What Are Bridge Loans And How Do They Work?

A bridge loan can help homeowners move from their existing home into a new one without undue financial strain. Even if the closing dates aren’t perfectly aligned, you can use funding from a bridge loan to purchase your next home before the sale of your current home is finalized.

Let’s explore exactly how bridge loans work. Plus, whether or not this is the right funding solution for your homeownership journey.

What Is A Bridge Loan?

Let’s start with going over the definition of a bridge loan – also known as a bridging loan or bridge financing.

A bridge loan is meant to “bridge” the financial gap between buying your new home and selling your old one. If you don’t have the funds to purchase the new house without the sale of the old home, then a bridge loan can help.

If you’re like many homeowners, you’re relying on the equity that you’ve built in your first home to fund the purchase of your next home.

Unfortunately, you can’t unlock the equity of your home mortgage until the sale of the home is finalized. That means you might not have the funds on hand to move forward with the purchase of the new property. Bridge loans can step in as a type of short-term loan financing solution. Typically, these loans come with terms of 6 months to a year and interest rates between 8.5% – 10.5%.

How Does A Bridge Loan Work?

A bridge loan is temporary financing that will allow you to buy a new home before you can secure long-term financing. In most cases, you will use the funds of a bridge loan to cover the closing costs of your new mortgage. Many borrowers also use the funds to make a down payment on their new home.

For example, let’s say that you recently took a new job across the state. This exciting opportunity means you need to move as soon as possible. You may need to purchase a new home in a new place before you can sell your existing home. Since the move is unexpected, you don’t have a down payment ready for the new place. So, you turn to a mortgage bridge loan. You find a lender willing to provide a lump sum loan principal to be used for a down payment on a new piece of real estate.

Not all bridge loans are structured in the same way. Some lenders may require you to use the funds to pay off your existing mortgage. Others will just add the bridge loan to your total existing debts. If the lender is adding the loan to your total debts, you’ll have even more loan payments to keep up with throughout this transition period.

In most cases, you’ll be required to repay the bridge loan within 12 months. Depending on the terms of your loan, you may have even less time to repay the loan with interest. The terms of repayment will vary widely based on the lender. In some cases, you’ll need to make monthly payments. In others, you’ll need to make a lump-sum payment at the end of the term.

Bridge Loan Eligibility Requirements

When using bridge loans for a home purchase, the guidelines vary widely across lenders. However, most will want to see a strong credit score and a low debt-to-income ratio.

Even with a strong application, most borrowers will only be able to have access to 80% of the value of the old home. So, you’ll likely need to have at least 20% equity in your current home to qualify for a bridge loan.

When To Take Out A Bridge Loan

As a homeowner or business owner, you might choose to take out a bridge loan for a variety of reasons. A few include:

• When homeowners want to sell their home and buy a property at the same time
• Home buyers unable to make contingent offers in a hot market
• A sudden relocation forces you to secure a new home quickly

Common Bridge Mortgage Costs

As a homeowner, you’ll likely find bridge loan interest rates between 8.5% – 10.5%. But as a business owner, you can expect bridge loan rates to jump up to around 15% – 24%.

Beyond the interest charges, it’s also important to consider the closing costs associated with bridge loans. A few include:

• Application fee
• Credit report fee
• Escrow fee
• Home appraisal fee
• Home inspection fee
• Loan origination fee
• Title policy fee
• Underwriting fee

Although this is not an exhaustive list, it should give you a starting point for how much you can expect to spend on a bridge loan.

Pros And Cons Of Bridge Loans

Let’s look at what advantages and disadvantages you can expect with bridge loans.

Bridge Loan Pros

• Immediate cash flow for borrowers: You can get the breathing room you need for your budget as you make a move into your new digs.
• Quicker mortgage financing option: You’ll often find a quick turnaround time when applying for a bridge loan.
• Homeowners can buy and sell property simultaneously: You can make an offer on a new home without including a sale contingency for your existing home.
• Payment flexibility: Many bridge loans don’t have monthly payments for a few months. Although you’ll have to pay it all back, there is some flexibility for your budget.

Bridge Loan Cons

• High interest rates: Bridge loans have higher interest rates than most traditional mortgages.
• Strict eligibility requirements: You’ll likely need at least 20% equity in your current home to consider a bridge loan.
• Homeowners may pay for two properties at once: You may have to keep up with two mortgages until your old place sells.
• Bridge loan fees: Bridge loans come with a number of fees that could take a bite out of your budget.

Alternatives To Bridge Loans For Home Purchases

A bridge loan isn’t the only option if you are trying to buy a new home while in the process of selling your current one. Here are a few other options to consider.

Home Equity Loan

A home equity loan acts as a second mortgage and will allow you to access the equity you’ve built in your current home in a single lump sum loan. Unlike a home equity line of credit (HELOC), you won’t have ongoing access to your home’s equity. You would need to have enough home equity built in your current home to take out a loan that would cover the expenses of moving into your new home.

Home Equity Line Of Credit (HELOC)

A HELOC on your current home could be a less risky solution than a bridge loan. A HELOC functions in a similar way to a credit card. You’ll be allowed to borrow up to a certain amount and carry a balance along the way. Each month, you’ll be required to make minimum payments.

With a HELOC, you can borrow the funds you need to cover the closing costs of your new home. Once you are able to sell the home, you can pay off the HELOC with the proceeds.

Rocket Mortgage doesn’t offer HELOCs at this time.

80-10-10 Loan

An 80-10-10 loan offers a purchase opportunity for a new home with less than a 20% down payment. In this case, you’d put down 10%, then obtain two mortgages. The first mortgage would be for 80% of the new home’s asking price. The second mortgage would be for the last 10%.

After you sell your original home, you can use any available funds to pay off the 10% second mortgage outstanding balance on your new property. If you are seeking a flexible funding opportunity that eliminates PMI, this could be one option.

Rocket Mortgage doesn’t offer this kind of financing at this time.

Personal Loan

A personal loan could be the right option to cover the down payment on a new home if you have a strong credit history and long-term employment record. Although this kind of loan might need to be secured with your other assets, it could be a good way to access the funds you need.

You can check out your personal loan options online today with Rocket Loans^SM.

Business Line Of Credit

Businesses seeking a bridge loan should consider a business line of credit. This type of revolving credit offers funding when you need it, up to your credit limit. With that, you won’t have to borrow more than you need. Plus, longer loan terms offer a more relaxed debt repayment schedule if you need it.

The Bottom Line

A bridge loan could be the right move for your finances. This is especially true for homeowners looking to move immediately.

Are you considering buying a new home? Take a minute to get approved for a mortgage with our team today.