Bridging loans can be a lifeline for homeowners and property investors, providing short-term finance to seize opportunities quickly.
It’s an extremely flexible type of secured loan that can be used for various purposes, but it’s important to understand how it works and what the lender expects before taking one out.
But how exactly do you pay back a bridging loan?
What is a bridging loan?
Think of a bridging loan as a financial bridge that helps you cross from one situation to another.
It’s a short-term loan designed to “bridge the gap” when you need to buy a property before selling your existing one, complete renovations, or cover other property-related expenses.
Unlike traditional mortgages, bridging loans are faster to arrange and offer more flexibility, making them ideal for time-sensitive situations. The loans are only granted for short periods, so you can be in and out in a jiffy.
Why use a bridging loan?
Bridging loans are becoming more popular and offer several key advantages:
- Speed: Secure your dream property before it’s snapped up, even if you haven’t sold your existing home yet.
- Chain-free buying: Avoid the delays and frustrations of property chains, giving you a competitive edge.
- Flexibility: Ideal for auction purchases, property renovations, or unexpected financial gaps.
- No fuss borrowing: If the property value stacks up then you’re off to the races.
Who Uses Bridging Loans and Why?
Bridging loans cater to a diverse range of borrowers, each with unique needs and goals.
Here’s a look at some common scenarios:
Homeowners with a Purchase Before Sale
These individuals have found their dream home but haven’t sold their existing property yet. A bridging loan allows them to buy the new property without missing out, bridging the gap until their current home sells.
Property Developers and Renovators
Bridging loans are a popular choice for property developers and renovators who need quick access to funds to purchase and renovate properties before selling or refinancing them.
Auction Buyers
Auction purchases require a fast turnaround for payment, and bridging loans provide the necessary funds to secure the property quickly.
Chain Breakers
When a property chain collapses, a bridging loan can help buyers secure their purchase and avoid losing out on their dream home.
Business Owners
Bridging loans can provide short-term working capital for businesses facing temporary cash flow issues or needing to finance specific projects.
These are just a few examples of how bridging loans can be a valuable tool for various individuals and businesses in the UK property market. The flexibility and speed of bridging finance make it an attractive option for those who need to act quickly and decisively in a competitive market.
How do bridging loans work?
Bridging loans are always secured against a property or asset, and the loan amount is based on its value. This tends to be capped at 75% loan to value.
The property could be a residential house, investment property, semi-commercial or commercial and even just land. The finance can be used to buy a house or to raise money against a property already owned.
Interest rates are higher than standard mortgages, but this is offset by the shorter loan term, usually ranging from a few weeks to 12 months, and flexibility.
You borrow the money for just a short period, and for any purpose. Most lenders won’t require any monthly payments, preferring to receive full settlement when the term ends.
Because of this, your financial status is less important than if you were taking out a standard mortgage.
Paying Back a Bridging Loan: The Exit Strategy
Even before you apply for bridging finance you need to know your exit strategy.
Bridging lenders only want you to have their money for a short period, this varies between 3 months and 24 months. They have no intention of keeping you on the books for years and years, they lend the money quickly and they expect to be paid back quickly.
Your ‘exit strategy’ forms part of the loan application and it is ‘how’ you will repay the lender when the term ends.
For the lender, it is one of the most important aspects, and they will decline an application if the exit plan is not robust or sufficiently planned out.
The Repayment Options
When it comes to repaying your bridging loan, there’s no one-size-fits-all approach. The right method for you will depend on your financial circumstances, the loan terms, and your exit strategy.
Let’s explore the different repayment methods and exit strategies available.
Repayment Methods
Lump sum payment at the end of the term
The entire loan amount, including interest, is paid back in one go when the loan term ends. This is a good option if you have a clear source of funds available, such as the sale of a property.
Monthly interest payments with a final lump sum
You make regular interest payments during the loan term, and the remaining balance is repaid at the end. This can be helpful for managing your cash flow.
