Bridging Loans - Simplified

May 6, 2021

Selling your home and buying a new property at the same time can be a little tricky. It can sometimes take a while to sell your home, leaving you without the sales proceeds to buy your new property. This is when a bridging loan comes into play.

A bridging loan is a special type of short-term loan, also known as ‘relocation loan’ that is designed to cover the purchase price of a second property and to give you time to sell your existing property, even if you already have a mortgage on it. It essentially creates a financial “bridge”, allowing homeowners to traverse the gap between buying and selling.

How does a bridging loan work?

Bridging loans can seem complicated so let us look at how they work. It’s important to know and understand a few key features & elements:

One lender typically provides both loans: When applying for a bridging loan, the lender typically provides finance for the purchase of the new property, as well as taking over the mortgage on  the existing property.

“Peak Debt”: Peak debt is the purchase price of the new property plus the current mortgage.

“Ongoing Balance” or “End Debt”: The size of the loan is determined by adding the value of the new home to the existing mortgage then subtracting the likely sale price of the existing home. The amount after these calculations is the “ongoing balance” or “end debt” which represents the principal of the bridging loan.

Repayments are likely to change during the bridging period: Some loan structures only require repayments on the original loan until settlement at the new property. During the bridging period, however, the interest on the bridging loan gets added to the ongoing balance of the bridging loan.

After the sale, the loan will revert to another product: The bank may offer, or require, the loan to be converted into another type of loan – such as a standard fixed-term loan or one with principal-and-interest repayments, when the mortgage on the original home is settled.

Repayments will be different on the new loan: The amount required to be paid to the bank in repayments would probably be different to the repayments before taking the bridging loan, and to the repayments during the bridging period.

It’s important to look at the pros and cons of bridging loans, because like any financial option, it’s important to do some research and explore the options available before diving in.

Cons of Bridging Loans

  • Risk if property is sold for a lower price: If your property sells for less than what you expected, you could be left with a larger ongoing loan amount, which could risk putting you into financial difficulty.
  • Loan costs: Bridging finance may require two property valuations (your existing property and the new property), which could mean two valuation fees, as well as other fees and charges for the extra loan.
  • Interest/interest rates: Interest is usually charged on a monthly basis, so the longer it takes to sell your property, the more interest your new loan will tend to accrue. In addition if you don’t sell your existing home within the bridging period, you will typically be charged a higher interest rate.
  • Termination fees: If your current home loan lender doesn’t offer a bridging loan, you will  need to switch, which may result in early exit fees from your current loan (especially if you’re switching during a fixed interest rate period).

Pros of Bridging Loans

  • Convenient: Bridging loans could help ensure you can buy your property straight away without having to wait for your current home to sell.
  • Better price for property: You can avoid the stress of having to sell your property quickly. By taking the time, you may be able to get a better price for your property.
  • Repayments: Depending on how your loan is structured, during the bridging period you may only need to make repayments on your current mortgage.
  • Avoid renting: If the timing is right with the bridging loan and the sale/purchase, it could be possible to avoid the costs and hassle of having to rent a home in the period between the sale of your existing home and settlement of your new home.

The main purpose of a bridging loan is to “bridge” the finance gap so you can buy your new property before you find a buyer for your existing property. If you set a realistic time frame to sell your property with a realistic price estimate based on a proper valuation, bridging finance can give you time to sell your existing property rather than having to rush and possibly missing out on getting a better price. Like any other home loan though, it’s not a debt to be taken on lightly.

Reach out to us at Euphoria Loans so we can analyse the finance options available and provide the right recommendations for you.