Tim Leonard
Brean Horne
A bridging loan, or bridge loan, could offer a solution if you’re finding it difficult to align funding when buying and selling property.
Read on to find out more about what a bridging loan is, how bridging loans work and whether bridging finance might be right for you.
What is a bridging loan?
Bridging loans are a type of short-term finance that can help bridge funding gaps, which might occur when buying and selling property. How long a bridging loan can be taken out for depends on the type of bridging finance you need.
Residential bridging loans, which are taken out against a borrower’s main residence and regulated by the Financial Conduct Authority (FCA), tend to be restricted to a maximum term of one year. However, commercial bridging loans or bridging finance secured against a buy-to-let or investment property you won’t live in are unregulated loans that you might find available for as long as two years.
What are bridge loans used for?
Bridging loans tend to be popular with landlords, property developers and sometimes individuals who are moving houses. Businesses also use bridging finance to purchase property, or to help improve cash flow or fund expansion in their operations.
As the name suggests, the loan is there to act as a bridge before you move on to a more long-term solution. It might be that you want to buy an investment property at auction, make some renovations, and then sell it for a profit.
Or it might be that you have found your dream home and agreed on a completion date, but haven’t yet completed the sale of your current property. A bridging loan can help you bridge that gap.
You might also find getting a bridging loan with bad credit easier than getting a mortgage or credit card if your credit is poor.
How does a bridging loan work?
A bridging loan is a type of secured loan. That means you’ll need to use a physical asset, such as a house, as collateral to borrow money in case you can’t repay your loan.
If you are unable to pay off your bridging loan, the lender keeps the asset to recover any money you owe.
Bridging loans are also interest-only loans, meaning the loan amount borrowed – or the capital – doesn’t need to be repaid until the end of the agreed loan term. You might want to pay the interest you accrue on the loan each month, or alternatively you may be able to either ‘roll up’ or retain the interest to pay off as a lump sum when your loan ends.
Types of bridging loan
Bridging loans work differently depending on whether the loan is open or closed.
Closed bridging loan
A closed bridging loan has an actual date set in stone for when it needs to be paid off. Although it’s also possible to pay off this type of bridging loan early, fees may apply if you do.
Closed bridging loans are often used by those who have a clear plan – or exit strategy – of how and when they will be able to repay the loan as they have more certainty over when funds will become available. For this reason, interest rates are often lower compared to other types of bridging loans, as there is deemed to be a lower risk.
So if you are just looking to bridge between buying a new property and the sale of your current one – and have completion dates already set for both – then a closed bridging loan may be worth considering.
Open bridging loan
An open bridging loan will still have a maximum term of, say, six to 12 months, but you can pay the loan back at any point, or even piecemeal, during that period. An open bridging loan is often used by people who don’t have a clear exit strategy with a concrete timeline of how they will repay the loan, hence it is more flexible and ‘open’, usually with higher interest rates as well.
If you’re buying an investment property and plan to remortgage after carrying out some refurbishments, then you might prefer the flexibility that comes with an open bridging loan since you don’t know exactly when that work will be finished.
What are first and second charge bridging loans?
Since bridging loans are secured loans, a ‘charge’ is placed against your property when taking bridging finance out. The charge is a legal agreement that sets out the order different lenders must be repaid if you don’t pay back your loans.
If you own the property outright with no mortgage, you’ll take out a first charge bridging loan because the bridging lender is first in line to receive repayments. But if you have an existing mortgage on the property and then take out a bridging loan against it, this will be a second charge bridging loan because the mortgage lender would need to be repaid first and the bridging lender second.
Are bridging loans regulated?
A bridging loan can be either regulated or unregulated, depending on what it is being used for.
Any bridging loan taken out on a residential property should be regulated by the FCA. This means the borrower enjoys some protection under the FCA, including if it’s established you’ve received bad advice or been sold an unsuitable product. Lenders must also abide by certain rules, including in relation to how they explain the costs and risks of a bridging loan, and loans are usually limited to a maximum term of 12 months.
A bridging loan can be unregulated if it’s taken out in relation to buy-to-let, commercial property or an investment property you intend to refurbish and sell. Unregulated bridging loans aren’t overseen by the FCA and don’t come with as many formal protections as regulated loans. At the same time, an unregulated loan might involve fewer checks and restrictions, including coming with terms of up to two years.
» MORE: How are bridging loans regulated?
How much can you borrow with a bridging loan?
The amount available to borrow through a bridging loan might start from as low as £10,000, but for larger infrastructure developments, can potentially go up to hundreds of millions of pounds.
In terms of how much you might be able to borrow, regulated bridging loans tend to have a maximum loan-to-value (LTV) of 75%. This means if the property the loan is secured against is worth £100,000, the most you could borrow is 75% of that value, so £75,000.
