What Is a Bridging Loan?

When you’re in the process of buying and selling property, it can be tricky to set transaction dates on the same day. 

If you need a quick fix, you might want to consider getting a bridging loan.

But, what is a bridging loan, how does it work, and is it a good idea?

Let’s find out.

Pros and Cons of Bridging Loans in the UK

Bridging Loans Explained: What Is a Bridging Loan in the UK and How Does It Work?

A bridging loan is a short-term business loan that helps borrowers “bridge the gap” in situations where they need to buy a property before selling one. It’s popular among house buyers and investors, but it’s not limited to habitable property.

These loans are designed to give borrowers access to funding over a short period, and unlike mortgages, can be arranged faster and the borrower can get paid out in a matter of days.

They also have high-interest rates and are typically secured by some sort of collateral like real estate or inventories. 

Still, bridge loans are flexible and you can arrange a payment method and frequency that best suits your current financial situation. Borrowers can pay monthly or push the payment until the end date.

Types of Bridging Loans

Lenders usually offer two main types of bridging loans.

Open bridge loan

Open bridge loans don’t have a fixed payoff date or a predetermined repayment method. In most cases, bridging companies ask borrowers to pay the loan interest as part of the loan advance to ensure fund security. Open bridge loans are a good option for borrowers that don’t know when they might get paid to pay the loan. The biggest downside is they have high-interest rates. 

Closed bridge loan

Closed loans have a predetermined payoff date, which is usually agreed upon by both parties before any transactions take place. Lenders are more likely to agree to this type of loan since there is a degree of certainty. 

Closed bridge loans are common with people who need to borrow money and know when they’ll get ahold of the funds they need to pay it back. 

Most lenders require proof of a clear repayment plan (like utilising cash from a home sale or getting a mortgage). They’ll also ask for proof of the property purchase or the amount you intend to pay for it, as well as evidence of what you are doing to sell the property that you plan to tie to the loan.

How Much Do Bridging Loans Cost?

In the majority of cases, bridging loans are paid monthly because they are short-term loans that rarely take over a year to pay off. As such, they are fairly pricey.  Depending on the lender and the situation, you may end up paying a monthly interest rate of 1-1.5%.

That works out to around 13-19% APR (annual payment), which is significantly higher than the average 5% APR for a mortgage or the 3.62% average standard variable rate as of 2020.

Bridge loan fees

Bridge loans also come with fixed costs, some of which might be optional in certain cases.

• Arrangement/Facility fee – The amount you pay to set up the bridge loan. It’s normally 1%- 2% of the overall loan amount.
• Exit fees – If you pay off your bridge loan earlier than the end date, you may be charged about 1% of the total amount borrowed.
• Legal fees – This covers the legal expenses of the loan and is usually billed at a predetermined rate.
• Valuation fees – A valuation fee is usually paid to the surveyor or the lender to carry out a valuation of the property.
• Broker fees – Brokers often charge if they secure a deal.
• Admin fees– Some lenders may charge admin fees for the paperwork that comes with bridging loans.

How to Apply for a Bridge Loan

If you’re considering applying for a bridge loan but aren’t sure where to start, here’s a step-by-step guide on how to do it. 

• Figure out the details: Make sure you know exactly how much money you need, whether you want an open or close bridge loan, and how long it will take you to repay it. 
• Prepare necessary documentation: To get a bridge loan with good rates, you need to have documentation about the value of the home, proof that you don’t have an existing home loan, as well as your mortgage payments (if you have any). 
• Talk to a broker or submit an application online: Brokers and advisors search the market, which may come with some extra fees. 
• Wait for the lender’s response: Most lenders usually take 24 hours to process an application. You’ll likely be informed via email or phone, depending on the contact information you provided on your application. 
• The money transfer: If the lender accepts your offer and you confirm the details of the deal, the funds will be deposited into your bank account. This may take anywhere from 2-3 days to 2 weeks.

Some lenders offer borrowers to pay an extra fee if they want to get the loan faster.

Alternatives to a Bridging Loan

If a bridge loan seems too risky for your situation, you might want to consider some mortgage options.

One alternative is remortgaging your existing home to obtain more funds without paying hefty interest rates. If you want to rent out the property, you may want to look into a buy-to-let mortgage. 

If the financing world is not that familiar to you, it’s always a good idea to get a broker to take care of the details.

Alternatively, you may try asset refinancing, which includes releasing funds held in valued assets or invoice financing, where you sell off outstanding bills to get rapid access to their value.

Bottom Line

If you’re wondering “what is a bridging loan?” the answer is simple: it’s a quick loan that allows borrowers to obtain a large sum of money in a short period, usually to buy a property before selling one.

It’s a good option for people who are certain that they can pay back the money.