridge loan in the event that you are unable to sell your house because getting one can be risky if home values start to decline. If you are unable to make the payments within a year, you risk having your home taken by foreclosure.
Pros and cons of bridge loans
| Pros | Cons |
|---|---|
|
You can use your current home equity while it’s listed for sale to buy a new home |
You’ll pay high interest rates and closing costs |
|
You won’t clean out your savings account |
You could have up to three monthly mortgage payments for a period of time |
|
You can make offers without contingencies for the sale of your current home |
You could lose both homes if you can’t make payments and the bridge lender forecloses |
|
You may be able to make interest-only mortgage payments |
You may have a harder time finding a bridge lender |
|
You can make a larger down payment on the home you’re buying using your current home’s equity |
Your loan may be considered riskier with fewer federal protections |
Prior to obtaining a bridge loan, think about the following options:
- Home equity line of credit (HELOC). This mortgage product works like a credit card. If authorized, you are able to borrow the entire amount up to the credit line’s maximum. Many HELOCs offer the same interest-only bridge loan payment option. This alternative uses the collateral of your home, just like a bridge loan does.
- Home equity loan. Using this option, you take out a loan against a portion of the equity in your house and get the money all at once, which you have to pay back. A home equity loan is a better option than a home equity line of credit (HELOC) if you want the stability of a fixed monthly payment.
- Cash-out refinance. If you were to use a cash-out refinance instead of a bridge loan, you would take out a larger mortgage in place of your existing one and use the difference as a down payment for a new home.
THINGS TO KNOW
Remember that the house you are financing cannot be put up for sale once the loan is paid off if you are thinking about getting a home equity loan, home equity line of credit, or cash-out refinance to raise additional cash.
80-10-10 piggyback loan. This option allows you to take out two loans on the new home, one for the remaining 80% of your home’s value (E2%80%99s), and the other for the 2010%%20%E2%80%94%20 and a 2010%%20down payment, instead of taking out a home equity loan or HELOC on your current dwelling. When your current home sells, you can pay off the 2010 percent second loan and only have to make one mortgage payment (assuming you make a sufficient profit from the sale of your current home).
Particularly in a competitive market, knowing how long it takes to close on a house could mean the difference between an accepted and rejected offer.
As long as you have the money to maintain them, you are free to own an infinite number of residences.
Real estate markets are still extremely competitive. You may decide to buy a new house and sell your old one at the same time in order to move quickly. But how?.
FAQ
How does a bridging loan cost?
Bridging loan interest rates usually range between 0. 45% to 2% per month, contingent upon the circumstances and market rate Bridging loan interest is computed monthly rather than annually, in contrast to mortgage interest rates. This is due to the short terms of bridging loans, which are typically returned within a year.
What is the minimum deposit for a bridging loan?
Yes, a deposit of between 40% and 60% is usually required for a bridging loan. It is possible to obtain a bridging loan without a deposit (a %20100% bridging loan); however, additional assets must be in place to secure the loan against default, and stricter requirements and higher repayment amounts may be required.
How do you calculate bridging loan amount?
The amount required for a bridging loan is computed by deducting the deposit from the purchase price and any outstanding mortgage on the property you are selling. To determine the amount of a bridging loan, just add the current mortgage amount to the sale price of the property.
What is the bridging fee?
This is the fee that the majority of lenders will charge to arrange your bridging loan; it is also occasionally referred to as a facility or product fee. It is usually fixed at around 2% of the total amount you need to borrow. It will usually be a certain percentage of that amount.
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