Are you planning to sell your property and buy a new asset? Taking both steps at the same time may not always be possible, and it may put a strain on your finances. The situation worsens if you intend to use the proceeds from the sale of your current home to purchase a new one. This urgency not only adds stress but can also impact your property's value. In such situations, understanding the bridge loan meaning becomes crucial, but it can also impact your property value. Fortunately, for such scenarios, bridge financing is available.
What Is A Bridge Loan?
A bridge loan is a type of short-term financing that you can use until you get the funds to meet your financial needs. It provides you with the immediate cash flow necessary to meet the ongoing obligations. Bridge loans are secured forms of financing and are backed by business inventory or real estate. In this type of financing, the interest rate is typically higher.
Bridge financing is known by various names in the market. These are – swing loans, interim financing, and gap financing.
How Does Bridge Financing Work?
Bridge financing is most commonly used for real estate or business purposes. Let us look at an example to help you understand.
Suppose you want to sell your house and use the proceeds to purchase a luxurious apartment. However, for booking the apartment, your builder requires a deposit. In this case, if you do not have enough cash up front, bridge loans can help.
The loan not only provides funding assistance but also gives you more time to find a buyer who is willing to purchase your home at a good price. Bridge financing is available based on your credit history and the number of outstanding debts. You will be approved for a low-interest loan if your debt-to-income ratio is lower.
Business owners typically seek a swing loan when they intend to apply for a large project loan. But since larger loans may take a longer time to process, they can apply for a swing loan. This will help them run their business cycle uninterrupted until the loan is disbursed.
What Are The Types Of Bridge Loan
A bridge loan is a secured loan you can use for the short term to fulfil your current obligation before obtaining a permanent loan. For instance, you may borrow a Personal Loan to make the down payment until you borrow a Home Loan. It makes immediate cash flow available when you need funding but is not available yet. Now that you understand the meaning of a bridge loan, let’s look at the different types available:
1. Closed Bridge Loan: If you agree with the loan provider, it is available for a fixed time frame. Lenders often accept them when they have a high degree of guarantee about timely repayment. It has reasonable interest rates compared to open bridge loans.
2. Open Bridge Loan: It does not have a predetermined payoff date at the time of initial enquiry. To ensure repayment security, the loan company deducts interest amount from the loan advance. If you are unsure when you will get the expected finance, an open bridge loan will suit you.
3. First Charge Bridge Loan: It gives the first charge of property to the lender. If you default, the lender receives the money before other lenders.
4. Second Charge Bridge Loan: It gives a second charge to the lender after the first charge lender, though the repossession rights are the same for both.
Eligibility Criteria For Bridge Loan
The eligibility criteria for a bridge loan is similar to a Personal Loan. Although they may vary between lending institutions, here are a few general conditions to fulfil:
- Age: 21 to 58 years
- Citizenship: Indian residents
- Occupation: Salaried or self-employed individual
- Work Experience: Six months for salaried employees and two years of self-employed professionals
- Income: A minimum monthly salary of Rs 15,000
Find out the eligibility criteria for your lending institution and ensure you can fulfil them before applying to avoid rejection.
Documents Required For Bridge Loan
After understanding what a bridge loan is, remember you must provide these documents to apply for one:
- Photo identity proof
- Valid address proof
- Recent income statements and salary slips
- Last few months’ bank statements
- Property-related documents to be pledged as collateral
- Property details
What Are The Key Features Of A Bridge Loan?
Here are some of the notable features of a Bridge Loan -
- Shorter tenure: Bridge loan repayment terms are much shorter than those of other types of loans, such as a loan against property or a home loan. You can apply for this loan with a minimum repayment period of two weeks and a maximum repayment period of two years.
- Availability: The loan is available to corporates, salaried, and individual business owners. The documents required for approval vary slightly depending on the working class.
- Secured: Bridge loans are backed by collateral. Depending on the loan purpose, you can put investment certificates, house papers, or other requested documents as security.
- Flexibility: You may use this loan for either business or personal reasons. However, when you apply for a loan, the lender may require you to provide the loan purpose.
Benefits Of Bridge Financing
Applying for a bridge loan offers numerous benefits. These are –
- Easy access: Bridge loans are a type of secured loan. The lender does not have stringent qualifying criteria for this loan approval. If you have a good credit history and an asset to use as collateral, you can easily apply for a bridge loan to cover your short-term funding needs.
