Bridge Loans: An Interim Solution

Let's say you have decided to move to a new neighborhood. You have placed your current home in the market and presently in the final stages of closing the sale with a buyer. You intend to use the proceeds of this sale to purchase your new home.

Then, an irresistible offer presents itself. You've found your dream home in the new location. Unfortunately, the property is hot in the market and if you do not settle down payments now, you run the big risk of losing the bid. Your income from your home sale is still due to close by the end of the month. What do you do?

Apply for a Bridge Loan.

A bridge loan is a short-term financing option while waiting for the realization of a more permanent or next stage financing can be achieved. Bridge loans are usually repaid through conventional financing once the latter is approved and released. Meaning, the amount borrowed conventionally covers both the bridge loan amount and the originally required capital.

Just like in the above example, individuals or businesses turn to bridge loans in situations such as saving a property from foreclosure, taking advantage of a special limited-time offer or closing a property deal in the shortest possible time.

Because of its convenient nature, bridge loans are naturally more expensive than traditional financing. Not only does it require higher interest rates (about 12-15%), points (2-4 points) and other miscellaneous costs (administration fees, appraisal fees, escrow, title policy, notary fee, recording fee, wire / courier / drawing fee, loan origination fee, to name a few), it may also require cross-collateralization and a decreased loan-to-value.

Based on appraised value, LTV ratios generally do not go beyond 65% for commercial properties and not more than 80% for residential properties. On the upside, however, there is the undeniable factor of speedy processing and lowered documentation requirements.

Where can you avail of bridge loans? Unfortunately, not from a bank. From the point of view of a banking institution, risks are too great for this type of loan and may encounter complication in dealing with their investors and legal advisers as well. Investment pools, individuals and companies who specialize in high-interest loans are source options for bridge loans.

Let's go back to our example above. When buying a home through the benefits of bridge loans, there are some pros and cons that need to be considered. Through bridge loans, the home-buyer can place a home in the market right away without limitations.

Since bridge loans may not necessitate monthly payments during the initial months within the term, the home-buyer's cash requirement is eased to focus on the real estate transaction at hand.

On the negative, however, is the element of higher cost, plus the standard requirement of the bridge loan lender that the buyer must possess two homes to qualify. Assuming this requirement is met, it is needless to say that mortgage payments for two homes, coupled with the accrued interest on bridge loans will be highly stressful. So, think before you leap.