Bridging loans pros and cons
If you’re planning on buying property, what exactly are the bridging loans pros and cons? Let me guess. You want to buy property but don’t have the funds for it just yet?
Are you waiting on the sale of the existing property but are antsy that someone may just beat you to it? In the case of property developers attending an auction, you may need a ready amount of cash on hand. If you do, you can secure a piece of land or an industrial estate you may have your eye on before someone else snaps it up.
In all these cases, bridging loans – also known as bridging finance – are your best bet for raising funds fast.
These short term loans help you buy the property or home you want even while waiting for the sale of an existing property or the infusion of money from other viable sources.
In review: what are bridging loans?
In essence, a bridging loan is a short-term interest-only loan used to finance an immediate property purchase or to fund pending property investments.
While these loans can be used for a variety of purposes, we have stated previously that these are used to temporarily bridge a financial gap when one buys either a home or a commercial property whilst awaiting the sale or rental of an existing property.
What are bridging loans commonly used for?
While bridging loans cover numerous uses, most people who take such finance out normally use them to:
- Finance large-scale property refurbishments;
- Pay for structural upgrades or extensions prior to the eventual sale or leasing of the aforementioned property;
- Purchase overseas property; and
- Purchase residential property whilst awaiting the sale of one’s previous home.
What types of bridging finance are available?
There are two types of bridging loan that potential borrowers may consider:
Open Bridging Loans
Also known as open bridging loans. These are short term financial instruments that do not depend on a final exit strategy. Also, there is no fixed termination date for the said strategy.
Open bridging is normally considered when the borrower intends to use the proceeds from the sale of one’s property to pay for the loan, but the aforementioned property is not yet on the market.
This type of bridging loan tends to be risky. An open bridging loan offers no guarantee of receiving an offer, let alone a specific date when an offer is expected to be made or even how much such an offer would be valued.
For this reason, most lenders balk at loaning out open-ended bridge finance as they need to know exactly when they will receive repayment fees for the loan. In which case, they may opt to charge considerably high interest rates to those availing of such loans.
Closed Bridging Loans
Closed bridging finance differs from the open-ended type since the former requires a clear-cut exit strategy prior to applying for the loan. Indeed, the lender knows right at the onset that the borrower will be able to repay the loan within the stipulated period of time.
This type of finance poses less risk than its open-ended counterpart. This is because both borrower and lender are assured of the loan’s repayment through a property sale, and investment coming into maturity or even funds from an inheritance or a similar windfall.
For this reason, lenders tend to be quite at ease when it comes to releasing money for a closed bridging loan. They are also more likely to charge lower interest rates to borrowers and the lending process is certainly more straightforward with less questions asked.
What are the pros of bridging loans?
Getting a bridging loan is easy enough – particularly for those in business
Arranging for a bridging loan, particularly in a commercial bridging loan, can usually be arranged faster than other forms of loan finance. Given the unregulated nature of such loans, lenders are unfettered by any rules or regulations governing such instruments.
As a result, they tend to move faster and more competitively when it comes to releasing funds to potential borrowers – this is particularly appealing to property developers who tend to work on deals that hinge upon acting within a certain amount of time due to a number of variable factors.
Repayment can be done monthly
This type of loan can be paid back on a retained interest where the cost is usually added to the total loan amount. This is seen as a simpler, more reasonably priced solution for a business with a wary eye on the current state of its finances.
They can be used for a variety of purposes
This is where the difference between a mortgage and a bridging loan can best be seen. Mortgages normally apply to habitable property – homes, residential developments, timeshares, or even holiday homes.
Bridging finance, on the other hand, can be used for a more diverse range of property investments ranging from residential sites, land deals, refurbishment, upgrading, or even construction from the ground up on raw land.
Can be arranged as a second or third charge
Unlike conventional mortgages, bridging loans can be arranged as either a second or third charge Again, this illustrates the difference between bridging loans and mortgages: the latter are only available as a first charge where the lender gets first call on any proceeds from the sale of property.
Bridging finance, on the other hand, is usually available as a second or third charge that sits comfortably behind finance currently in place.
You don’t need solid security or even a good credit rating
Applying for a mortgage usually demands that you have concrete security to back your loan as well as an excellent credit rating. Bridging loans, however, are non-status loans, meaning that the focus is placed on the potential or future profitability of a development loan.
As such, these are available even to those who would not normally qualify for other kinds of finance.
May not need to pay an exit fee
Keep this in mind: many bridging lenders earn their keep through interest rates and arrangement fees, so an exit fee isn’t usually required. This is seen as advantageous in the case of early repayment of one’s loan.
You can actually get 100%
As long as sufficient security is available, you can actually get 100% bridging loans. Note, however, that you will need to check with your lender if this is possible with their firm.
What are the cons of bridging loans?
As with anything, bridging loans aren’t all pros and advantages to borrowers. In which case, one would do well to look at the cons of availing of such finance:
Interest rates tend to be high
Unlike mortgages which only charge a 5 per cent interest annually (also known as your APR), most bridging loan lenders tend to charge between 1 and 1.5 per cent monthly, making your annual rate of interest as high as 13 to 19 per cent.
