A Guide to Bridging Finance
Bridging finance is becomingly increasingly popular in the UK with over £4 billion lent out in 2016. There is a common overlap with guarantor loans because the loan sum generally runs in the thousands of pounds and is used for lifestyle changes such as home renovations, weddings and growing businesses.
There are approximately 33 lenders in the UK, according to the Association of Short Term Lenders, with the most successful lenders including Precise Mortgages, Masthaven and MT Finance – a bridging loans company.
What is a Bridging Loan?
A bridging loan is a type of short-term loan to ‘bridge the gap’ between a purchase and sale of something, but there is a short flow of cash in between. The idea is that the borrower applies and receives the loan in one lump sum to pay for their immediate purchase and then repaid the loan when they have sold their property or made sufficient income to repay the loan.
Loans are always secured so the customer is required to put something down as collateral which is typically their property or equity in their business.
This type of finance is therefore used for around 12 to 24 months and customers can borrow anywhere from £5,000 to £25 million, with rates starting from 0.59% per month and funds transferred within 3 to 4 weeks of applying.
The Purposes for Bridging Finance
- Example 1 – The Homeowner
A homeowner is ready to move home and exchange but he is struggling to sell his existing home. He needs the money from his existing home in order to move and cannot pay for the new house without the finance.
With the bridging loan he can borrow the amount he needs, secured on his first home and move to the new house smoothly. Then, when his original house finally sells on the open market or by auction, he can use that money to repay his bridging loan.
- Example 2 – Property Developer
A property developer or investor has found a huge house which he would like to renovate into a block of flats and rent out to the open public, through buy to let. Applying for bridging finance allows him break the traditional chains of a mortgage and get funds within 3 to 4 weeks, rather than taking out a mortgage would could take several months of processing and administration.
The loan drawdown is not intended to pay for the entire property and construction costs as this will be partly paid by the developer themselves, with the loan amount known as the Loan-to-value %. So it is common that the loan will make up 50% or 60% of the overall costs.
When the renovations are complete, the borrower has the option to refinance to another deal (like a remortgage) or if they are selling the property or renting it out, they can use the income to pay off the loan.
- Example 3 – Growing Business
For a fast-growing business, they may need some finance to purchase a new office or equipment. The bridging finance can give them the injection they need and then they can repay the loan when they have generated more income. The loan can be secured against the new business premises, the machinery or even equity in the business. There is also the option of ‘mezzanine finance’ which is a combination of a loan and giving equity in a business in order to access funds quickly.
How The Application Works
Applicants can be made online or by phone with a lender and through their website. It is rare that you will find them on the high street, it is a more corporate and sophisticated loan.
The process begins with you discussing your plans for your finance such as the property or business opportunity. Provided that you meet the initial criteria of the lender, they will offer you a ‘decision in principle’ which is a written commitment that they can offer you a loan assuming that you pass on the checks.
If it is a property that you are purchasing, there will need to be a professional valuation of the place to confirm how much you need to borrow. This will be required along with proof of identification and a business plan highlighting all the different costs involved and the amount you plan to make by selling the property, renting it out or by growing your business.
Some further checks will be carried out such as credit checking (depending on the lender) and affordability measures to confirm your income and to assess the amount you can borrow. If the lender is happy with everything up to this point, they will transfer documents to your solicitor who will review everything, require some final identification and then your loan is ready to be funded.
The application does not require any guarantor to be eligible, instead you have your property or business which acts as security for your loan product.
Bridging finance comes with several different repayment options, with the most common being:
- standard monthly repayments
- interest only
- rolled up
- interest deducted
Standard equal monthly repayments are like your mortgage, consisting of capital and interest. If you have more than one mortgage or loan secured on a property, they will be classified as ‘first charge’ and ‘second charge’ whereby the first mortgage must be fully cleared before any payments can be taken from the second.
You also have the option to pay ‘interest only’ where you are only paying the interest on your loan during the term, starting at 0.59% per month. This means that you will still be required to repay the capital (the land value) at the end of the agreement in one big payment.
It is very common for a lot of developers to use a ‘rolled up’ repayment method, where all interest repayments are rolled up until the end of the loan term. The reason for this is because many customers will be waiting to make their money upon the sale of something such as a renovated property. Therefore, they won’t have much disposable income during the loan duration but should have a huge injection once they sell out and can then repay their loan accordingly.
There is the ‘interest deducted’ method where you only pay the capital and no interest is charged. For example, if you are borrowing £100,000 of which 12% is interest, you will only be borrowing £88,000 and only pay for the capital.
Lenders also offer a combination of the methods above to suit your requirements so that you can maintain a healthy cashflow and still repay your loan within good time. Plus, if you find that you are in a strong financial position and can repay your loan early, you can certainly do so. However, some lenders have high exit fees so be sure to read your terms and conditions and try find the best time to clear your account.