When homebuying funds are tied up in your current home, it can be difficult to feel free to search for your dream home. How will you find the cash for a down payment? How will your offer compete with others in your area? And what are your options as you watch ideal home after ideal home pass you by?
You may have heard of a bridge loan as an option to help you transition to your new home, but is a bridge loan right for your specific transaction? It can seem like a complicated piece of financial funding, but we’re breaking it down into bite-sized pieces to help you see if it’s the right fit for your homebuying experience.
Getting into a bit of nitty gritty, here’s an overview of mortgage bridge loans to help you not only understand what they entail, but if you should secure one for your dream home.
What is a bridge loan exactly, and how does it work?
Also known as a swing loan, gap financing, or interim financing, bridge loans are a type of temporary loan where you dip into your existing home’s equity to fund the down payment on your new home. Your current home serves as the collateral, and the real estate bridge loan allows you to buy a new home without having to sell your existing property first.
This also means you don’t have to miss out on your dream home because you’ve borrowed the equity from your current home to secure the new home. With the short-term loan secured, you have time to put your current home on the market, do repairs or maintenance to prepare it to sell, or simply move into your new home on a more relaxed timeline.
Short-term loans in real estate transactions help you avoid having to make sale-contingent offers on your new home as well. Because you’re coming to the table with the cash from your current home’s equity, you’re submitting an offer without a home sale contingency; a much more appealing bid to sellers.
When you make a home sale contingent offer, you’re telling the seller that you’d be happy to purchase their home, if your current home sells within a certain period of time. If your home doesn’t sell, the contract gets cancelled. Because of this home sale timeline uncertainty, sellers feel uneasy about waiting for your home to close or the worse scenario, the contract gets cancelled because your home doesn’t sell.
In today’s market, your best chance of competing with other offers and winning the home of your dreams is to submit an offer without any home sale contingencies. Especially for homebuyers who live in competitive markets, avoiding sale-contingent offers by using a bridge loan, having a large down payment, or going in with all cash is preferable.
Buyers who utilize mortgage bridge loans to fund their down payment typically have a faster process than conventional loans due to the wiggle room lenders have. With bridge loans, the debt-to-income ratios are more flexible, lenders can use automated underwriting, and the terms are much shorter at 6 to 12 months. Unlike a conventional loan, which can be 15 to 30 years, the quick payback turnaround of a short-term loan helps lenders work with you to get the deal done on time.
In essence, a bridge loan uses your current home as collateral, provides immediate access to your existing home’s equity, comes with short terms, high interest rates, and provides the bridge to down payment funding between owning your new home and selling your existing home. Without the availability of bridge loans for a down payment, many families wouldn’t be able to make the home purchasing process possible.
A little more detail on how bridge loans differ from conventional loans…
Although both are funding home purchases, bridge loans and conventional loans have different processes and requirements. Traditional loans span 15 to 30 years and typically have lower interest rates because of the length of the loan. For bridge loans, what you get in convenience and fast processing, you pay for in high interest rates, higher origination fees, and shorter loan terms of 6 to 12 months.
If you’re a homebuyer with excellent credit, a low debt-to-income ratio, and at least 20 percent equity in your home, a bridge loan may work for your home purchase. However, unlike conventional loans, the quick access to home equity cash that bridge loans provide means that your interest rate is fluctuating, not fixed. Your real estate bridge loan interest continues to build as well even if you’re not due to make payments for the initial few months. And when you sell your current home, certain types of bridge loans are due in full immediately plus any additional fees.
Pros and cons of a bridge loan
Is a bridge loan your best option for financing your ideal home purchase? Here are a few pros and cons to consider. Although every transaction is unique and each homebuyer has their own set of financial and homebuying criteria, this list can help you envision a bridge loan for your purchase or see if something similar to Homeward might work.
- You can buy a new home without selling your current home first
- By dipping into your existing home’s equity, you have funds for a down payment that looks like an exciting, strong offer to sellers
- You can submit the offer on your new home without a home sale contingency in the contract
- Bridge loan processing is quicker than conventional loans
- Payments for certain bridge loans can be deferred until you sell your current home
- Bridge loan terms are typically six to 12 months, which alleviates the stress of having to sell your home quickly
- Bridge loans allow you time to complete repairs and issues on your current house before putting it on the market
- Bridge loans have high, fluctuating interest rates that lenders can increase over time
- You need at least 20 percent equity in your current home to start the process of securing a bridge loan
- You need excellent credit and a low debt-to-income ratio
- You have to qualify to have two mortgages at the same time
- If you qualify for two mortgages, you’ll own two houses with two mortgage payments plus any possible bridge loan payments
- Although the offer looks good to sellers, you still have to sell your current home for enough to cover the bridge loan and any other financial payments
When homebuyers can use bridge loans
With your 20 percent equity in your current home, you can use a bridge loan for a down payment on a new home without selling your existing property, to pay off your current mortgage, or create a second mortgage. You can also utilize short-term loans to create funds for making repairs and updates before you list your home for sale. Diving into your current home’s equity does offer a bit more flexibility because you can buy your dream home or prep your home before selling the existing property, but it has to be the right decision for your specific transaction.
