Bridging loans are a form of finance that has seen a significant increase in use as of late. Although niche, bridging finance offers borrowers a range of key benefits, from fast access to capital, to the capacity for high-value loans. While an ideal solution for many scenarios, bridging finance has been particularly relied upon by property buyers, who need a speedy solution to seize fleeting opportunities.
Despite these key advantages of using bridging finance, purchasing property isn’t cheap, and prospective buyers would do well to understand the cost of a bridging loan before taking action. In this article, we will discuss exactly that, providing an overview of the costs associated with this form of finance, so you can determine whether it is the best for your situation. Let’s get started.
What is a bridging loan?
A bridging loan is a short-term form of finance that essentially acts as a bridge between the purchase of an item or property, and a long-term solution. As we mentioned, bridging finance is an exceptionally quick financial solution that can raise large sums of money at short notice. This is accomplished by using physical assets as collateral, against which the loan is secured. The value of these assets is directly tied to the overall value of the loan, meaning a borrower could take out a loan worth millions, if they had assets of sufficient value and found a willing lender. Though useful, this constitutes a risk to borrowers, as defaulting on the loan entitles the lender to seize collateral assets as repayment.
In practice, bridging finance can be used to purchase a wide range of assets, though property is amongst the most common. In such a scenario, borrowers would take out a bridging loan using their existing property as collateral. They would then purchase a new property, be that a home or a development project, then arrange a long-term solution. For example, the borrower could sell their previous property in which they had equity, then use the funds to repay their bridging loan. Alternatively, the bridging loan could be replaced by a long-term financial solution, such as a traditional mortgage.
The cost of a bridging loan
Bridging finance is a highly flexible financial solution. While extremely useful, this massive advantage over other forms of finance comes at a comparatively high cost. This cost comes in the form of both interest and associated fees, which does leave some room for variation from lender to lender. As always, it’s important to read the fine print for the full idea of what you can expect your particular loan to cost you. Here are the costs you should look for:
Broker fees
Many bridging loans have a broker that introduces a borrower to an appropriate lender. For their services in doing so, the broker will charge a fee, though the exact cost is highly dependent on the broker. Oftentimes, the lender will pay this fee, but if they don’t, it will fall to you instead.
Valuation fees
As bridging loans are secured against physical assets, an official valuation must be carried out for the protection of both the lender and the borrower. As such, a professional valuer must be brought in to carry out this valuation, with the cost being at least £250 per asset. The exact price depends on the value of the asset, with the cost of especially high-value assets reaching the tens of thousands.
Arrangement fees
When taking out a bridging loan, an arrangement fee will be charged. The borrower will pay this fee to the lender, typically amounting to around 1% of the overall value of the loan. Moreover, an administration fee will typically be included at the end of the loan, also amounting to around 1% of the loan’s overall value. Some lenders will factor this fee into the loan’s interest rates, meaning it will be paid off naturally during the course of the loan. Others, however, will apply this fee at the end of the loan’s repayment term. Again, the exact cost of these fees is dependent on the lender.
Deposit
Lenders will expect the borrower to put forward a deposit for the purchase of the asset. While the exact percentage will differ from lender to lender, most will expect a deposit of 20-30% of the asset’s value. The remaining sum will be provided by the lender, with this percentage being referred to as Loan to Value, or LTV.
Interest rates
One of the main factors influencing the cost of a bridging loan is interest rates. Your bridging loan’s interest rates will be most impacted by the LTV, with a higher LTV resulting in a higher interest rate. Most bridging loan interest rates will vary between 0.4% and 1% per month, though lenders are likely to increase these rates for commercial properties, as they constitute a higher risk to the lender.
With a bridging loan, interest payments can be made in one of several ways. For example, you could choose to take out a bridging loan with retained interest. In this scenario, your interest will be calculated based on the number of months in the agreement, with the value being added to the loan. Alternatively, you could opt for a deferred interest agreement, meaning you won’t pay any interest as long as you repay the entire loan within a specific time window. These options, and the several other options available for bridging loans, offer a level of flexibility that is hard to match with other financial solutions.
Wrapping up
In short, the cost of a bridging loan heavily depends on the lender and your specific circumstances, but there are common costs to look out for. While interest will undoubtedly be the main factor in how much your bridging loan costs, it’s essential not to overlook the smaller fees that could come together and cost you more than you expected. As such, it is strongly advised that you carefully read over your particular loan agreement before signing along any dotted lines. Doing so can save you from any nasty surprises and unexpectedly high costs.