Those looking to purchase real estate typically use bridge loans to facilitate the transition from one home to another while the first is still on the market. While this sounds like the perfect solution, there is still some amount of inherent risk. Bridge loans are commonly used in certain categories of property, so you will need to consider all the pertinent factors related to your scenario in order to determine if a bridge loan is a proper financing strategy for you.
What Are Bridge Loans?
Bridge loans are relatively short term and secured by your existing residence. They function to literally bridge the difference between the sales price of a new property and the and the purchaser’s new mortgage balance, in the event the homebuyer’s current home hasn’t been sold prior to the closing process wrapping up. Essentially, the buyer is borrowing their down payment on the new home before the old home is sold. Although lenders generally have more leeway to accept a higher debt-to-income ratio if the buyer’s new home is a conforming loan, the majority of lenders will cap the home buyer’s debt-to-income ratio to 50% if the new residence is a jumbo loan.
Bridge Loan Pros
Using a bridge loan for a real estate transaction allows the buyer to immediately utilize the built-in equity in their current home to acquire a new residence without having to put the process on hold until the old home is successfully sold. Additionally, some bridge loan packages may not require monthly installment payments for the first couple of months and they grant the borrower some degree of flexibility in terms of payment when there is an established source of cash flow. Another option available to the buyer is to remove the contingency to sell and still progress with the property transaction if they have submitted a contingent offer to buy a new property and the seller issues a notice to perform.
Bridge Loan Risk Factors
The typical bridge loan carries a slightly higher interest rate than typical home equity loans. Usually, bridge loan interest rates will run on average approximately 2% higher than a standard 30-year, standard fixed-rate mortgage. Some borrowers may also be concerned with having to pay two mortgage balances while they accrue interest on a bridge loan. If the old residence for sale is not receiving any traction from potential borrowers, it may add to this stress surrounding more long-term financial concerns. That being said, a lot of sellers will refuse to accept an offer that is contingent on the sale of the buyer’s existing home—especially in a seller’s market. Acquiring a bridge loan in order to remove this contingency can make a buyer’s purchase offer considerably more attractive to sellers, which can be a crucial edge in competitive markets.
Bridge Loan Basics
Not all lenders have established set guidelines regarding minimum FICO scores or debt-to-income ratios that borrowers have to meet in order to obtain a bridge loan. In these scenarios, the decision on whether or not to fund is more influenced about whether or not the transaction is reasonable and makes financial sense from a financial perspective. The portion of the underwriting process that requires formal guidelines is the more long-term financing decision regarding the new home. There are lenders who will sign off on conforming loans that exclude the bridge loan payment solely for qualifying purposes. The borrower is qualified to purchase the new home by merging the existing mortgage payment if it exists with their new home.
The Bottom Line
If you do not have the requisite liquidity and your existing residence is still lingering on the market, the option of funding the down payment for your new home using a bridge loan may be the perfect fix to a short-term cash shortage. If you are confident that your old home will eventually sell, or if you have a secondary plan in place to financially accommodate having to make multiple mortgage payments, the primary advantage of a bridge loan is that it enables you as a buyer to avoid having to make contingent offers—which could give you a leg up on competing buyers.
If you are looking to partner with a hard money lender on your next bridge loan, reach out to Express Capital Financing today. We offer competitive rates and have over 30+ years in the industry.