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Private / Specialty Financing: Bridge Loans

 

A bridge loan (also known in some applications as a "swing" or "gap" loan) is a type of short-term loan, typically taken out for a period of 2 weeks to 3 years pending the arrangement of permanent or longer-term take-out financing.


Description
A bridge loan is interim financing for an individual or business until permanent or the next stage financing can be obtained. Money from the new financing is generally used to "take out" (i.e. pay back) the bridge loan, as well as other capitalization needs.


Bridge loans are typically more expensive than conventional financing because of a higher interest rate, points and other costs that are amortized over a shorter period, and various fees and other "sweeteners" (such as equity participation by the lender in some loans). To compensate for the additional risk the lender may require cross-collateralization and a lower loan-to-value ratio. On the other hand they are typically arranged quickly with relatively little documentation and nontraditional underwriting.


Real Estate
Bridge loans are often used for commercial real estate purchases to quickly close on a property, retrieve real estate from foreclosure, or take advantage of a short-term opportunity in order to secure long term financing. Bridge loans on a property are typically paid back when the property is sold, refinanced with a traditional lender, the borrower's creditworthiness improves, the property is improved or completed, or there is a specific improvement or change that allows a permanent or subsequent round of mortgage financing to occur. The timing issue may arise from project phases with different cash needs and risk profiles with respect to the ability to secure funding.


A bridge loan is similar to and overlaps with a private money loan. Both are non-standard loans obtained due to short-term, or unusual circumstances. The difference is that private money refers to the lending source, usually an individual, investment pool, or private company that is a nonbank in the business of making high risk, high interest loans, whereas a bridge loan refers to the duration and maturation of the loan.


Characteristics
Bridge loan interest rates can be 9-15%, with typical terms of up to 3 years. Loan-to-value ratios generally do not exceed 65% for commercial properties, or 80% for residential properties, based on appraised value.

A bridge loan may be closed, meaning it is available for a predetermined timeframe, or open in that there is no fixed payoff date (although there may be a required payoff after a certain time).


Availability
Most banks do not offer real estate bridge loans because the speculative nature, risk, lack of full documentation, and other underwriting factors that do not fit the bank's lending criteria. Bridge loans are therefore more likely to come from individuals, private or syndicated investment fund pools, and businesses that make a practice of the higher-risk loans.


Examples

  • A bridge loan is often obtained by developers to carry a project while permit approval is sought. Because there is no guarantee the project will happen, the loan might be at a high interest rate and from a specialized lending source that will accept the risk. Once the project is fully entitled, it becomes eligible for loans from more conventional sources that are at lower-interest, for a longer term, and in a greater amount. A construction loan would then be obtained to take out the bridge loan and fund completion of the project.

  • A consumer is purchasing a new residence and plans to make a down payment with the proceeds from the sale of a currently owned home. The currently owned home will not close until after the close of the new residence. A bridge loan allows the buyer to take equity out of the current home and use it as down payment on the new residence, with the expectation that the current home will close within a short time frame and the bridge loan will be repaid.
 
 

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