What’s a Bridging Loan? And Should I Get One?
If you’re looking to buy a new home before selling your current one, a bridging loan could be the solution to help you manage the transition smoothly. But what is a bridging loan and is it the right choice for you? In this guide, we’ll break down everything you need to know, including how does a bridging loan work, the pros and cons and what alternatives you might consider.
Bridging Loan Basics
So, what is a bridging loan? It’s a short-term finance option that allows homeowners to purchase a new property while waiting for their existing one to sell. It provides temporary funding to cover the period between buying and selling a home, ensuring you don’t miss out on your dream property.
Now, how does bridging finance work? Here is a simplified outline of the process.
- Purchase Your New Property – You secure a bridging loan to cover the cost of buying your new home.
- Covering Peak Debt – Your total loan amount (called Peak Debt) includes your new property price plus any outstanding mortgage on your existing home.
- Capitalised Interest – Interest on the loan is often added to the total debt, meaning you may not need to make repayments until your existing home sells.
- Selling Your Existing Home – Once your current home sells, the sale proceeds go toward repaying the loan.
- Finalising End Debt – Any remaining debt transitions into a standard home loan, often at a lower interest rate.
To further show you what this type of a loan can do, here’s an example scenario of bridging finance.
Let’s say you own a home worth $600,000 with an outstanding mortgage of $200,000. You find a new property for $800,000 but haven’t sold your current home yet. A bridging loan covers the $800,000 purchase price + the outstanding $200,000 mortgage while you wait to sell your existing home. Once your current home sells, the proceeds pay off part of the bridging loan (in this case you may have $600,000 sale proceeds to put towards the total $1,000,000 bridging loan), leaving you with a standard mortgage on your new property of $400,000.
New Property Cost: $800,000
Existing Mortgage: $200,000
Total Bridging Loan Required:
$800,000 (new property) + $200,000 (existing mortgage) = $1,000,000
Sale of Existing Property: $600,000
Debt after sale:
$1,000,000 – $600,000 = $400,000
Types of Bridging Loans
Bridging loans come in different forms, with “closed” and “open” being the two main types. Understanding their differences can help you determine which option suits your financial situation best.
Closed Option
- Suitable if you already have a buyer for your existing home with a confirmed settlement date.
- Less risky since the loan term is short and predetermined.
- Usually has lower interest rates than the open type.
Open Option
- Designed for borrowers who haven’t yet secured a buyer for their current home.
- More flexibility, but higher risk as there is no guaranteed settlement date.
- Lenders typically require a solid exit strategy.
Eligibility Criteria for a Bridging Loan
Lenders will assess your financial position before approving such a loan. Here are the common eligibility criteria:
- Minimum Equity Requirement – Most lenders require you to have at least 20% equity in your current property.
- Stable Income – You need a steady income to demonstrate your ability to repay the loan.
- Good Credit History – A solid credit record improves your chances of approval.
- Exit Strategy – Lenders want a clear plan on how you intend to repay the loan (e.g., selling your property within a set timeframe).
Costs & Interest Rates
Understanding the costs and interest rates associated with this financing option is crucial for making an informed financial decision. These loans often come with unique fee structures and interest calculations that differ from standard home loans.
Interest Rates
- Bridging loans typically have higher interest rates than standard home loans due to the short-term nature of the financing.
- Rates vary based on the lender and whether interest is capitalised or paid monthly.
Additional Costs
- Establishment Fees – One-time setup fee for the loan.
- Valuation Fees – Lenders require property valuations to determine borrowing capacity.
- Early Exit Penalties – Some lenders charge penalties if you repay the loan earlier than expected.
Pros and Cons
Before considering this kind of a loan, you should first check the benefits and potential drawbacks of this financing choice so you can see if it aligns with your needs.
Advantages
- Avoids the stress of selling first – You can buy a new home without rushing to sell your existing one.
- Flexible repayment options – Interest can be capitalised, meaning no immediate repayments.
- Fast access to funds – Allows you to act quickly on purchasing opportunities.
Disadvantages
- Higher interest rates – compared to standard home loans.
- Market risk – If your property takes longer to sell, you could end up paying more in interest.
- Additional fees – these can add to the overall cost.
Are Bridging Loans a Good Idea?
Bridging loans can be a great tool if used correctly, but they do come with risks. They work best for buyers who:
- have strong equity in their existing home
- have confidence their property will sell within a reasonable timeframe
- need to buy a new home quickly but don’t want to rent in the interim.
However, if you’re unsure how long it will take to sell your current home or you’re uncomfortable with the potential costs, exploring other financing options may be a safer route.
If a bridging loan doesn’t seem right for you, consider these alternatives:
- Deposit Bond – A short-term guarantee that covers the deposit on your new home without needing upfront cash.
- Extended Settlement Period – Negotiate a longer settlement period on your new home to allow more time to sell your current property.
- Renting Temporarily – Sell your home first, rent for a short period and then purchase a new property with a standard home loan.
How to Apply for Bridging Finance
Working with a mortgage broker can simplify the application process and help you secure the right deal for your situation. Here’s how the process typically works:
1. Consult a Mortgage Broker
A mortgage broker will assess your financial position, including your equity, income and credit history, to determine your eligibility for this loan.
2. Property Valuation
They will arrange for a professional valuation of your current home, which lenders require to determine your borrowing capacity.
3. Compare Lenders & Loan Options
They will also research different lenders, interest rates and fees to find the most suitable bridging loan for your needs.
4. Prepare & Submit Your Application
With your mortgage broker’s assistance, you’ll gather necessary documents such as proof of income, property details and an exit strategy before submitting the application.
5. Loan Approval & Funds Released
Once approved, your lender will provide the necessary funds to complete your new home purchase and your mortgage broker will help you understand repayment terms and next steps.
A mortgage broker can guide you through each step, making the process smoother and ensuring you get the best possible terms for your bridging loan.
Get Expert Advice and Help on Bridging Loans with NBHL
Navigating these types of loans can be complex and choosing the right option depends on your financial circumstances. Working with an experienced mortgage broker can help you understand the best solution for your situation.
At North Brisbane Home Loans, we specialise in helping homeowners find the best finance options for their needs. Contact us today for a free consultation to see if a bridging loan is right for you!
Patrick Cranshaw, a Certified Mortgage Professional for over 21 years, founded North Brisbane Home Loans in 2002. His career began with ANZ Bank in New Zealand, where he progressed over 16 years to a Business Banking role in Virginia. After moving to Brisbane in 2000, Patrick led the QLD market for a home loan agency, helped set up the REMAX Real Estate Finance division, and practiced as a broker.
