Suppose you’re on the hunt for your next home and stumble on the perfect place. The catch? You haven’t yet sold your current house. Good news! With the right financial credentials, you might qualify to finance the purchase of that new abode even before you sell your current home. Bridge loans, as they’re called, provide a little breathing room during the transitional period of moving from one house into another. As with any other major loan, a bridge loan comes with plenty of advantages and drawbacks. Here’s what you should know about bridge loans.
1. Bridge Loans May Be Structured in Different Ways
A bridge loan may be structured in different ways, depending on the lender. The more popular structure enables borrowers to pay off their current mortgage and use the remaining amount toward a down payment, plus closing costs and fees, on a new home. Alternatively, you might have a bridge loan that acts as a second mortgage, and you use all of the money toward your new home.
2. Bridge Loans Are Short-Term Loans
By nature, bridge loans are short-term — the payment term is usually no longer than six to 12 months. You’re expected to pay off the loan, plus fees and interest, once your original house sells.
3. Lenders Approve Bridge Loans at 80% of the Current Mortgage
A lender will typically allow you to borrow 80% of the value of your current home. For example, let’s say your current home is worth $225,000 and you still owe $125,000 on the mortgage. The bridge loan would probably be approved at 80% of the home’s value, or $180,000. That would give you enough cash to pay off your current mortgage, with $55,000 still remaining to put toward a down payment and closing costs on your new home.
4. Bridge Loans Are Expensive
If you qualify for a bridge loan, expect the interest rate to be steep. That means it’ll likely be higher than a home equity loan or standard fixed-rate mortgage. Although the lender might allow you a few months before you need to start making payments, you’ll owe interest on the entire loan once the property is sold. You’ll also be responsible for fees for administration, loan origination, appraisal, escrow, and title policy.
5. They Can Be Tough to Qualify For
What you should know about bridge loans is that, generally, you’ll need to be a longtime homeowner to qualify. You’ll have to show at least 20% equity in your current home, as well as a low debt-to-income ratio and a stellar credit record. While the financial requirements vary from lender to lender, generally you should expect to have a solid credit score — at least in the mid-600s.
6. They’re an Alternative to a Contingency Offer
If you’re anxious to make an offer on a home but haven’t yet sold your current home, you might make an offer that’s contingent on first selling your current home and obtaining financing for the new one. Thanks to a bridge loan, you can avoid contingent offers and, instead, put up the cash up front, which sellers tend to appreciate.
7. Bridge Loans Are Available From Various Sources
You can find lenders offering bridge loans at a bank, credit union, or private lender. For the most favorable rates, it’s best to obtain the bridge loan from the same lender that’s handling the long-term financing or mortgage for the house you plan to buy.
8. The Approval Process Is Fast-Tracked
Lenders understand that borrowers seeking bridge loans need the funds quickly in order to close on the new home. That means that the period between the application and the closing of the loan is much shorter than the process for other loans.
9. Risk Is High
As a condition of the bridge loan, you put up your current home as collateral. If the loan term expires and you still haven’t sold your former home, there’s a chance you’ll be able to request an extension from the lender. However, if the extensions run out as well, the lender could foreclose on your old home. Even if that doesn’t happen, you might face the possibility of paying an expensive bridge loan in addition to the mortgage payment on your new home — which could equal a financial disaster.
Less Risk, More Rewards
What you should know about bridge loans: They’re risky, but could pay off in the end in certain situations. Whether you choose to apply for a bridge loan or find alternate funding sources, make sure your credit is in optimal shape so you can qualify for the best possible rates. Learn more when you contact the team at Ovation Credit for a free consultation today.