In real estate dealings, you may find yourself in situations where you need immediate funding to complete any transaction. This usually happens if you’re looking to buy a new home before selling your current property.
To bridge the financing gap in such a scenario, investors or homebuyers use a bridge loan. Graana.com, Pakistan’s smartest property portal, tells you about what is bridge loan in real estate and how it works.
What Is a Bridge Loan in Real Estate?
A bridge loan is used by individuals and businesses to cover any kind of short-term expenses. This allows borrowers to get immediate cash flow until permanent financing for a business or deal is secured.
In real estate, this bridge loan is used by homebuyers or investors during the transitional period as they need capital to move from their current residence to a new one. These bridge loans are secured by pledging any asset as collateral to the lender.
In most cases, the borrowers use their current home as collateral to get this interim financing. Generally, bridge loans have higher interest rates and often last between six months or a year.
However, in these types of loans, you get financing much faster compared to traditional long-term loans.
How Bridge Loans Work in Real Estate
People may find it difficult to make a down payment for their new home if they haven’t received the proceeds from the sale of their current home. To cover the costs, homebuyers or investors take out a loan from a lender using the current property.
Through this loan, the homebuyer can get a home loan for 6 to 12 months. However, not all financial institutions offer these types of loans. Hence, you need to do some research before going to a lender.
Also, the lenders usually don’t extend the time frame, which makes it quite risky for homebuyers. If the borrower is unable to sell the existing property before the given time period, the lender could opt for foreclosure.
Thus, it is important to devise a plan for loan repayment with the lender beforehand.
How to Get a Bridge Loan for Buying a House
In order to obtain a bridge loan from a lender, you have to meet certain criteria. The lender will assess your home equity, credit score, household income and debt-to-income ratio before approving the financing facility. There are a lot of banks providing home loans in Pakistan.
If you’re able to secure the loan from the lender, you can use it to purchase the desired property while also keeping the current one. After selling the latter, you can use the profit from the sale to pay off the debt.
How Much Bridge Loans Cost
Usually, this kind of financing costs the borrower more compared to traditional loans due to higher interest rates. In addition, borrowers also have to pay closing costs and other administrative fees to get a loan from the lender.
Some of these costs include:
- Application fee
- Notary fee
- Appraisal fee
- Loan origination fee
- Escrow fee
Pros and Cons of Bridge Loans in Real Estate
Before applying, you should take the different advantages and disadvantages of a bridge loan into account to make an informed decision. For your convenience, we have listed them below.
Pros of Bridge Loans in Real Estate
Following are some of the benefits of obtaining bridge loans.
Access to Quick Cash
The best thing about a bridge loan is the easy access to cash for time-sensitive transactions.
The benefit of getting a bridge loan is that you don’t have to rely on any kind of emergency plan. Through this loan, you can get the funds for buying a new home before selling the existing one.
A bridge loan takes less time for you to get financing compared to a traditional loan.
Cons of Bridge Loans
Following are some of the drawbacks of bridge loans in real estate.
One of the drawbacks of this financing facility is that the interest rate is generally higher compared to the average mortgage loan.
The lender can increase the interest rate according to the level of risk involved in the transaction.
Generally, homebuyers use bridge loans to acquire a new property before the sale of an old one. If you’re unable to sell it on time, you may end up owning two properties at the same time.
This can cause a lot of distress as you will have to manage both properties simultaneously.
In order to get a bridge loan, you need to pledge an existing property or any other asset as collateral to the lender. If you’re unable to sell it on time, then you may not be able to make the loan repayment.
In this case, the lender has the authority to move forward with foreclosure proceedings, which means taking possession of the property pledged as collateral.
Alternatives to Bridge Loans
A bridge loan is a convenient way of getting capital for purchasing a property before the current home is sold off. However, this isn’t the only way to arrange finances.
There are other types of loans like home equity loans, home equity line of credit loans (HELOC) or personal loans that can provide long-term financing facilities for time-sensitive transactions in real estate.
Bridge loans offer a lot of flexibility to customers, making it easier for homebuyers to purchase new homes. However, the challenge for you is to get your finances in order within time so that you are able to pay off your debt.
To know about other financing options, visit the Graana blog.