What You Need to Know About a Bridge Loan
Even with today’s competitive real estate market, you will get a rare loan product solely available for people acquiring new property. This loan product offers a viable solution for buyers wanting to purchase a new property before selling the old property. The loan is called a bridge loan. A bridge loan is a short-term loan taken for temporally financing the purchase of a new property. Normally, the loan security for the loan is the property being sold or the property being financed by the loan.
How do Bridge Loans Work?
It is imperative t note that only a select few banks and lenders offer a bridge loan. Nonetheless, lenders give the bridge loan with repayment of at least six months. Some may extend the repayment period up to a full year. Notably, the lender may structure bridge loans in different ways depending on the borrower’s need. For instance, the usual interest rate of 2% or more may vary widely along with terms and fees. By getting a bridge loan and long-term mortgage from the same lender, a borrower secures better rates and terms.
According to findings by our experts, one may repay the loan in a number of ways. First, the repayment may be in form of fixed monthly payments. The other option is a one-time repayment of the loan at the end of the loan term. This is usually after the property sells and should include interest accruing during this time. Alternatively, the repayment may include interest-only payments each month and a balloon payment at the end of the term.
Fortunately, repayments of bridge loans are not due until a few months after the close of the loan. It is remarkable that the underwriting guidelines for bridge loans frequently offer more flexibility than traditional financing options. When acquiring a bridge loan, minimum credit scores and debt-to-income ratios may not be required. Often, the lender focuses on whether the loan makes sense and the borrower’s ability to repay it.
In most cases, a bridge loan is used in both residential and commercial real estate purchases.
Residential Bridge Loans
Without large financial support, a borrower will have insufficient enough money for down payment on a new home before selling their old home. This is where a bridge loan comes in to play. It can be exploited to span the time between the purchase of the new property and the sale of the old property.
Generally, there are two common ways of setting up the residential bridge loan. One option is having a loan sufficient to pay off the mortgage on the old home and make a down payment on the new home. The other option is using the loan only for a down payment on the new home. Despite the option chosen, most borrowers use the proceeds to clear the bridge loan.
Commercial Bridge Loans
In most cases, a commercial bridge loan may be used in a similar way as a residential one. After obtaining a commercial bridge loan, a business owner uses the loan to purchase a new property before selling another. However, one may use commercial bridge loans in other ways. For instance, it may be an excellent option when purchasing property that could be lost securing long-term financing.
On the other hand, a company may utilize a bridge loan until they can qualify for a traditional commercial mortgage. Additionally, a bridge loan can be a short-term financial solution to cash flow issues. This may come in handy when a business is waiting for long-term financing to come through.
Alternatives to Bridge Loans
Even though a bridge loan seems the best financial option to borrowers, there are a few alternatives. These are Home Equity Lines of Credit and Pledged Asset Mortgages. These two do not require the sale of investments for a down payment.
Home Equity Line of Credit (HELOC)
A HELOC could be a great option when a borrower has significant equity in the old property. A borrower may use the available money from their HELOC for a down payment, based on the borrower’s maximum draw amount. Under the Tax Cuts and Jobs Act of 2017, the interest paid on HELOCs is deductible when filing tax returns.
Pledged Asset Mortgages
A pledged asset mortgage is a less common down payment option. It is the best option when a borrower wants to purchase a property but does not want to make any down payment. In place of a down payment, a borrower pledges assets like stocks, bonds, CD’s, savings, or mutual funds as collateral. Since no down payment is paid, borrowers will have to pay interest on the full price of the property.
Before making their decision to select a bridge loan, borrowers should compare a number of loan products and scenarios. For more information and guidance about bridge loans, get in touch with us.