- Simple repayment plan: The lender requires you to repay the debt with the retained interest. It means that the interest cost is added to the principal amount, making repayment easier and less taxing on your cash flow.
- No cash penalties: Bridge financing, unlike traditional loans, has no prepayment penalty. However, if you fail to make the repayment there may be consequences related to the collateral you have put up with the lender.
Disadvantages Of Bridge Loans
Before applying for a bridge loan, here are a few factors that you must consider -
- Higher interest rate: As previously mentioned, bridge loans are more expensive than traditional financing options. Depending on your profile, the lender may charge an annual interest rate of 18 to 20% on the loan amount. Apart from the interest rate, various other charges are also associated with this loan. Some of them are – appraisal costs, origination fees, escrow fees, title policy costs, administration charges, and notary fees.
- Assets at risk: Since bridge loans are secured loans, if you fail to repay your debt, the lender has the right to seize and sell the collateral to recoup their losses.
When Should You Apply For A Bridge Loan?
A bridge loan is the best financing alternative for homebuyers. Here is how:
- When you want to buy a new house but don't have enough cash for the down payment because your current property is still unsold.
- A bridge loan is ideal when you need to relocate quickly but don't have time to sell your current home or want to pay rent for your accommodation in a new place.
- When you want to buy a property that is in high demand, and if the payment is not made immediately, the chances of it being sold in two to three days are very high.
- If the property seller rejects your contingent offer, you can use this loan to complete the purchase instead of waiting for your house to sell.
Alternatives To Bridge Financing
You will find numerous alternatives to bridge loans. These include –
Personal loans
Personal loans are unsecured loans that can be used for a variety of purposes. The maximum loan amount is Rs 5 lakhs, and if you have a good credit history, the interest rates will be much lower. Another advantage of this financing option is that it can be approved in as little as five minutes.
Credit cards
A credit card is appropriate if your short-term need is for a smaller amount. The card’s credit limit is determined by your credit profile, such as income, debt-to-income ratio, and repayment history. The best part about credit cards is that you don't have to pay any interest if you repay the borrowed amount on time. But keep in mind that you should not exceed the card limit by more than 30%.
Gap Loan vs Bridge Loan
A bridge loan is an excellent financing option to fulfil the gap between your short-term fund requirement and long-term financial goals. You can quickly apply for one in India at a reasonable interest rate. In contrast, a gap loan is a secondary financing option for those in a junior lien position. If you require finance but already have a mortgage on a property, you can get a gap loan for it to fill the gap between your funds and the extra funds you need. It is suitable for paying for materials, permits, contracted labour, etc.
Process To Apply For A Bridge Loan
You can quickly apply for a bridge loan online with your preferred lending institution. These are the steps to apply for one:
- Visit their official website or download the loan app
- Click on the 'Apply Now' button.
- Enter a few necessary details about your identity, occupation, income, financial obligations, work experience, contact information, etc.
- Provide details about your loan requirement, like your desired loan amount, purpose, and the expected repayment period.
- Review the loan offer received, and accept it to get disbursal.
To Conclude
Bridge loans are ideal for short-term needs. However, this loan is not always the best option because of the higher interest rate, additional fees, and short repayment period. Furthermore, the collateral involved in bridge loans is costly and the risk of losing pledged assets is always present in the event of default.
FAQs
What is the time period of a bridge loan? Bridge loans are short-term loans with up to 12 months of time period.
When to Use a Bridge Loan? A bridge loan is suitable if you need short-term financing for buying a new house before selling your old home, refinance a current mortgage before qualifying for a traditional loan, or invest in a business but have pending accounts receivable.
How does a bridge loan work?
Bridge loans typically have a term of 6-12 months and are secured against the borrower's current home. Once the home is sold, the proceeds are used to repay the bridge loan.
Who typically uses bridge loans?
Bridge loans are commonly utilized by:
- Homebuyers: Individuals or families looking to purchase a new home before selling their current one.
- Investors: Real estate investors who need short-term financing to acquire properties quickly.
- Business Owners: Entrepreneurs using bridge loans for commercial real estate transactions or to fund business expansions.
