If you are thinking about changing houses, you might have heard about bridging loans. In case you are not aware of what these are, then let us help guide you. Let’s say, after months of search, you have found the perfect house for yourself in your budget. Now that you have finally found a place, you don’t want to lose it to someone else. But, what can you do if you haven’t sold your previous house, which has some mortgage left that needs to be paid? In such a situation, you can consider taking a bridge loan.

A bridge loan is a special kind of short-term finance that is designed to cover immediate financial needs. This can give you time to sell your previous property, even if you have a mortgage to pay. Essentially, it creates a financial ‘bridge,’ allowing buyers to cover the gap between purchasing and selling the house. But, there are so many features of this type of finance that you have to consider, such as interest cost and conditions, before you sign the agreement. You can calculate your loan here if you want to weigh in on the financial responsibilities of taking out a bridge loan.

What are bridge loans?

Typically a bridge loan is an additional finance; you can take it out and your existing mortgage/ home loan. This means when you are trying to sell your old house, you will get two loans and will have to pay interest on both loans. 

Generally, a bridging loan has a:

• A form of interest-only home loan
• A limited-term loan
• Value that is calculated based on the equity in your existing house
• Special terms and conditions, like a lender can charge a high-interest rate if the house is not sold within a set timeframe.

The way these loans are structured differs from lender to lender:

• Some bridging finance only needs you to make repayments on your original loan amount until your new house’s settlement.
• However, during the bridging loan term, the loan’s interest gets added to the amount of your loan. Whenever your old house is sold, you will be discharge of your mortgage. Then you can start to repay the bridging loan amount along with interest.
• Some loan structures may need you to make payments on both loans from the time you open a new loan.

You have to remember that because of the added interest that is doubled because of having two loans, the more time it takes to sell the old house, the more interest will be added. This way, you will have to pay more for both loans. The interest over loan is calculated on a daily basis and can be charged monthly. So, the interest can quickly add up, based on the amount you have borrowed. 

           It is also important to consider the length of the bridging period, which typically is six months for buying an existing house and 12 months for a new house. Generally, lenders include conditions in the loan term, which allows them to charge a high-interest rate if you fail to sell your old house within the decided time frame. 

How a bridge loan works?

To understand how a bridge loan works, it is essential to know some key features:

• One lender can provide both loans: when you take a bridge loan, typically, a lender provides a loan for buying the new house, also to cover the existing mortgage on your existing house. Your lender might change the original loan status like shortening of the term or give you a choice to switch to interest-only repayments. There may be costs involved in this process, like charges for the loan alterations.
• Your repayment may change during the bridging term: as we have mentioned earlier, there is a chance that your loan repayment may include payment on one or both loans. Therefore you should check the terms and conditions of the loan before you sign up.
• The ‘Peak Debt’: usually, this term describes the total amount of loan you got from the lender. It is calculated by adding what you want to borrow to the outstanding mortgage of your old house. For instance, if you need to borrow £650 000 to purchase your new house and still have £300,000 on your existing mortgage, your ‘peak debt’ would be of £950,000.
• The ‘ongoing balance’ or ‘end debt’: by subtracting the estimated selling price of the existing house from your peak debt, you will be left with the ‘ongoing balance,’ which will be the overall balance of your new loan. For instance, if you have £950,000 of ‘Peak Debt.’ And you sell the house for £500, 00 then your end debt or ongoing balance will be £450,000.

Overall bridging loans are a good option if you need immediate cash flow to buy a property. If you understand how it works, it can actually be a better option for you than a bank.