What you need to consider when it comes to these short-term secured loans for large purchases
Bridging loans are a way to borrow a large amount of money for a short amount of time. They're most commonly used to 'bridge the gap' when buying property – for example, if you need to complete on a purchase before you've sold your current home. While they can be useful, they're high risk if things don't work out. This short guide tells you how these bridging loans work and what you need to watch out for.
What is a bridging loan?
A bridging loan is a short-term secured loan that you'll usually have to pay off within 12 months, though the term can be as short as a week or two.
They allow you to access funds while you're waiting on cash elsewhere, and are designed to be paid off as soon as that money becomes available.
They're also very risky. That's because the loan will be 'secured' against an existing property or asset, so – worst case scenario – if you can't repay your bridging loan, you could lose your home.
What are bridging loans used for?
Bridging loans are typically used for property-related purchases – this can include:
What are the types of bridging loans?
There are two main types of bridging loan:
- Open bridge loans. These have no fixed repayment date (though lenders will normally expect you to have paid them back within 12 to 24 months). These types of loan are usually more expensive, as they're more flexible, but they may suit you if you've found a property you want to buy but haven't yet found a buyer for your home.
- Closed bridge loans. These do have a fixed repayment date, and are generally cheaper than open bridge loans. Due to the lack of flexibility, these are best suited to those who have a buyer and are just waiting for completion to get access to the money they need to put towards their new home.
Bridging loans can then be further split into two categories: first charge and second charge.
When you take out a bridging loan, the lender will put what's called a 'charge' against the asset you're using as security (usually your home). This means that if you don't pay the loan back, it has the right to get the money you owe through the sale of the asset – and you could lose your home. Here's how first and second charge loans work:
- First-charge loans. If you own the asset outright – for example, you've paid off the mortgage on your property – then your bridging loan provider will take a 'first charge' over the property, meaning it gets paid first in the event of a repossession.
- Second-charge loans. If you owe money to another lender (such as a mortgage provider), the bridging loan provider will give you a 'second charge' loan. This means that the bridging lender will get paid AFTER your mortgage lender if either moves to repossess your home for non-payment of the instalments.
Second-charge bridging loans are usually more expensive, because there's more risk that the lender won't get all of its money back if you can't keep up with the repayments.
Important. Whichever type of loan you take out, your lender will want to see details of how you plan to repay the bridging loan. This is called your 'exit plan'.
How do bridging loans work?
Bridging loans can give you quick access to cash when you're in between a purchase and a sale.
A key point to make again is that because a bridging loan is 'secured' – and often this is done so against your property – then if you can't repay it, you could lose your home.
They're a risky undertaking, so it's important you do your research first, and speak to a broker if you need to.
Here's an example of how a bridging loan can work in practice:
- You find a new home. It costs £400,000, and you need a deposit of £100,000 to secure it (you have a mortgage offer for the other £300,000).
- You need to bridge the gap. You don't have a buyer for your home yet, and while you have £10,000 in savings, you're £90,000 short.
- You take out a bridging loan. To cover the difference, you borrow £90,000 to secure the new home, while your current property remains on the market.
- Your old home sells. You find a buyer for your home, and it sells for £350,000, leaving you with £150,000 in equity.
- You pay back the loan. Using your equity you're able to repay the £90,000 loan, plus the interest and fees that come with it.
To see the process distilled in this way could make it appear simple. But clearly, if there's an issue – for example, your sale is delayed due to a dispute over the deeds or an unexpected issue thrown up by a survey – then your bridging loan costs could skyrocket. And as lenders can charge interest daily, the longer the delay, the more there is to repay.
Even worse, if an unforeseen issue is so severe that you can't sell the property, this is when the threat of losing your home looms large. It's crucial to understand the full implications of taking out a bridging loan before you do so.
How much do bridging loans cost?
Bridging loans tend to be expensive compared with other types of secured loan – with open bridge loans having the highest interest rates.
What you're charged in interest can vary, but you can typically expect to pay anything from 0.5% in some cases right up to 2%. And while these rates can at first appear lower than with other types of loan, because they're charged monthly, they're equivalent to much higher annual rates of interest. For example, 2% monthly interest equates to annual interest of 26.82%.