If you’re the type of homebuyer who can afford double mortgage payments until your home is sold in addition to interest payments, bridge loans could work. If you’re in a hot market – which means multiple and low-contingency offers, lots of competition, and amazing homes go quick, a bridge loan might be the best choice. If you found a property that hits all of your major criteria but you just don’t have enough in the bank to put down your offer, think about a bridge loan.
To provide a little bit of context, here are a couple examples of bridge loans in action:
Let’s say your current home is valued at $400,000 and you have $250,000 left on your mortgage. If you were to get a bridge loan for 80 percent of your home’s value, $320,000, then you can use that cash to pay off your current mortgage. This leaves $70,000. Then after about $5,000 in closing costs and fees, you’re left with $65,000 for a down payment for your new home.
In another case, let’s say you take out a second mortgage on your current home and use those funds for the down payment on your dream home. If your current home is worth $400,000, and you have $250,000 left on your mortgage, you’ll have $150,000 in equity. Then, you get a bridge loan for 80 percent of that equity, which equals $120,000, and use that cash for the purchase of your new home.
Homebuyers may also consider HELOCs (Home Equity Lines of Credit) if the math and finances for a bridge loan aren’t working out. But if the home is about to be or is currently on the market, it’s much harder to obtain this type of financing from a lender.
Are there better alternatives to a bridge loan?
Bridge loans work well for certain buyers, but some homeowners may want to consider the less risky and most likely less expensive alternative that Homeward offers.
What is Homeward? Homeward helps customers secure their next home with all-cash offers before selling their existing homes. Because many homeowners need to sell their current home to create funds for their next purchase, Homeward jumps in to solve this problem by offering up their funds to buyers in the form of all-cash offers on the new home. Therefore, removing the uncertainty and stress of having to sell first in order to buy.
Because Homeward clients are putting in all-cash offers on their new home, they’re 2 times more likely to beat out buyers with mortgage-contingent offers, and have seen a 2 to 5 percent discount from sellers on their purchase price.
Unlike mortgage bridge loans where buyers are coming in with a percentage of home equity, all-cash offers made with Homeward’s funds are most the desirable to sellers because there’s no need for you as the buyer to get financing. You’ve already got it with Homeward on your side. And you don’t have to go through the avenues of financing until your existing home sells.
Once you sell your existing home, you’ll need to secure a traditional mortgage for your new home, and purchase it from Homeward at the same price paid with all cash plus Homeward’s 1.9% convenience fee. All the transaction details are neatly packaged through Homeward.
With bridge loans, you’re taking a piece of the equity in your current home to create the down payment for your next home. You’re then typically balancing two mortgages as well as any bridge loan payments, if they’re not deferred. When you’re working with Homeward, they own the new home because they’ve purchased it with all cash, so you’re only responsible for leaseback payments (essentially rent at market value) and not a second mortgage.
Bridge loans have a 6 to 12 month term period with variable interest rates and fees, and accrue interest whether or not you’re making payments. But with Homeward, homebuyers pay leaseback payments until they sell their existing home, and then pay a convenience fee of 1.9 percent of the purchase price of their new home when they buy it from Homeward.
If you’re dealing with a real estate bridge loan, there’s also no guarantee that you’ll sell your home even if you acquire that type of financing. And when the home sells, your first step is to pay back the bridge loan. However, with Homeward, you agree upon a guaranteed price upfront, and if your home doesn’t sell within your six-month leaseback term, they’ll buy the home from you at that price.
When you’re deciding between a bridge loan and an alternative like Homeward, consider the type of financing you need, what your financial situation is, if you can afford multiple mortgages and possibly a bridge loan payment, the total equity available in your home, and if an all-cash offer on your dream home is a critical necessity for your transaction. Dig into the details thoroughly, and make the decision that fits best for your financial outlook and your homebuying expectations.
On the fence about financing your home purchase? Need time to prepare your existing home, but don’t want to miss out on homes currently on the market? Learn more about how Homeward works, or call 512-956-5087.
Experience a calmer, more convenient way to buy
Take less than 10 minutes to get approved.