- What is really a bridge loan?
- How do you need a bridge loan?
- How do you repay a bridge loan?
- Pros and cons of bridge loans
What is a bridge loan?
A bridge loan is a kind of short-term loan which may be utilized in real estate transactions when the buyer lacks the funds to invest in purchasing the new property without the prior sale from the first property.
\”A bridge loan is temporary financing to provide a way – figuratively, a 'bridge' – to buy an additional home without first selling a house,\” says Michael Hausam, a genuine estate and mortgage broker using the Hausam Group at Vista Pacific Realty in Irvine, California.
The maximum amount you can borrow with a bridge loan is generally 80% of the combined worth of your present home and the home you want to buy, though each lender could have a different standard. For example, in case your current home is worth $250,000 and the home you want to buy may be worth $330,000, your maximum bridge loan amount would be calculated by doing this: ($250,000 + $330,000) x .80 = $464,000.
As you read, you might ask, “What’s equity in the home?”. Equity is the distinction between the current market value of your home and just what your debt.
How can you use a bridge loan?
A bridge loan in real estate can be used to buy another home before you sell your current one. A bridge loan essentially helps fund your new home purchase. For instance, you may utilize it to cover closing costs for a new mortgage.
You may also make use of a bridge loan to provide a deal without a financing contingency whenever you make an offer to buy a home. A financing contingency is really a contract clause that enables a purchaser to get back money put down without penalty in the case the customer cannot secure financing. Sellers tend to prefer offers with fewer contingencies, but it is vital that you have protections in position in the event you can't secure funding.
A bridge loan will also help you receive a advantage over other buyers in a hot housing industry. For example, if your seller has an interest inside a quick sale (and many are), the vendor may be more willing to make a good deal for a buyer who has the money to shut quickly.
How do you repay a bridge loan?
Bridge loans typically must be repaid within 12 months or less. Many people repay their bridge loan with money from the sale of their current home, but there are other repayment options. Bridge loans may be structured in a number of different ways but commonly possess a balloon payment at the conclusion where the full amount arrives by a certain date.
You might be able to wait a few months after the close of the bridge loan before you have to start making payments, though it all depends on the particular loan you've been approved for.
Pros and cons of bridge loans
As with any lending product, bridge loans have potential advantages and potential disadvantages for borrowers. Before you apply for any kind of loan, you need to understand and weigh the pros and cons.
Pros of bridge loans
- Faster financing: The application process and closing on a bridge loan typically takes less time than other types of loans.
- Purchasing flexibility: Getting approved for any bridge loan can give you the funds you need to close on a new home prior to selling your current one. That means if you find a house you like, you may be able to purchase it without waiting for your old the place to find sell.
- Remove contingencies out of your offer: Sellers may look more favorably on purchase offers that aren't contingent upon the sale of another home.
- Less housing hassle: You can use a bridge loan to help purchase a home before selling an existing home.
Cons of bridge loans
\”Compared with conventional loans, bridge loans cost more with greater upfront fees and better rates,\” Hausam says.
- High interest rates: Since lenders tight on time to make money on the bridge loan because of their shorter terms, they tend to charge higher rates of interest with this kind of short-term financing than for conventional loans.
- Origination fees: Lenders typically charge fees to \”originate\” financing. Origination fees for bridge loans could be high – as much as 3% from the loan value.
- Equity required: Just because a bridge loan uses your present home as collateral for a loan on a new house, lenders often require a certain amount of equity inside your existing home to qualify, for instance 20%.
- Sound finances: To become approved for a bridge loan typically requires strong credit and stable finances. Lenders may set minimum credit scores and debt-to-income ratios. In most cases, if your finances are shaky, it may be nearly impossible to find a bridge loan.
Perhaps the biggest chance of a bridge loan is when your house doesn't sell by the time you need to begin repaying your bridge loan, you're still accountable for the debt. Until your old home sells, you'll essentially pay three loans: the 2 mortgages around the houses and then also the bridge loan.
And since the bridge loan is secured from your first home as collateral, should you default in your bridge loan, the lender may even be able to confiscate the home that you are trying to sell.
Bottom line
A bridge loan may appear attractive, but you should weigh the expense and risks carefully. Before you apply, you might like to consider other options, such as a home equity credit line, personal loan, 401(k) loan or home equity conversion mortgage. These types of loans may also help you move out of your present home and into your brand new one, and potentially without the degree of risk interest and fees associated with bridge loans.
