What is a Bridge Loan?

A bridge loan is a short-term financing solution designed to help homeowners bridge the gap between buying a new property and selling their existing one. Also known as swing loans, these temporary loans typically last between 6 months to a year. They provide quick access to funds, allowing you to move forward with purchasing a new home before securing permanent financing or before your current home is sold.

For many homebuyers, bridge loans offer the flexibility to purchase a new property without the pressure of waiting for their current home to sell. This financing tool is especially useful in competitive real estate markets where buyers need to act quickly. It allows you to unlock the capital tied up in your current home, giving you the financial flexibility to make a down payment or cover other upfront costs associated with the new property.

Key Characteristics of Bridge Loans:
Before opting for a bridge loan, it’s essential to understand its features and how they may vary depending on the lender and loan structure.

• Purpose: Bridge loans can be used in two primary ways. Some borrowers use it to pay off their current mortgage and cover the down payment for their new home. Others may use it as additional debt alongside their existing mortgage, often as a second mortgage.
• Duration: These loans are typically short-term, with repayment periods ranging from 6 months to 1 year. However, repayment terms can vary between lenders.
• Repayment Terms: Some bridge loans require monthly payments during the loan term, while others allow you to defer payments until the loan matures or until your current home is sold.
• Interest Rates: Bridge loans generally carry higher interest rates than traditional mortgages, often around 2% above the prime rate. This reflects the short-term and riskier nature of the loan.
• Collateral: Your existing home is typically used as collateral, meaning the lender has a claim on your property if you fail to meet repayment obligations.

How Does a Bridge Loan Work?
A bridge loan is not meant to replace long-term mortgage financing; it’s a temporary solution that helps cover the financial gap until you can secure permanent financing or sell your current property. Because bridge loans are short-term, they come with different terms, fees, and interest rates than conventional mortgages.

Each bridge loan agreement is unique, and terms can vary greatly depending on the lender. Lenders may also have differing policies on repayment schedules, interest rates, and loan structures. It’s essential to review all terms carefully before agreeing to the loan.

Common Use Options for Bridge Loans:
Bridge loans can be tailored to fit different borrower needs, but the two most common uses are:

1. Second Mortgage: Some borrowers take out a bridge loan as a second mortgage to help cover the down payment for their new home. This allows them to move forward with a home purchase without waiting for their current home to sell.
2. Pay Off Old Mortgage and Apply Toward New Home: In this scenario, borrowers use the bridge loan to completely pay off their existing mortgage and then use the remaining funds toward the down payment for their new home. This approach simplifies finances, allowing them to deal with a single loan.

When to Use a Bridge Loan:
Here are a few scenarios where a bridge loan may be the right solution:

• You can’t make a down payment on a new home until you sell your current one.
• You need to act quickly on a home purchase due to job relocation or other urgent circumstances.
• The closing dates for selling your existing home and buying your new one don’t align.
• Sellers in the area are unwilling to accept offers that are contingent on the sale of your existing home.

Bridge Loan Requirements:
The application process for a bridge loan is similar to applying for a conventional mortgage. Lenders will evaluate your credit score, credit history, and debt-to-income (DTI) ratio when determining eligibility. While requirements vary by lender, many lenders require a minimum credit score of 740 and a DTI below 50%. You’ll also need sufficient equity in your current home—typically, you’ll need at least 20% equity to qualify for a bridge loan.

Lenders will generally allow you to borrow up to 80% of your loan-to-value (LTV) ratio, but additional financial qualifications may apply depending on the lender’s requirements.

Things to Consider Before Getting a Bridge Loan:
As with any financing option, it’s important to understand the full cost and risk of a bridge loan. Key considerations include:

• Upfront Expenses: Bridge loans come with closing costs and fees that can add up to several thousand dollars. You may also need to pay for an appraisal to assess the value of your current home.
• Lack of Protection: Bridge loans often offer limited protection if the sale of your current home falls through. Since the loan is secured by your property, you risk foreclosure if you can’t sell your home or meet the loan repayment terms.

It’s crucial to have a realistic understanding of your local real estate market and how long homes in your area typically take to sell. If your current home doesn’t sell quickly, you may find yourself managing two mortgages at once, which could create financial strain.

Pros and Cons of Bridge Loans:
Pros:

• Facilitates Home Purchase Before Selling: You can buy a new home without waiting for your current one to sell.
• No Sale Contingency: Bridge loans allow you to make an offer without a contingency on selling your current home.
• Quick Access to Funds: Provides immediate funds, useful for those in a sudden transition or facing a time-sensitive home purchase.
• Deferred Payments: In some cases, you can avoid monthly payments for a few months or make interest-only payments until your home sells.

Cons:

• Higher Interest Rates: Bridge loans typically come with higher interest rates and APR compared to conventional loans.
• Equity Requirement: Most lenders require at least 20% equity in your current home to qualify.
• Potential for Two Mortgages: You may be responsible for two mortgage payments simultaneously, which can be financially stressful if your home doesn’t sell quickly.
• Risk of Foreclosure: If you can’t sell your home or meet repayment terms, you risk losing your property.

Alternatives to Bridge Loans:
If a bridge loan doesn’t seem like the right fit, consider these alternatives:

• Home Equity Loan: A long-term loan that allows you to borrow against the equity in your current home. Typically has lower interest rates than bridge loans but may still require managing two mortgages.
• Home Equity Line of Credit (HELOC): A second mortgage with a revolving line of credit that can be used for home improvements or as a down payment on your new home. Offers lower interest rates and closing costs compared to a bridge loan.
• 80-10-10 Loan: This loan structure allows you to avoid private mortgage insurance (PMI) by paying 10% down and obtaining two mortgages—one for 80% of the home’s value and another for 10%.

Personal Loan: If you have strong credit and a low DTI, a personal loan may offer short-term financing without the need to use your home as collateral.

A bridge loan can be a valuable tool for homeowners who need short-term financing to purchase a new home before selling their current one. While it offers flexibility and quick access to funds, it can also be expensive and risky. Before proceeding, carefully consider your financial situation, the real estate market, and alternative financing options. It’s often best to wait until your current home sells, but when that’s not an option, consult your Go-To Mortgage Advisor, Dustin Dumestre (Brokered Loan Officer).