Bridge Loan: Is It a Useful Funding Option for Your Business?

What is bridge funding?

A bridge loan– sometimes referred to as a swing loan, bridging loan, or gap financing– can be defined as:

A short-term, temporary funding solution that helps “bridge the gap” until a longer-term funding method can be secured by the borrowing party. 

A bridge loan has several unique applications, especially in terms of real estate where a bridge loan can allow you to purchase a new property before selling your current one. 

For that reason, bridge loans are often secured using an existing property. 

Table of contents

1. How do bridge loans work?
   • Bridge loans vs. traditional loans
2. Real estate bridge loans
3. Pros and cons of bridge loans
4. Is a bridge loan for you?
5. Frequently asked questions

How do bridge loans work? 

Bridge loans work differently depending on the reason why they’re being used. 

However, in terms of real estate– the most common use of bridge loans– they work like this:

• The borrower decides they want/need to purchase a new property before selling their current one
• They apply and are approved for a bridge loan
• They then use the equity in their home as collateral for the down payment on the new home loan
• They begin paying back the bridge loan

Keep in mind that it’s possible you’ll need to begin paying back the bridge loan before the old property has sold.

That can put added pressure on you as you’ve just taken up a new mortgage (depending on whether that new mortgage is more or less expensive than the old one). 

Bridge loan vs. Traditional loan

Often, approval for a bridge loan works a bit differently than a traditional loan. 

How are they different? Here are the main ways a bridge loan tends to be different from a traditional bank loan:

• They often have faster approval time and funding speed
• They also typically have higher interest rates
• Terms tend to be shorter than traditional loans, from a few months to one year in most cases
• Approval factors tend to be different than traditional loans as well, with lower FICO requirements and debt-to-income ratio guidelines. 

Real estate bridge loans

As we talked about earlier, bridge loans are common in real estate as they serve as an effective way to close what can be an awkward gap between waiting for a property to sell and buying the next.

With a real estate bridge loan, the property owner can move forward with purchasing that new loan without having to wait for the old property to sell, giving them added flexibility especially if they think the property may take a while to sell. 

How does it work exactly? Real state bridge loans combine the two mortgages together, with the loan itself covering 80% of the combined value of both properties. 

However, it’s important to know that real estate bridge loans often have stricter credit and debt-to-income ratio requirements for approval.

Pros and cons of bridge loans

While bridge loans have several unique qualities, there are also disadvantages that make them great for some in certain situations and not in others.

Here are the pros and cons of bridge loans:

Pro: Flexibility to bridge the gap between important purchases

The primary benefit of bridge loans, the flexibility you gain by being able to bridge the gap between a sale or more secure funding for a large property or equipment purchase isn’t a small thing at all. 

Pro: Might skip payments

Depending on various circumstances, by using a bridge loan to purchase a new property before your old one sells, you can often skip several mortgage payments in the process.

While this might sound like a small plus, considering that could be all or most of the time you need to get the sale, that can often be the perfect reprieve to manage the challenge of handling both mortgages while waiting for that old property to sell. 

Con: High interest rates

Bridge loans typically have higher interest rates than home equity loans, typically about 2% higher than the average 30-year fixed-rate mortgage, making them more expensive in the short term. 

Con: Handling two mortgages at once can be stressful

While a bridge loan rolls both mortgages up into one, you’re still handling the two simultaneously, which can create added stress while you’re looking for a buyer for the old property. 

Is a bridge loan for you?

Whether a bridge loan is the funding tool you need depends on what you need funding for and your timeline.

If you’re looking to make a new real estate purchase and you’re on a short timeline, or it will take time to sell, a bridge loan might be a good option.

If you need to make a large equipment purchase now but securing the funding will take time, a bridge loan could be exactly what you need to get that critical piece of large-scale equipment in place now so that you don’t skip a beat. 

However, it’s also important to know that many other funding options are available to you, so take the time to consider your options and make the choice that best fits your needs. 

Frequently Asked Questions