As well as the interest, there are also a number of one-off fees to factor in. These can include:
- Arrangement fee – typically around 1% to 2% of the loan cost
- Exit fee – sometimes charged for early repayment or once the loan comes to an end
- Administration fee – the cost of paperwork and other tasks involved
- Legal fee – you and the lender will require legal support
- Valuation fee – the charge for valuing your property
Below is an example of how much a bridging loan could cost you...
|Interest at 2% a month for three months||£5,629.30|
|Arrangement fee at 2%||£1,800|
|Bank transfer fee||£25|
|TOTAL LOAN COST||£97,984.30|
As you can see, borrowing £90,000 at 2% over three months could cost you nearly a whopping £8,000 in interest and fees.
This assumes that the loan lasts for the full three months. But lenders can allow you to repay the interest in different ways: some will add the interest to the lump sum you pay off at the end of your term, while others ask that you pay it off monthly. If this is the case, it's best to pay off the loan as quickly as you can, because the longer the loan, the more interest you'll pay.
See the example above as a rough guide only – the actual amount you'll pay back will vary depending on your lender, the value of the asset you're using as security, the amount you want to borrow, and the strength of your exit strategy.
It's always worth comparing products from a variety of lenders to get a sense of your options and their overall cost before you decide.
What are the pros and cons of bridging loans?
- Flexibility. For example, it could allow you to buy a property at auction before the sale of your existing home has gone through.
- Certainty. If you're part of a chain, bridging loans can offer additional security that the transaction will take place even if the chain collapses.
- Speed. Unlike a mortgage, a bridging loan can be in your account quickly.
- You can borrow large sums. Because bridging loans are secured against a high-value asset (usually a property), you're able to borrow larger sums, as lenders see these types of loans as less risky for them.
They're expensive. Because interest is often charged monthly, bridging loans tend to be expensive, and come with more set-up fees than other types of borrowing.
- Repayments can change. Interest rates can be fixed – so you have a set repayment – or they can be variable, meaning what you repay can change, making budgeting difficult.
You could lose your home. Because bridging loans are secured against a high-value asset, if you're unable to repay the amount you owe on time, you face the risk of repossession.
What are the alternatives to bridging loans?
As we've seen, bridging loans are a niche product that are best used in fairly narrow circumstances, so you could consider the following alternatives:
- Remortgaging. You could remortgage your current home to access more cash. However, borrowing money through a new mortgage, whether it's from your existing lender or a new one, is a big decision with long-term implications, so do read our Remortgage guide to ensure you have a good understanding of what this means.
- Personal loan. If the amount you're looking to borrow is small, relative to the amounts you can access through a mortgage or bridging loan, you could take out an unsecured personal loan. These let you borrow up to around £40,000, and unlike with secured loans, you won't be at risk of losing your home. For more help, see our Cheap loans guide.
- Let-to-buy. This is a version of a buy-to-let mortgage, where you keep but rent out your current home (changing your existing mortgage to a buy-to-let one), and use any equity freed up in doing so to buy a new home. This leaves you with two mortgages though, so needs careful consideration.
- Be patient and wait. If you're looking at a bridging loan to access cash quickly because you've found a 'dream home' and yours hasn't sold yet, it may be better to let your head rule your heart and hold out for your home to sell, rather than trying to force the move through. If things went wrong with a bridging loan, they could go horribly wrong, so you have to ask yourself if the rush is worth the potential pain.
Yes, they are. While all loans come with an element of risk, a bridging loan – like any secured loan – comes with the additional risk of seeing your home repossessed if you struggle to pay it back on time.
Closed bridging loans add an additional element of risk too, as there's not much flexibility if something goes wrong – for example, you do not sell your property by the set repayment date.
Some lenders may consider offering you a bridge loan, but you'll be seen as higher risk. You're most likely to be accepted for lower loan amounts, with higher interest rates. Read more about bad credit loans and the alternatives available in our full Can I get a loan with a bad credit score? guide.
If you are set on applying for a bridging loan, take some time first to check your credit history, and see if there are some easy ways to boost it – we cover how in our Check your credit score for free guide.
You'll usually have to repay a bridging loan within 12 to 24 months, but they can be much shorter.
You should expect it to take between one and three weeks for a decision to be made on your bridging loan application. Because bridge loans are secured, the lender will need some time to value your property (or other high-value asset), and undertake the usual credit checks.
Most lenders will allow you to borrow up to 75% of the value of the property (or other high-value asset) that you're using as security for the loan. However, you can usually borrow more with a first charge bridging loan.
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