Rolled-up interest
Interest is added to the loan balance rather than being paid monthly. This can improve cash flow during the loan term but increases the total amount repayable at the end.
Retained interest
You borrow a larger amount initially to cover the interest payments. Interest is deducted from the loan amount you receive upfront.
Exit strategies
Sale of the purchased property
The most common strategy. You sell the property you purchased with the bridging loan and use the proceeds to repay the loan. Often used for property ‘flipping’.
Sale of another property or asset
If you have another property, shares, or other valuable assets, you can sell these to repay the bridging loan.
Refinancing with a traditional mortgage
Switch to a lower-interest mortgage to repay the bridging loan. A lot of buy to let investors work this way, buy quickly using a bridge, then repay the bridge with a long term buy to let mortgage.
Other options
The lender doesn’t really mind where the funds come from, as long as the initial exit plan is viable. So you could use inheritance, a business sale, or other windfalls to repay your bridging loan.
Delaying Full Repayment
While bridging loans offer a flexible financial solution, it’s important to acknowledge that repayment doesn’t always proceed as smoothly as anticipated.
Unexpected hurdles can arise, such as delays in property sales, unforeseen complications with renovations and financial setbacks. Property transactions, even when diligently managed, can encounter delays due to market fluctuations, issues with potential buyers, or unforeseen problems with the property itself.
Should you be unable to repay your bridging loan on time, additional interest and fees will likely be incurred.
Lenders typically impose penalty interest and late payment fees for missed or delayed payments, which will significantly increase the overall cost of your loan.
Moreover, late payments or defaults can negatively impact your credit score, hindering future borrowing potential.
In more severe cases, lenders may resort to legal action to recover the outstanding debt, potentially leading to repossession of the property used as security.
However, if you anticipate challenges in repaying your bridging loan, proactive communication with your lender is essential.
Occasionally, lenders may be open to extending the loan term, albeit with additional fees and interest. But don’t presume this will happen, remember they don’t lend for long terms.
Refinancing the bridging loan with another lender could also be an option, potentially securing a lower interest rate or more favourable terms. If you have other assets, such as additional properties or investments, selling them to repay the loan could be a viable solution.
Repay using a mortgage
If the property in question is to be kept, you will need some form of longer term mortgage borrowing to take over from the bridge lender.
Not only will this be cheaper but the lender will be happy to grant you a longer term.
The property will either be your main residence, or it won’t.
Main Residence
Repayment of the bridge will be via a new (regulated) residential mortgage. As you would expect, this new mortgage will be fully underwritten, with the lender requiring proof of your income with additional affordability checks.
However, because your ‘exit’ relies on further finance, the bridging lender will need to be reassured that you will be approved for this new mortgage. While they are happy to lend predominantly against a brick and mortar valuation themselves, in this circumstance they will be asking for proof of income and affordability as well, and may need to see a DIP from the mortgage company.
Other Property
Here we are looking at buy to let or holiday let, or maybe some commercial property.
Again, because the exit relies on another mortgage application, the bridging lender will want to know the details and receive reassurances that your application will be approved.
The Six Month Rule
The Six Month Rule could affect either of the scenarios above. In situations where you want to apply for finance within six months of buying the property, your options can be severely limited.
Certain remortgage lenders will refuse applications where ownership is less than six months, some stipulate twelve months.
Bridging loans offer the flexibility and speed needed to seize opportunities, whether you’re buying your next home, renovating a property, or breaking a property chain.
However, like any financial product, bridging loans come with considerations. Interest rates and fees that are higher than traditional mortgages, and a well-thought-out repayment plan is required.
Your exit strategy – how you’ll repay the loan – needs to be well thought out and watertight, whether it’s through a property sale, refinancing, or other means.
Our brokers can help you compare lenders, understand the terms and conditions, and create a repayment plan that works for you.
If you’re considering a bridging loan, don’t hesitate to contact us for expert advice and a tailored solution.