Lenders can charge several fees on top of monthly interest
Depending on your lender, you may be looking at a greater amount than just the interest on your bridging loan, as they may charge a broker’s fee, valuation fees, arrangement fees, and – in some cases – even legal fees.
Bridging loans are unregulated
At present, commercial bridging finance remains unregulated in the UK, thus borrowers cannot take advantage of any protection the Financial Conduct Authority (FCA) offers for other forms of finance.
To be fair, however, the pros of bridging finance tend to outweigh the cons. Nevertheless, it helps if you were to ask your potential lenders about the fine print of your loan before signing off on anything.
What lending criteria are considered by lenders prior to the approval of any type of bridging loan?
Lending criteria may differ among lenders, and it is important to note that there are now nearly 200 lenders who offer bridging loans within the UK. For the most part, however, lenders will take the following lending criteria into consideration:
How big a loan do you need?
Technically, there is no limit when it comes to the size of most bridging loans. Many lenders, both large financial institutions and smaller private facilities offer loans ranging between £100,000 to £1 billion.
How long a term are you looking at?
As a short term financial instrument, the ideal term for a bridging loan can run between one day and twelve months. Note that some lending agencies offer terms up to 18 months, but only a maximum of twelve months in the case of loans regulated under the FCA.
Do you have any security to back your loan?
A security, usually in the form of another property, is usually required by many bridging loan providers. Depending on the value, a loan security can be just a single piece of property or several developments or land tracts.
The loan is usually secured by taking a charge over the property (or properties) in question. This may be filed at one’s local land registry as a first charge or even a second or third. First charges are used for unencumbered property without any existing loans or mortgages secured upon it; second and third charges apply when the property is under an existing charge but it is not being cleared.
Note that residential property is considered the most desirable type of security and can actually lead to an offer of more favourable rates for a borrower. But do check with your lending agency if they accept other forms of security such as jewellery, vehicles, watches, unset gemstones, or even pieces of art and antiques.
What sort of property are you looking at?
Bridging loans can be used for a broad spectrum of purposes, but they are primarily taken for the purchase or refurbishment of property. In which case, one has to declare the property under the following categories:
- Residential property (Bungalows, flats, duplexes, care homes, etc)
- Commercial property (shops, gymnasiums, pubs, restaurants, cafes, offices, parking spaces)
- Hospitality venues (hotels, hostels, inns, B&Bs, holiday homes)
- Agricultural land
- Industrial estates or units;
- Land for development with or without planning permits.
What’s the current state of the property?
It should be noted at this point that bridging finance is something to consider when purchasing a property that does not meet the criteria for more conventional mortgages. Lending agencies that specialise in bridging finance can lend on properties that require ample refurbishment, are in a bad state physically, or need to be demolished completely.
Where is the property located?
Ideally, you ought to consider a lending agency whose loan facilities are available nationwide and not just in key cities like London, Manchester, Edinburgh, or Glasgow. Many accredited lending companies offer loans throughout England, Scotland, Wales, and Northern Ireland.
Additionally, some go so far as to offer overseas bridging loans should you need financing for a development deal within the EU or the US or for a construction project anywhere else in the world.
Who’s applying for the loan?
Bridging loans can be availed of by private individuals, limited companies, business partnerships, and even offshore companies. Note that, for individuals, they need to be at least 18 years old to apply for the loan. There are usually no upper limits in terms of age, but again, it’s best to check with your lender first.
Also, note that your credit score may not have that much of a bearing when it comes to applying for bridging finance; indeed, this is one key selling point for most people whose credit scores may disqualify them for mortgages.
What will you use the loan for?
As previously stated, bridging finance can be used for any number of legal purposes. These may include any of the following:
- Purchasing new property while waiting for an existing property to be sold so as to keep one’s place for a sale;
- Purchase of property at an auction;
- Purchase of a property in a less than desirable physical state;
- Immediate payment of debts;
- Clearance of bankruptcy;
- Funding for large-scale refurbishments or any other form of property renovation;
- Infusion of funds into a business; and
- Gap-bridging whilst awaiting other funds.
How do you intend to pay the interest?
Depending on the lender or the type of loan availed, some facilities offer roll-up, deferred, or retained interest. In which case, the interest is repaid once the loan is redeemed. You could pay the required interest monthly. However, the lender will require confirmation of income and proof of one’s capability to pay.
What’s your exit strategy?
Lenders will ask for a clear-cut exit plan which shows how and when you intend to repay the loan. This may be in the form of the sale of another property, refinancing, funds to be received from a different source, a policy that reaches maturity, or even an inheritance. For commercial bridge loans, a company can back the asset.
How do you choose a lender for your bridging finance needs?
With hundreds of possible lending agencies to choose from, potential borrowers can get bewildered. The sheer number of lenders alone can make decision-making tough.
Consult the Experts
At The Bridging Loan Company, we take the guesswork from you by offering the carefully considered services of some of the most popular and trustworthy lending companies in the UK.
Whether you’re an individual or a property developer, our bridging finance company has partner lenders to suit your specific requirements.
Our lending partners are all accredited under the FCA and the Council of Mortgage Lenders of UK and offer reasonable packages for both residential and commercial borrowers. Use our bridging loan calculator to get rates before proceeding to ask us for indicative terms.