You have fallen in love with your ideal home, and your offer has been accepted. There is just one snag - you can't get shot of your old house quickly enough and the deal is at risk of falling through. A bridging loan may be the only way to keep the deal on track.
These loans are expensive and are usually considered to be a last resort. But if a bridging loan can tide you over in the short term then the extra expense may save you from losing money already spent in the purchase process, as well as reducing stress.
Activity in the bridging-loan market is small scale, especially during a property boom when there is rarely a problem with selling a home quickly. But when the market slackens off, more home owners are forced to consider these loans.
There are two main types of bridging loan: the 'closed' bridge and the 'open' bridge. A closed bridge is only available to homebuyers who have already exchanged on the sale of their existing property. Very few sales fall through after exchange, so lenders are happy to offer closed-bridge financing.
An 'open' bridge is taken out by buyers who have found their ideal property, but may not have put their existing home on the market. A bank will ask lots of questions and want supporting information. It will also insist on you having lots of equity in your existing property.
The lender will expect to see the mortgage offer on the new property, the property details and may ask for other proof that your current home is being actively marketed. It will also want to know how you will meet the interest payments and ask what your exit strategy will be if the sale were to fall through a few months down the line.
Most lenders put a 12-month limit on an open bridge. After that, they will probably renegotiate as long as you have paid the interest during the period and the property market hasn't collapsed.
All bridging deals involve high interest rates. Usually it is the Bank of England bank rate plus 2% to 2.5%. There is also an arrangement fee ranging from 0.5% to 1.5% of the value of the loan.
Some lenders charge higher rates of interest and lower arrangement fees. There are also specialist lenders that are faster at issuing the cash, but borrowers can expect to pay a high price for the privilege.
Deciding whether to go for a lower rate of interest or a lower arrangement fee depends on your circumstances. If you are confident that the sale will go through within a few weeks, then it is better to pick a loan with a lower arrangement fee. If you think you may end up bridging for many months, then the fee becomes a smaller part of the overall cost.
If you are uncomfortable with bridging loans, you may consider letting your old home instead.
It works like this: you remortgage your existing property to release enough equity to pay a deposit on a mortgage for the new home. The mortgage on the old home is then converted to a buy-to-let deal (as long as your lender lets you), with the rental income used to cover the mortgage repayments.
The mortgage on your new home is based on your income as normal. It is a good way to test the water as a landlord. If you don't like it you can sell the property when the tenancy agreement runs out. Make sure you research the local renting market before taking the plunge.