Property investors have a range of different finance open to them, each of which can work for various scenarios. If a landlord wants to purchase a regular property to add to their portfolio, they may want to opt for a regular buy-to-let loan for example, while a developer could utilise specialist development finance when looking to build a handful of property units.
One form of property loan which can prove useful for investors who want to move quickly, raise funds for refurbishment purposes, or purchase a property at an auction is a bridging loan.
What are bridging loans?
Bridging loans are a form of short-term property loan which can work rather differently from the typical mortgages utilised by landlords and investors.
A regular mortgage might be obtained over a 30-year term, whereas bridging loans tend to run for around a year to 18 months. They are designed to be a short-term fix, a ‘bridge’ to a more long-standing solution. That might mean covering the investor until they can remortgage, or until they sell the property on.
The common uses of bridging loans
There are a few particularly common reasons for property investors to turn to a bridging loan.
The first is if they need to move quickly; it might be that they face a tight deadline in order to complete a purchase, or simply that they have spotted an excellent investment opportunity and want to add it to their portfolio before rival buyers have a chance to place a bid. Bridging loans can be processed incredibly quickly compared with traditional mortgages, with the funds potentially available within just a few days. As a result, the landlord can access the funds they need within a much speedier timescale.
Bridging loans are also popular among landlords who need to raise funds in order to carry out refurbishments to a property before then letting it out.
These purchasers use the funds from the loan to not only complete on the deal but also fund the improvement work to the property, with the idea that this will not only make it more attractive to tenants but also more valuable. They can then exit the bridging loan by remortgaging to a traditional buy-to-let loan if the investor plans to retain the property, or alternatively by selling the property on.
Investors can also use bridging loans in order to raise funds for adding to or improving their portfolio in some way.
For example, a landlord could take out a bridging loan against a lowly-geared property they already own, and use those loan funds as a deposit when purchasing a new property.
Alternatively, they could use the funds raised to carry out refurbishments on a different property within the portfolio, perhaps in order to carry out energy efficiency improvements ahead of the incoming regulations around minimum energy performance certificate ratings for rental properties.
Bridging loans can also be effective for developers nearing the end of a project. It may be that the work on the new housing units is all but finished, but they have not yet all been sold. As a result, the developer might want to use the bridging loan to exit their development finance product and cover any remaining costs around selling off those remaining units, such as the marketing of them.
Bridging loans are a very flexible option, and so can work for investors in a variety of different scenarios.
Buying at auction
Bridging loans can be particularly useful for those looking to purchase a property at an auction. With property auctions, the successful bidder will need to put down an initial deposit on the day of the auction, typically of around 10% of the purchase price.
There is then a tight deadline in which to pay the remainder of that agreed price, generally of around 28 days from the day of the auction. It can be all but impossible to arrange a regular mortgage in such a timescale, which is why many investors opt instead for a bridging loan. The funds can be in place within a matter of days, allowing auction purchasers to comfortably meet that deadline.
It’s not just the timescales involved which can make bridging loans an appealing choice when buying at an auction, however, but also the standard of the properties themselves. It’s common for properties sold at auction to be in a poor state of repair, perhaps lacking a bathroom or kitchen or displaying some sort of fundamental issue.
These problems may mean that a regular mortgage lender is unwilling to lend against the property at all, irrespective of any purchase deadlines. This is not an issue with bridging loans, with lenders generally comfortable with offering funds against properties which are in need of some level of refurbishment.
The costs of bridging loans
Due to the short-term nature of the loan, the interest rates on bridging loans are quoted on a monthly rather than annual basis, in contrast with the annual rates you will find quoted with traditional mortgages.
While this may make bridging loans appear cheap at first glance, the reality is that these costs can quickly mount up if the loan is kept in place for a long period of time. As a result it’s important for any borrower considering a bridging loan to ensure that they have a clear exit plan in mind, allowing them to either refinance or exit the bridging loan before those costs snowball.
The way that interest rates are quoted isn’t the only difference however; borrowers can also choose how the interest is charged on their loan.
There are three main options here:
Monthly – This works rather like an interest-only mortgage, where payments are made each month to cover the interest charged on the loan, with the balance then paid off at the end of the term.
Rolled up – This is where no payments are made during the life of the loan, with the interest charges instead ‘rolled up’ with the sum borrowed. Interest is still charged each month, with the sum then paid off at the end of the loan.
Retained – With retained interest, the lender effectively subtracts the amount of interest that you would pay from the overall loan at the outset. If you then repay the loan earlier than expected, you get a rebate on the interest charged.
As with other forms of property loan, there are additional costs to consider with a bridging loan beyond simply the interest rate. The lender will charge an arrangement fee, which is usually calculated as a percentage of the sum being borrowed. There will likely also be legal, valuation and administration fees to include in your calculations when comparing bridging loans.
Obtaining bridging loans
Bridging loans are a highly specialist area of the property market. As a result, you are unlikely to see them on offer from high street names.
That doesn’t mean that borrowers face a shortage of options when looking for a bridging loan, however. Indeed, there is a whole community of lenders active within this market, with dozens of new lenders entering the bridging sector in recent years. This level of competition has driven down the rates charged on bridging loans, as well as pushed lenders to be more innovative within the product design.
Bridging loans can be obtained directly by borrowers, though some lenders will only offer their products through mortgage intermediaries.