With an unregulated bridging loan, higher loan-to-values can often be available, including up to 100% LTV in certain circumstances.
How do you repay a bridging loan?
How you intend to repay a bridging loan is known as your exit strategy. The strength of your exit strategy can also be important in deciding whether you’ll be offered a bridging loan and on what terms.
There are various exit strategies you might consider, including:
- selling the property and using the funds to pay back what you owe
- refinancing to a mortgage or another property loan
- flipping a property, where you buy and sell for a profit
- cash redemption, such as using the sale of an investment or an inheritance to pay off the loan
- property development, including buying a large development and renting or selling out units
What do bridging loans cost?
Bridging loans often come with relatively high interest rates compared to other forms of borrowing, which means that they can be an expensive way to finance a property purchase. On top of interest, lenders also charge a range of fees, such as arrangement fees, valuation fees and even exit fees if you pay the loan off early.
However, as bridging loans are a type of interest-only loan, you only repay the interest on the loan each month. This means you don’t have to pay back the amount you borrowed until the end of the loan term, although lenders will want to know you have an exit strategy in place when taking out the loan to make sure this happens.
Interest rates on bridging loans
There are three different ways you can be charged interest on your bridging loan which will impact how much it costs overall. These include:
- Monthly interest: Where you make monthly payments towards the interest charged on your loan. It’s quite similar to an interest-only mortgage.
- Deferred or ‘rolled up’ interest: This is where payments are deferred ‒ or put off ‒ until the end of the loan. This means that you won’t have to pay monthly interest payments. Instead, the interest is ‘rolled up’ or compounded and paid as a lump sum at the end of the loan term.
- Retained interest: Here, the lender works out what the interest charges will be for the whole life of the loan from the very beginning, and then adds that to what you actually need to borrow. For example, you might need £100,000 and the lender calculates that over a six-month term you’ll build up interest charges of £10,000 so you’ll have to borrow £110,000 in order to get the £100,000 you need, and pay the lot off in full at the end of the loan.
» MORE: How much do bridging loans cost?
What are the pros and cons of bridging loans?
As with any form of lending, there are benefits to bridging finance but some important drawbacks to consider too.
Advantages
There are several advantages to using a bridging loan including:
- Flexibility: Typically, lenders have more flexible lending criteria for bridging loans compared to traditional loans, which could improve your chances of being approved for one.
- Quick to arrange: How long it takes to get a bridging loan is usually faster than for other forms of secured borrowing, with a typical turnaround time of between 72 hours and two weeks.
- Borrow large sums: You can often borrow a large amount of money using a bridging loan.
- Non-standard properties: Some lenders offer bridging loans for non-standard properties, such as thatched properties or homes with flat roofs, which aren’t always accepted by high street lenders.
Disadvantages
Some of the disadvantages of using bridging loans include:
- Fees: Lenders often charge a range of administrative fees, which can make borrowing money through a bridging loan more expensive.
- Secured loan: You may lose an asset if you’re not able to repay your bridging loan.
- High interest: Bridging loans are designed for short-term borrowing, which means that the interest rates tend to be more expensive.
Am I eligible for a bridging loan?
Different lenders usually have different criteria for how they assess the applications they receive for bridging finance.
Broadly, however, most will look at similar overarching criteria, including:
- the level of security you’re putting down for the loan
- the type and location of the property
- your exit strategy for paying back the loan
- the size of the loan
- the loan term
- the deposit you can provide
- your credit history
- the reason you want the bridging loan
» MORE: What bridging loan criteria do you need to meet?
Who offers bridging loans?
Bridging loans tend to be available through alternative lenders rather than the more familiar high street banking names. That said, there are still plenty of lender options available if you want a bridging loan.
How do I get a bridging loan?
You might be able to apply to a bridging lender directly or you may need to approach them through a specialised broker.
The potential advantages of applying through a broker include the support they can provide in helping you work out the product best suited to your needs, and during the application process. Through their experience, they might also know which lenders are most likely to approve your application.
What are the alternatives to a bridging loan?
Before committing to a bridging loan, it’s sensible to explore the other options that might be available as well.
Typically, these might include an unsecured loan or a different type of secured loan, such as a second charge mortgage. Other alternatives might include remortgaging, or a commercial mortgage or more specific business funding options, depending on whether your need for a loan is for residential or commercial reasons.
» MORE: Alternatives to bridging loans
Image source: Getty Images
WARNING: Think carefully before securing other debts against your home. Your home may be repossessed if you do not keep up repayments on a loan or any other debt secured on it.Always check whether a bridging loan is regulated or not. To protect consumers, bridging loans on residential properties must be regulated by the Financial Conduct Authority. Bridging loans on buy-to-let, commercial and investment properties can be unregulated.
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