What is Bridge Financing and How Does it Work?
There are many advantages to exploring the option of accessing existing equity in your home for various short-term financial goals. After all, you have worked long and hard to pay your monthly mortgage payments. The goal is to have your principal loan paid in full.
Along the way, from taking out a primary mortgage to no longer owing any money to your lender, financial priorities may pop up, forcing a homeowner to evaluate financial priorities. It may be time to look at second mortgage options utilizing the equity built up in your property.
During the peak of the pandemic and throughout the first quarter of 2021, property appreciation has been substantial in properties throughout Ontario and in particular Toronto and the surrounding GTA. June 2021 housing numbers continue to be impressive.
According to the Toronto June Housing Report, the average price of a single detached property in the Toronto area has risen to 1.1 million. Houses are selling very quickly. Houses are selling on average after only 13 days on the market. These numbers are very encouraging for existing Toronto homeowners serving as further incentive to look carefully into the various second mortgage options available.
The Option of Bridge Financing for Ontario Homeowners
There are several second mortgage loan options available for those Ontario homeowners that may want to utilize the equity in their home to help achieve short-term financial priorities. Types of second mortgage options can include:
- Debt consolidation loans
- Home equity loans
- Home Equity Line of Credit (HELOC)
- Home Renovation loans
- Refinancing a principal mortgage
One other appealing second mortgage option open to those that own their own home is a bridge loan.
What exactly is a bridge loan? Simply put, bridge loans represent short-term loans (usually 3 to 12 month terms) in which a homeowner borrows against the existing equity in their home or property. The reason to take out a bridge loan usually stems from the need to access considerable equity to purchase new property.
Once the new property is secured, then these funds will be paid in full from the sale of the primary home. Bridge financing can also be used to pay off other immediate debts or financial concerns such as home renovation projects however, the primary use is for accessing funds in the short-term to pay for a new property before the sale of the house.
Acting as a financing bridge between the sale of your current property and closing on a new purchase, a bridge loan can help fill the short-term financial gap. To fully benefit from bridge financing, there should be sufficient equity in your current home.
Pros and cons of a Bridge Loan
When considering whether a bridge loan may be the right option for you, it is wise to look at what some of the advantages of this time of short-term financing may represent. Conversely, it would be a good idea to be clear on some of the downsides as well:
- Taking out a bridge loan is a fairly quick way to obtain financing, usually with a private lender, it will only take a matter of days (typically 3-5 days). Banks will take longer (up to three weeks often)
- Taking out a bridge loan will avoid the issue of having to move twice– one before the home sales and then into the next property.
- Taking out a bridge loan enables a homeowner to access equity quickly without selling their property first.
- Taking out a bridge loan using existing equity will provide the funds to offer a larger down payment to a seller that is advantageous in a competitive Toronto housing market.
- Obtaining a bridge loan through a private lender will be achievable even with poor credit if the banks have turned down a homeowner.
- Private lenders will offer bridge loans to homeowners who may need immediate funds to pay off existing debts.
- Might have to pay for an appraisal when applying for bridge financing. An appraisal is what a prospective lender will be scrutinizing when determining the terms of bridge financing.
- Slightly more expensive than a home equity loan for example
- Higher Interest rates associated with bridge loans
- Higher fees and transaction costs compared to long-term amortized mortgage loans.
How Do Private Lenders Calculate Bridge Financing?
When approaching a bank, your credit score and income will be the top determinants when approving bridge financing. Typically, a bank will lend up to $200,000 for usually a three-month term.
If your credit is an issue and you require bridge financing, a private lender can negotiate a private bridge loan even if you are not considering using the funds to buy a new property.
A homeowner will be able to use these privately negotiated bridge loans for other reasons including, paying off immediate debts, paying off arrears if a primary mortgage has fallen into default, and any possible renovations or consolidation of multiple monthly liabilities.
The banks will calculate the difference between the deposit you have to put down and the bridge financing you are requesting. If you are looking to access 170,000 to put down on a new house and have 20,000 in a deposit, then the equation would be 170,000 – 20,000 which equals 150,000. The bridge financing amount will be 150,000 at the interest rate of Prime plus usually 2 or 3% for typically a three-month term.
The banks will be lending out bridge financing to help homeowners buy a new property. Private lenders will be looking at bridge financing as a way for a homeowner with poor credit or non-traditional income to obtain short-term financing to pay or consolidate other debts using existing equity.
Therefore, a private lender will calculate the Loan-to-Value (LTV) on your home and assess the degree of equity you may have. Generally, a private lender will need to see at least 25% existing equity and loan out to 75% LTV (which represents 75% of the appraised value of your home). The loan will be short-term, similar to the banks. Typically bank terms will be for3 months to a year depending on the needs of the homeowner.
Bridge Loan Fees
Fees will be higher for both banks and private lenders when it comes to bridging financing. A private lender will typically charge 7 to 12% interest on a bridge loan and any other second mortgage loan option. The fees associated with all privately secured mortgage financing tend to be between 3% and 6% of the total cost of the loan.
Mortgage Broker Store Can Negotiate Different Types of Second Mortgage Loan Options
With access to a broad network of well-established and experienced private lenders across Ontario, the Mortgage Broker Store can connect an interested homeowner to private lenders to discuss various second mortgage loan options, including possible bridge financing.
We will also be able to negotiate private financing directly based on your specific financial objectives. Poor credit and non-traditional income need not be a barrier to obtaining a bridge loan or any other loan to help pay off any pressing monthly liabilities. Don’t hesitate to contact us at your convenience to discuss the best options to suit your unique financial circumstances.