Suppose you find the property you want before you’ve found a buyer for the one you own. Your equity is tied up in the first property, so you don’t have the cash for a down payment on the second. And carrying two sets of payments may be more than you can manage. This is the gap a bridge loan is meant to cover.
Why consider a bridge loan?
Buying before you sell is a timing problem. You’ll have the money eventually, but you don’t have it yet.
Sometimes a seller will accept a contract with a contingency, known as a Hubbard clause. It says the purchase goes ahead only when the buyer’s current property has sold. In a seller’s market, or when the seller is in a hurry, they may refuse. An offer that depends on another sale is weaker than one that doesn’t.
A bridge loan lets you make the down payment before your current property sells. That flexibility is useful when you’re confident the property will sell and simply don’t know when.
How does a bridge loan work?
A bridge loan is typically taken out for six to 12 months and is secured by the property you already own. Interest rates are usually higher than on long-term loans. Because the term is short, many borrowers find the total cost acceptable.
There are two common structures.
Borrow against your equity. You keep your existing mortgage and borrow an amount equal to part of your equity, which you put toward the new down payment. You continue making payments on the existing mortgage until the property sells. At that point, you pay off both the mortgage and the bridge loan.
Roll both loans together. You take a larger bridge loan that pays off your existing mortgage and also covers the down payment on the new property.
The risks
A bridge loan assumes your current property will sell within the loan term at roughly the price you expect. If it takes longer or sells for less, you could be carrying both properties for a while. Before you commit, be honest with yourself about the local market, and know what you would do if the sale were delayed.
How investors use bridge loans
The same idea applies to investment property. Investors use bridge financing to buy a new property before another one sells, to make an offer without a sale contingency, or to hold a property while they improve it and arrange long-term financing. We describe more situations in 3 reasons to consider a bridge loan.
Sachem Lending provides bridge loans to real estate investors for residential and commercial properties. Contact us to find out whether your project qualifies.
