If you’re looking to buy or build a new home, but haven’t sold your current one yet, a property bridging loan is a popular solution. Essentially, it is a short-term home loan that provides the funds you need to purchase or build a new property.
Once you sell your current property, the proceeds are used to pay off the bulk of the bridging loan, and the remaining amount reverts to a normal mortgage.
Bridging loans are available from both from banks and non-bank lenders (financial companies).
Most lenders offer 6 month bridging loans if you’re selling or 12 months if you’re building a new home.
Bridging finance is calculated by adding your current mortgage debt and the cost of your next property together. The result is called your Peak Debt (the total amount to be borrowed).
The formula might look something like this:
Remaining Debt + Cost of New Property = Peak Debt
Just like any other loan, bridging loans accrue interest. This is calculated monthly and you can either choose to pay it off each month or have it added to your Peak Debt. This is known as capitalised interest. It’s important to note that not all lenders offer the capitalised interest option.
Bridging finance explained. Let’s look at an example.
Miss Smith has her eye on a property worth $700,000, but she hasn’t sold her current property yet. A valuation has found her current home is worth $550,000 and she has $200,000 remaining on her mortgage. If she took out a bridging loan, here’s what it would look like:
$200,000 + $700,000 = $900,000 Peak Debt.
With the purchase of her new home, Miss Smith now has a short-term debt of $900,000. For the sake of simplicity, let’s say she pays off the interest on this loan each month while her old home is on the market.
When Miss Smith’s old home sells for $550,000, the net proceeds of that sale pay off the bulk of her loan, leaving her with $350,000 of End Debt remaining. This End Debt is then converted into a normal mortgage.
$900,000 (Peak Debt) – $550,000 (proceeds from selling her old home) = $350,000 (End Debt).
There’s no denying that bridging loans are useful. However, they do come with a few inherent risks that buyers and sellers need to know.
Always get advice from a mortgage broker or your bank before you take out a bridging loan. This type of finance has a number of caveats and professional guidance is essential to using them effectively.