Bridge Financing Basics
Buying a house while selling an existing home can be a huge headache. Trying to line up closing dates so that you’re never caught without financing can make buying tricky. Selling, renting and then buying again can be costly, and carrying two mortgages at one time is never appealing.
That’s where residential bridge loans come in handy. These loans are tricky to find and expensive to take out, but they solve a problem for homeowners. In this article we explain how bridge loans work and where you can get one.
What are bridge loans?
Bridge loans are short-term loans that help borrowers bridge two financial transactions. For example, a real estate investor might need a bridge loan to finance a “fix and flip” construction project. Investors looking to rehab multi-family properties can’t use a conventional mortgage to finance a rehab, so they might consider a bridge loan to cover costs during construction. Once the construction is complete, the investor can sell the property and pay off the bridge mortgage.
But bridge loans aren’t just for investors — traditional homeowners might want to use a bridge loan to help them buy a new house before selling an existing home.
Bridge loans for consumers are usually mortgages backed by an existing home. Most bridge loans have terms of 12 months or less. The balance of the loan has to be paid off (as a balloon payment) at the end of the term. Most borrowers pay off the loan by using money from selling their existing home.
How to take out a bridge loan
Bridge loans offer multiple advantages for existing homeowners, especially those that have significant equity in their property. For example, homeowners with a paid-off home can use a bridge mortgage to buy a downsized home without having to take out a conventional mortgage and give themselves more time to move. Once they’ve sold their existing home, they can pay off the bridge mortgage.
Don Hensel, a broker with North Coast Financial Inc., a private “hard” money lender in California, said homeowners in that state often use bridge loans to make cash offers on houses. For anxious sellers, a cash offer often trumps one made on contingency, meaning the buyer must first sell their own house or get financing.
“In California, an offer with a contingency isn’t looked upon favorably,” Hensel told LendingTree. “The cash offer has the best chance of being accepted.”
Borrowers who don’t have enough income to qualify for two mortgages at the same time can use a bridge loan to pay off their existing mortgage. Since bridge loans are short-term loans, borrowers can qualify for a mortgage on their new house before the bridge loan is paid off.
When to start looking for a bridge loan
Residential bridge mortgages solve a problem. They help homeowners avoid the hassle of moving twice — once from your old house to a temporary rental and again to your new home. They also prevent buyers in hot markets avoid making contingent offers on their dream home. But finding a bridge loan can be a major challenge — in general, if you want to use a bridge loan to buy a new property, you’ll want to line up the financing right away.
“You’ll want to start looking for bridge loans as soon as you start looking at new houses to buy,” Hensel told LendingTree. “We have a lot of customers who take out the loan before they’ve even made an offer a house.”
Unless your mortgage lender also offers bridge loans, you’ll have to find and apply for bridge financing at a separate lender. This adds a step to the already stressful home-buying process.
What happens after you apply for a bridge mortgage?
Bridge mortgages aren’t standard mortgages, so the underwriting process for residential bridge mortgages will vary by lender. “Generally, a lender is going to want an application, some type of verification of income, and a way to evaluate the property,” Hensel said. “The lender might require a full appraisal, and others could just use an internet search.” An appraisal, if required, will usually be paid for prior to closing.
Since borrowers will pay off a bridge mortgage through the sale of a property, the most important factor in underwriting the loan is the amount you want to borrow relative to the property’s value (also called loan-to-value). A loan with a low LTV represents a low risk to the lender whereas higher LTV loans may require more scrutiny.
Even though bridge mortgages are short term loans, many require monthly payments. Because of that, lenders will want to check on a borrower’s assets or income to be sure the loan doesn’t fall into delinquency. There are no hard and fast rules about required incomes, but lenders will want to ensure that loan doesn’t fall into default right away.
Once the lender completes underwriting (which can take as little as one day), the process to close the loan will take at least two and a half weeks. As Hensel told LendingTree, “Most of the two and a half weeks is just federally mandated waiting periods.”
After underwriting, the lender will issue a loan estimate. Once the loan is issued, the two and a half week clock starts ticking. After receiving the loan estimate, you have seven business days to sign it. Once the estimate is signed, the lender must send a closing disclosure. Three business days after receiving the closing disclosure, you can sign it. The loan finally closes three business days after the closing disclosure is signed, giving you as the consumer a three day right of rescission to cancel the loan before it is implemented.
During the loan closing, you will generally pay the loan origination fee in cash. Some lenders, however, may allow you to finance the closing costs.
Making payments on a bridge mortgage
Once you have the bridge loan in place, you’ll likely have to start making mortgage payments on the loan. Some bridge loans for consumers are “silent” mortgages that don’t require any payments, but that isn’t the norm.
In most cases, borrowers make just one or two payments on the bridge mortgage before they sell their home and pay off the loan.
Paying off the bridge loan
Since a bridge loan is usually secured by your existing home, you’ll have to pay off the loan as soon as you sell it. The proceeds of the sale of the home should more than cover the cost of paying off the bridge loan and any accrued interest.
How to find a bridge loan
Few institutional lenders (such as banks or credit unions) offer bridge mortgages for consumers. According to Hensel, most bridge loans are loans from hard money lenders that specialize in issuing loans to real estate investors. Even if these lenders wanted to issue loans to consumers, many could not. To issue loans to consumers, lenders have to be licensed through Nationwide Mortgage Licensing System and Registry (NMLS); Hensel estimates that only a tenth of private lenders in California are registered with the NMLS.
To find a bridge loan in your state, do a search for, “residential bridge mortgage, your state.” Any institutional or hard money lenders that offer consumer bridge loans should be in the top five to ten search results.
If you find more than one bridge lender in your area, request quotes from as many lenders as possible. Bridge loans from private money lenders are expensive, and even modest differences can save you hundreds or thousands of dollars. According to Hensel, borrowers should expect origination fees between 1.5% and 3% of the loan value, with interest rates as high as 8% to 10%.
You may be able to find “promotional” bridge loans from institutional lenders. These bridge loans carry low fees and low interest rates. Lenders that offer this type of loan don’t earn much profit off the bridge mortgage; instead, they use the bridge loan as a way to promote other products for the bank.
Unfortunately, you may not find any lenders who advertise bridge loans in your state. However, that doesn’t mean you cannot find some sort of bridge financing.
Joe Mecca, vice president of communication for Coastal Credit Union (CCU) explained that CCU does not issue bridge mortgages, but the credit union works to help buyers access other types of financing to meet their goals. As Mecca told LendingTree, “Our loan officers are good about guiding members through the homebuying and borrowing process, and they are used to seeing situations where the borrower has unique needs.” For example, Coastal Credit Union may advise a borrower to take out a home equity line of credit to secure cash for a down payment for a new home before selling their existing home.
When shopping for mortgages, talk to the loan officer about bridge financing needs during the mortgage pre-approval process. Loan officers may be able to point you to creative financing solutions that will help you qualify for the new mortgage before you’ve sold your old house.