FINANCE: Bridging loans explained

Bridging loans can be powerful portfolio growth tools when used correctly. Joel White, managing director of BTL Group preferred mortgage partners Ramsay and White explains more.

Over the last few years, bridging loans have become increasingly popular amongst property investors and developers looking to grow their property businesses. They are a vital tool for many investors and often the key to getting deals done quickly. But how do bridging loans work? And how can use them in your property business?

WHAT IS A BRIDGING LOAN?

A bridging loan is a type of finance product often used by property investors, developers, business owners and individuals requiring short-term cash to bridge a funding gap until other funds are available or until a long-term finance solution, such as a BTL mortgage, is in place. This type of finance is often used by shrewd investors to start or scale their property portfolios as it allows them to make fast decisions and purchase property quickly.

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WHAT CAN A BRIDGING LOAN BE USED FOR?

As bridging loans are a form of fast and flexible finance, they can be used for various situations. Here are some, but not all, of the most common uses:

Bridging loans are commonly used to purchase a property, access funds to renovate, or apply for planning permission – quickly! In most cases, the funds can be available in as little as one week. This means investors can seize opportunities and act on deals before they’re gone.

• Breaking the property chain If you have found a property you would like to purchase but are waiting for another property to sell, a bridging loan can be used against the property you wish to sell. Once the property has sold, the loan is then redeemed. This means investors can purchase their new investment, find a tenant and continue to earn an income off the property while waiting for the sale of the previous property to complete.

• Property refurbishment If a property needs significant refurbishment or is deemed uninhabitable, many high street lenders will be reluctant to help out. A bridging loan can cover the costs associated with renovation work and can then be paid back by selling the property or taking out long-term finance such as a mortgage.

• Auction purchases Bridging loans make it easy for investors to say yes to properties in a spontaneous auction environment before the bank has approved the mortgage. Auction properties are often uninhabitable and require significant renovation. A bridging loan can provide the funds the investor needs to buy the property and then carry out the work.

WHO IS ELIGIBLE?

A bridging loan can be provided to individuals or companies. To secure a bridging loan, a lender will require a strong exit strategy and security for the loan, such as another property. As security is required, credit history and proof of income are generally unimportant to lenders, and most will accept:

• Employed, self-employed or retired.

• Private individuals, partnerships or limited companies.

• Borrowers over the age of 18.

• Borrowers that live or have a registered address in the United Kingdom.

• Borrowers with a form of security – usually one or more properties.

• Borrowers with a defined exit route to repay the loan.

HOW MUCH CAN I BORROW?

Generally, lenders will offer a minimum of £50,000 and there is no maximum amount

that can be lent. Each lender has its own limit; however, most go to a maximum of 75% LTV (loan to value) of the gross loan amount. This includes any retained interest for the loan term and any arrangement or broker fees. For example, on a property valued at £100,000, the maximum gross loan available will be £75,000. Therefore, the net loan amount (the amount you will receive) will be £75,000 minus the retained interest and fees. Some lenders will offer more than 75% LTV and Ramsay & White can offer up to 100% of the purchase price where additional security is added.

HOW IS IT REPAID?

When taking out a bridging loan, it is important to consider how you will make the repayments. These are always made clear in the loan agreement. Lenders will require details regarding your exit strategy. This is usually the sale of the property or refinancing onto a long-term deal such as a commercial, residential or BTL mortgage. A solid exit strategy can be the difference in the bridging loan being approved or denied.

WHAT SECURITY IS NEEDED?

Most bridging loan providers require property as security. This could be just one property or several. They will secure their loan by taking a charge of the property. If the payments for the loan are not made, you could lose your property.

HOW LONG CAN I GET A BRIDGING LOAN FOR?

A bridging loan is a short-term solution while long-term finance is put in place. At this point, the development is usually sold on, producing an income, or long-term finance is put in place so the loan can be repaid. In general, most lenders offer terms from one month up to a year. However, each individual lender’s terms will vary. In special cases where the borrower can offer a low LTV, bridging finance may be available for up to 18 months. The average bridging loan now lasts 12 months. If finance is needed for longer than this, development finance is often a better solution.

HOW IS INTEREST PAID?

The main cost associated with a bridging loan is the interest and there are three ways a lender can charge this:

• Monthly interest: The interest is paid off each month and not added to the loan.

• Deferred or rolled up: The interest is added to the final amount which is paid at the end of the loan term. For example, if you borrowed £100,000 and £1,000 interest was added at the end of the first month, the total owed would be £101,000. In month two, £1,100 in interest will be added, taking the total to £102,100 and so on.

• Retained: The total interest is calculated at the beginning of the term, based on how long you’re borrowing for and is paid at the end of the loan term. For example, if you borrow £100,000 at 1% interest for 12 months, the total amount owed at the end of the 12 months would be £112,000. If you pay off the loan early after just six months, the amount due would reduce to £106,000.

Because a bridging loan is short-term finance, the interest rates are calculated monthly. Commercial property rates are higher than those secured against a residential property, and loans against land generally have the highest rates. The higher the level of risk, the higher the interest rate will be.

WHY USE A BRIDGING LOAN BROKER?

The property industry can be fast-moving, and when a bridging loan is needed, it’s often needed fast. Some investors have long-standing relationships with their lenders and go directly to them. However, this is not always the best route to go down as there are other options worth knowing about. And if you’re a first-time investor, you simply might not know where to start. A broker has access to the whole of the market, will have experience in sourcing bridging loans and will have built up a strong relationship with lenders. This means they can prevent issues in the application that can cause delays, secure the best deal for your project and save you money. Getting a bridging loan with the best terms is crucial for the success of your project and an experienced broker can make all the difference.