Bridge loans are certainly a useful form of finance, as is perfectly illustrated by their meteoric rise in popularity over recent years. They provide sizable loans in a remarkably short space of time, allowing borrowers to seize upon commercial opportunities, or make a cash purchase of a good in their chosen market. These advantages have been of particular use for those in the property development industry, and those simply looking to purchase a new home. However, despite the excellent benefits offered by bridge loans, they are not always the best option for a borrower.
Enter the HELOC. A HELOC, or Home Equity Line of Credit, is another financial option that is especially useful when shopping for property. Similar to bridge loans, a HELOC can be used to leverage the equity in a property to quickly raise substantial amounts of capital for various applications. However, the two have fundamental differences and aren’t always good fits for every situation.
In this article, we will discuss bridge loans vs. HELOCs, provide an overview of each form of finance, how they work, and what situations they are most appropriate for. Let’s get started.
What is a bridge loan?
Bridge loans are a type of secured loan, one that can be used to quickly raise considerable amounts of capital by leveraging the equity in existing assets. The main reason behind this competitive speed is this use of collateral; by securing the loan against physical assets of sufficient value, the application process is expedited, as other factors common in loan applications are not so important. This means that successful applicants can receive their money in as little as 48 hours.
While certainly a key advantage, the use of collateral does pose a risk for certain borrowers. This is due to lenders placing a lien on collateral assets, which entitles them to repossess said assets in the event a borrower cannot keep up with repayments. For borrowers in a precarious financial position, this could be a likely scenario, one that can exacerbate their financial issues. In addition to this, bridge loans are very short-lived compared to other loans. Most bridge loans last less than 12 months, though some fall on either side of this time frame. Although this might seem quite limiting, it is by design; bridge loans aim to “bridge” the gap between a purchase and a long-term form of finance, rather than be a definitive solution themselves. While this generally works without issue, it can make the financial pressure for certain borrowers more difficult to shoulder.
Also Read: Where Can I Get a Bridging Loan
What is a HELOC?
A HELOC is a strong alternative to bridge loans that can be used to purchase property. With a HELOC, borrowers will establish a line of credit that taps into the equity they have in a property they already own. This framework offers two key advantages from the starting line. Firstly, borrowers can take out loans appropriate to their held equity, which can lead to loans of substantial value. Secondly, a HELOC acts as a form of revolving credit, meaning borrowers can draw as much or as little as necessary, pay it off, then tap into the line of credit again once it is needed.
While certainly advantageous, a HELOC could pose a risk for borrowers in a rocky financial position. It works similarly to other secured loans, with physical assets being used as security. In the case of a HELOC, this asset is equity in a property owned by the borrower. In the event the borrower cannot make repayments, this equity can be repossessed as a form of payment, leaving the borrower in a very difficult situation, to say the least. As with all forms of secured finance, a level of caution is advised.
Differences between a bridge loan and a HELOC
Although both forms of finance are quite similar in certain aspects, they are decidedly different in others. One of the foremost differences is cost, with bridge loans being the more expensive of the two. HELOCs often come with fairly low-interest rates when compared to bridge loans, and don’t tend to have other costs, such as closing costs. HELOCs also aren’t as short-term an option as bridge loans, allowing a borrower to spread their repayments out over a much longer period of time, lessening the financial strain borrowers must face. However, this is not the only difference.
Also Read: Is It Possible To Get a Bridging Loan With No Deposit?
One of the reasons HELOCs are a little less taxing on a borrower’s finances is how they are structured. A HELOC is not a single-use form of finance, but rather one that can be tapped repeatedly as and when money is required. For example, a borrower might require £100,000 for a particular development project, yet only draw money in intervals of £10,000 as it is required throughout the different stages of the project. This has two key advantages; borrowers will not have to face significant expenses, and they will benefit from greater flexibility, making a HELOC perfect for an ongoing development project. Conversely, bridge loans will release a single lump sum to the borrower, who must take out a second loan if this sum is insufficient. While perfectly viable when purchasing property with a single expense, it is not so good a solution when additional financial flexibility is needed.
Time Frame
The time frame of each loan is the last key difference we will discuss. As we mentioned, bridge loans tend to be no longer than 12 months, with plenty being even shorter. This means the borrower will need to pay the value of the loan in full within this time, or find a suitable exit strategy. However, a HELOC is not nearly so brief. It is possible to make repayments over a ten-year period, allowing for a much more manageable set of repayments for the borrower.
Wrapping up
Both bridge loans and HELOCs have their place in a property developers toolbelt, and are great solutions for a wide range of applications. However, they both have their best-case scenarios. Bridge loans are particularly good at paying a single expense in a very short space of time, though they do not offer the flexibility demanded by unforeseen costs mounting up. HELOCs are much more suited to this, allowing a borrower to tap into a revolving line of credit as needed. Regardless of which loan you choose, always remember to obtain professional advice before taking action to make sure you settle on the best option for you.