What is Bridging Finance?
Bridging finance is a short-term loan with terms typically between 1 day to 2 years.
Bridging finance loans are designed to allow a borrower a period of time to achieve a short term goal.
Examples of instances where bridging finance is commonly used include;
- Facilitating the completion of the purchase of a property following an auction or where time is of the essence. (In this context bridging finance is often referred to as auction finance)
- Refinancing away from a mortgage in default allowing time for the property to be sold (Releasing an LPA receiver and allowing the owner to achieve an open market value for the property and not a forced sale value). This is often referred to as non status bridging finance.
- Releasing equity from an investment property to acquire another additional property.
- To raise capital to take advantage of a business opportunity (Often referred to as a 2nd charge Business Purposes Loan or 2nd charge bridging loan)
A bridging loan is typically advanced to the borrower in a short period of time. Where a mainstream bank may take some months to put together a loan for a borrower, a bridging finance company is often able to advance a loan within a couple of days.
While a bridging loan is advanced to a borrower in a much shorter timeframe than a traditional bank loan, most bridging finance companies will still do as much legal due diligence on title as a bank. One of the key distinguishing factors however is that non status bridging lenders do not employ credit scoring means to assessing applications and thus do not require proof of income or credit search reports.
Typically any application for bridging finance involves obtaining an independent valuation on the property.
A bridging loan will then be secured by a mortgage/charge, in the same way as a loan from a bank on either a first or second legal charge basis.
Bridging finance is often referred to as a 'short-term loan'; or as a 'bridge loan', or as 'auction finance'. Bridging finance can also sometimes be referred to as 'mezzanine finance', when the security to the loan is to be a 2nd legal charge, reflecting its subordinated status to the existing first mortgage.
As a short-term loan, bridging finance is usually for a period less than 24 months in duration.
What Types of Bridging Loans Exist?
'Closed bridge'
Refers to a bridging loan where there is a predefined exit that the borrower has in place to repay the bridging loan, before the actual bridging loan is taken out by the borrower.
An example of a closed bridge, would be where the borrower has an offer of finance from a mainstream lender prior to obtaining the bridging finance. In such instances the borrower may still need the bridging loan in order to settle a transaction quickly or otherwise capitalise on a particular opportunity.
A common example of where a closed bridging loan is employed is where the borrower has exchanged contracts to sell a property against which the loan is to be secured i.e. the borrower may want to draw down on the equity in the property prior to the sale completing.
'Open bridge'
In today's market the majority of bridging finance loans fall within this category and arise where the borrower does not have a certain and absolute exit in place.
Bridging finance lenders will usually require the borrower to have an 'exit strategy' for repaying the loan and may assess the relative strength of this strategy when determining how much and or if to lend.
An example of an open bridge, would be where the borrower is required to settle a transaction in a very short period of time (to take the property out of receivership or perhaps to complete the purchase of a property bought at auction) and has not had a chance and or is unable to arrange mainstream funding for the refinance in good time.
What does a Bridging Finance Loan Cost?
The costs involved with obtaining a bridging loan will often depend on the borrower’s circumstances and the approach taken by the relevant Lender.
Typical interest rates on a bridging loan secured by way of a 1st legal vary between 1% per month on a full status basis at a Loan To Value ratio of less than 60% to 1.25% per month on a non-status basis at a loan to value ration up to 65%.
This is an area of the market which has come under critisism recently with some lenders advertising rates of 0.65% which are either not in fact available or which are reserved only to clients who should otherwise qualify and have the time to obtain a high street mortgage.
This topic known in the industry as the Headline Rate Debate has come under scrutiny from the Association of Short Term Lenders who warn its members against offering attractive rates to lure clients in when those rates do not get delivered consistently.
How Do Bridging Loans Work?
Interest Rolled
Interest on the loan is rolled to the end of the loan term and is payable on redemption of the loan with the original capital advance.
Monthly Payments
Interest on the loan is payable on a monthly basis. This suits borrowers who have stronger recurring cash flow and are able to make monthly payments without unduly stretching their existing financial planning.
Interest Deducted
Interest for the term is deducted from the advance of the loan. This suits borrowers who are seeking a longer loan term and who need the time and space, free from monthly payments, to finish a project, get their finances back on track, or those who wish to avoid compound interest.
Most bridging finance lenders will allow for the costs associated with the loan, including the interest for the term of the loan, to be deducted from the loan advance. This mains that the bridging lender will effectively ‘roll up’ these costs as part of the loan so that the borrower is not actually required to pay these costs until the loan is repaid.
Other terms often used in relation to Bridging Finance:
First charge
A ‘first charge’ loan refers to the loan being secured by a first mortgage/charge against the security property.
Second charge
A ‘second charge’ loan refers to the loan being secured by a mortgage/charge that ranks behind the first mortgage.