Bridging Loans UK: What Are They & How Do They Work?
How does a bridge loan work in the UK? A guide
As a short-term financial solution, bridge loans are helpful for people who need a loan quickly and plan to repay within a short amount of time.
In real estate, they are often used to bridge the gap between buying a property and receiving the money from the sale of your current home.
What is a bridge loan?
A bridging loan is a short-term secured loan designed to tide you over between the points of a new purchase and receiving money from a previous sale.
What is a loan exit plan?
To access bridging finance, you and your financial lender must formulate an exit plan together. This is the strategy you intend to implement to repay the loan, which could be the sale of a house or securing a new long-term mortgage plan. The exit plan devised must be achievable and acts as reassurance for you and your lender.
Your lender will check with you three months before your repayment deadline to ensure the exit plan is still in action, allowing you to make any alterations you or your lender may need.
What can a bridge loan be used for?
The most common use for a bridging loan is managing the purchase gaps in the property market.
For example, if you buy a house at auction, you will be required to pay immediately. However, if you haven’t sold your current property yet, you could take a bridging loan out to ‘bridge the gap’. The same goes for a traditional property sale.
Another common use of this form of loan is during divorce settlements.
The advantages of a bridging loan
Firstly, short-term financing is generally more adaptable than a regular loan. Specialist finance of this type is not always authorised and regulated by the Financial Conduct Authority; therefore, lenders can afford to adopt a more flexible approach to assessing deals.
Your lenders should consider your unique circumstances and be happy to go on your financial projections.
Secondly, bridge loans can be arranged quickly, sometimes within days. This allows you to make immediate purchases that would be impossible with a regular mortgage or loan.
Instead of using your credit history or income, your suitability for this loan is determined by the property value. This gives people with difficult credit records or income issues a good chance of being accepted.
Do you pay a bridging loan back monthly?
Bridge loans are designed to be short term. Bridging loans generally charge month-to-month interest rates. Therefore, a slight difference in interest rate can dramatically affect the overall cost of a bridge loan.
However, the interest is not always charged month by month. A regulated bridging loan (a loan secured against or used to purchase a property) includes the option of ‘rolling" up your loan's interest. This means that at the end of your term of finance, you pay the bridge loan interest rates in one via the exit strategy agreement. This is an alternative to incurring monthly interest rate payments, which can be a financial burden.
This structure can be helpful to homeowners who want to use the loan entirely for the purchase of their new property. It also helps relieve the financial strain on those already keeping up payments for a residential mortgage. Be aware that if you choose this route, your total will include the interest of the loan.
If you are a non-regulated investor borrower, you can also choose this option. This can relieve the pressure on immediate cash flow throughout the project, as you avoid monthly interest rates.
What kinds of bridging loans are available?
There are a few different types of bridge loans, with varying rules in terms of repayment. Two of the most commonly used are:
A closed bridging loan, which has a fixed repayment date when payment is expected. There will be a short time of months or even weeks to repay what you owe.
Open bridging loans, which have no set end date and can be repaid whenever the funds become available. These usually last for about 12 months.
Unsurprisingly, an open bridging loan costs more than a closed bridging loan because they are more flexible and pose a higher risk for the lenders.
Which loan should I choose?
When choosing your bridging finance, there are a few essential factors to consider before borrowing money. These include:
- The amount of money you need
- How much your property is worth
- Whether you have a mortgage
- How long you need to repay the loan
How much can you borrow with a bridging loan?
Bridging loans tend to be between £5,000 and £10 million, so it’s crucial to figure out exactly what your requirements are in terms of the figure. If you know you can pay back your loan quickly, it makes sense to get the cheaper closed bridge loan.
Either way, it is essential to secure a safety net before taking out a bridging loan. This is to ensure repayment should something go wrong.
Your property value will affect how much you’ll be allowed to borrow and the bridging loan rates offered. Your mortgage situation is also important, as that will dictate whether you can get a first charge or second charge loan.
What is a first or second charge loan?
When a bridging loan is taken out, a ‘charge’ is made against your existing property. This acts as the legal agreement which dictates who your repayments will go to first, should you not be able to pay them yourself.
If you have a mortgage, your bridging finance acts as a ‘second charge’ loan. This means that if you default on your payments and the property is sold to clear your debts, the mortgage would be paid off first.
However, if you own your home outright, you will be taking out a ‘first charge’ bridging loan, which means that the bridge loan would take priority.
Due to their nature, you will be able to take more money out on a first charge bridging loan than a second.
Do you need a deposit for a bridge loan?
In some cases, you need to pay a deposit for a bridge loan. Whether or not you need to pay a deposit will depend on:
- The amount your borrow
- The value of the property sale
- Your lender
- The LTV (loan to value)
If your lender does require a deposit, it's likely to be between 25%-35%.
How do I get a bridging loan?
As you might have guessed, acquiring a bridge loan isn’t always straightforward. There are many factors to consider, and you will be presented with numerous options. Finding the right loan can be intimidating and time-consuming, and it’s different for everyone depending on their situation.
It is always recommended to seek the counsel of a trusted broker who understands exactly how bridging loans work. A broker will provide advice that is unique to you and your circumstances.
After many years in the industry, The Lending Channel prides itself on providing the best bespoke financial advice on the market. Whether you have a question that needs answering or looking for the best rates around, our team is here to help.
Get in touch today for free, no-obligation loan advice.