The Complete Guide to Bridging Loans
When it comes to property transactions, timing is crucial, but it doesn’t always work out as planned. You might find your dream home before selling your existing property, leading to a gap in finances that needs bridging. That’s where a bridging loan, also known as bridging finance, comes into play. This guide will provide you with all the information you need about bridging loans, helping you understand if this short-term loan solution is right for you.
What are Bridging Loans?
Two types of bridging loans exist: open and closed bridging loans. Open bridging loans are for homeowners who have found their new home but haven’t sold their existing property yet. The timeframe to repay this loan isn’t fixed, though lenders generally require repayment within 12 months. On the other hand, closed bridging loans apply to homeowners who have sold their home but are waiting for the transaction to complete. These loans have a fixed end date.
How Bridging Loans Work
Why Consider a Bridging Loan?
Bridging loans also provide the convenience of making only one set of repayments during the bridging period, reducing financial stress. Plus, some lenders offer bridging loans with a loan-to-value ratio of up to 80%, meaning you might not need to chip in additional money for the new purchase.
However, bridging loans aren’t for everyone. One of the main cons of bridging loans is that they can be more expensive than other types of home loans, as some lenders charge a higher interest rate. You’ll also have to manage two loans during the bridging period. Additionally, if you don’t sell your property within the bridging period, your interest costs can add up.
It’s important to understand how bridging loans work and weigh the pros and cons before making a decision. Consult with a loan specialist or home loan experts to understand if a bridging loan is right for you. Alternatives to bridging loans are available, and an expert can guide you towards the best solution based on your specific circumstances.
Common Uses of Bridging Loans in Australia
Bridging loans come to the rescue in various situations where you need to manage the transition between two properties. Here are the most common uses:
- Buying before selling: The most common scenario for using a bridging loan is when you’ve found your new home before selling your existing property. The bridging loan covers the cost of the new property, allowing you to move without having to wait for your current home to sell.
- Building a new home: If you plan to build a new house while living in your current home, a bridging loan can help finance the construction. Once your new home is ready and you sell your existing property, you can repay the bridging loan.
- Auction scenarios: Auctions often require immediate down payments. A bridging loan can provide the necessary funds quickly, so you can secure your new property.
- Downsizing or upsizing: If you plan to buy a bigger or smaller home, a bridging loan can provide the required finance to make the purchase before selling your current home.
Remember, while these loans offer convenience, you must consider the potential interest costs and your ability to manage two loans during the bridging period.
Understanding the Types of Bridging Loans
There are two main types of bridging loans, each suited to different scenarios:
Closed Bridging Loans
Open Bridging Loans
Remember to consult with a loan specialist or home loan expert to understand which type of bridging loan suits your situation best. You must understand the implications and costs of each before making a decision.
The Pros and Cons of Bridging Loans
- Convenience: Bridging loans offer the convenience of buying a new property without having to sell your existing home first. This can relieve the pressure of trying to align sale and purchase dates.
- Flexibility: Bridging loans allow you to move into your new home immediately, which can be particularly advantageous if you’re building or buying at auction.
- Interest Capitalisation: Some lenders allow the interest on the bridging loan to be capitalised during the bridging period. This means you won’t have to make loan repayments during the bridging period, helping you manage your cash flow.
- Simultaneous Repayments: Some bridging loans let you make repayments on your existing loan plus the bridging loan during the bridging period to reduce the total loan amount owed once your property is sold.
- Higher Interest Rates: Bridging loans typically charge a higher interest rate compared to other types of home loans. The interest is calculated daily and added to your loan balance at the end of each month, resulting in compounded bridge loan interest.
- Double Debt: During the bridging period, you essentially have two home loans to pay off: your existing loan and the new loan for your new property. If the sale of your existing property takes longer than expected, you might end up paying more in interest.
- Added Pressure to Sell: If you don’t sell your property within the bridging period, lenders may charge you a higher interest rate. This can put extra pressure on you to sell your current home quickly, which might not always result in the best sale price.
- LVR Restrictions: The loan to value ratio (LVR) for bridging loans is typically 80%, though it can be higher. If your LVR is over 80%, you may have to pay Lender’s Mortgage Insurance.
Eligibility and Application for a Bridging Loan in Australia
Who Can Apply for a Bridging Loan?
Most homeowners who wish to buy a new house before selling their existing one can apply for a bridging loan. However, lenders have certain criteria that borrowers must meet. These usually include:
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Equity: You should have significant equity in your current home. Equity refers to the difference between your home’s market value and your home loan balance.
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Income: Lenders need to know that you can manage two loans: your existing mortgage and the bridging loan. Hence, they will require proof of a stable and regular income.
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Credit History: A clean credit history can improve your chances of getting approved for a bridging loan. Lenders may hesitate to offer bridging finance to those with a poor credit history.
How to Apply for a Bridging Loan in Australia
Applying for a bridging loan is similar to applying for a traditional home loan. Here are the steps:
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Research: Compare different lenders to see who offers the best rates and terms. Some lenders may not offer bridging loans, so ensure your chosen lender does.
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Pre-Approval: Applying for pre-approval can give you a better idea of your borrowing power and help streamline the application process.
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Full Application: Submit the full loan application along with any required documents.
Documents Required for a Bridging Loan
The documents required for a bridging loan are similar to those needed for any other home loan application. They typically include:
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Proof of Income: Payslips, tax returns, or proof of any other income.
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Proof of Identification: A valid driver’s license or passport.
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Proof of Assets and Liabilities: Details of assets (like properties or vehicles) and liabilities (like credit card debts or other loans).
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Sales Contract: If you’ve already signed a contract to sell your existing home or buy a new one, you’ll need to provide a copy.
Remember, every lending institution has different criteria and processes, so always check with your potential lender or a home loan specialist to ensure you meet their specific requirements.
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Bridging Loan Costs and Interest Rates
In addition to the interest costs, lenders may also charge set-up fees, monthly fees, or discharge fees. Moreover, if your home doesn’t sell within the bridging period, some lenders may increase the interest rate.
For a better understanding of potential costs, you should use a bridging loan calculator or consult with a loan specialist.
Repaying Your Bridging Loan
Bridging loans usually have a maximum loan term of 12 months for existing properties and 24 months for new builds. The loan is usually structured as interest-only during the bridging period to reduce the burden of managing two loans simultaneously.
Once you sell your existing home, the sales proceeds are used to pay off the bridging loan. Any remaining funds then become your ongoing loan, which typically switches to a standard principal and interest loan.
What Happens if You Can't Repay the Bridging Loan?
If you foresee difficulty in selling your property or meeting the repayments, consider alternatives to bridging loans or speak to a financial advisor before taking any steps. It’s essential to fully understand the pros and cons of bridging loans to make an informed decision.
How a Mortgage Broker Can Help Navigate Your Bridging Loan Process
A mortgage broker is a licensed professional who specialises in understanding the vast range of loan products, including bridging loans. They can play a crucial role in your bridging loan process in several ways:
- Expertise: A mortgage broker understands how bridging loans work, their advantages and disadvantages, eligibility criteria, the application process, and how to negotiate terms.
- Loan Comparison: Mortgage brokers have access to a variety of lenders, including those who may not directly deal with customers. They can compare and analyse different bridging loans, helping you find one that suits your circumstances the best.
- Application Support: They can guide you through the application process, ensuring you have all the necessary documentation, and they can even liaise with the lender on your behalf.
- Stress Reduction: Managing two loans simultaneously can be overwhelming. A mortgage broker can simplify the process, providing you with the time and space to focus on moving into your new home.
