When it comes to purchasing a new property, timing can sometimes be a challenge. You may have found your dream home but haven't sold your current one yet, or you may be waiting for the settlement of another property to free up funds for a new home.
In such scenarios, a bridging loan may be a good idea for those needing to bridge the gap between the purchase of a new property and the sale of an existing one.
In this article, we'll look at the meaning of bridging loans, their purpose, and the benefits they offer to borrowers, as well as the risks associated with them.
First, what is a bridging loan in Australia?
When discussing property transactions, understanding the bridging loan meaning is essential.
A bridging loan is a short-term financing option designed to provide interim funds when buying a new property while waiting for the sale of an existing property. It serves as a temporary solution to bridge the financial gap between the purchase of the new property and the finalisation of the sale of the current property.
This type of loan allows borrowers to move forward with their property plans without having to wait for the settlement of their existing property.
For homeowners, a bridging loan can be a valuable tool when upgrading to a larger home or downsizing to a smaller one. It provides the flexibility to secure the new property and move in before the current property is sold, ensuring a smooth transition between homes.
It is important to note, despite the popularity of these products not all home lenders provide bridging finance.
How does a bridging loan work?
A bridging loan works by providing you with the necessary funds to purchase a new property before you receive the proceeds from selling your existing property. This type of loan is typically structured to cover the gap between the purchase price of the new property and the equity available from the sale of the current property. It is cleared or “repaid” from the sale proceeds of the property to be sold.
During the bridging period, you may have two loans: the bridging loan and a regular home loan if there is a need to carry debt forward as a normal home loan, for example in the case of “upsizing”. For “downsizers”, you may only have the bridging loan which will be cleared on sale of the outgoing property. The interest on the bridging loan is usually capitalised and added to the loan balance, meaning you won't have to make regular interest payments during the bridging period. Instead, the accumulated interest is paid off when the loan is repaid in full.
It's also important to consider your overall financial strategy during the bridging period, including the option to refinance your home loan. Refinancing your existing home loan while utilising a bridging loan can provide an opportunity to secure more favourable interest rates, repayment terms, or additional features that align with your long-term financial goals.
Bridging loan example.
Important: Please note the examples shown below are hypothetical scenarios only and do not factor in lender fees and other charges.
Alex and Emily are a couple looking to upgrade their home and they discover their dream house is listed at $800,000. However, their current home hasn't sold yet, and they anticipate that they'll get around $500,000 for it. To bridge the financial gap, they opt for a $300,000 bridging loan from their lender. This loan covers the difference between the new home's cost and their anticipated funds from the sale of their old home.
Here are a couple of other scenarios where a bridging loan may be applicable:
Scenario 1: Bridging Loan Only
Let's say you want to move to a new home, but your old one hasn't been sold yet. If the lender decides you only need a bridging loan (typically when your old home is fully paid off), you won't have to make any mandatory payments on the loan for now. Instead, the interest you owe on the loan gets added to the total amount you owe each month.
You'll need to pay back the entire loan once you manage to sell your old home. The agreement usually sets a time limit of 6 months from when you bought the new home to finish paying off the bridging loan.
Scenario 2: Bridging Loan with an Ongoing Loan
Imagine you're buying a new house while still paying off your old one. In this case, the lender might decide you need both a regular loan and a bridging loan. They'll give you two separate loans. The regular loan comes with monthly repayments, just like a typical mortgage. Meanwhile, the bridging loan doesn't need monthly payments – it takes care of its interest by adding it to the total balance.
This loan is settled when you sell your old home. Again, you'll usually have around 6 months from the time you bought the new house to finish paying off the bridging loan. If your current lender doesn't provide bridging loans, you can consider moving to a new bank as part of the process.
Advantages and disadvantages of bridging loans
Bridging loans offer several advantages and disadvantages that borrowers should consider before deciding to utilise this type of financing.
Advantages
- Bridging loans allow you to secure a new property quicker. This can be particularly beneficial in competitive real estate markets, where properties sell fast.
- Bridging loans provide flexibility. They offer a grace period during which you can focus on selling your existing property without the added stress of immediate repayment.
- Some bridging loans also allow you to choose whether to make interest-only repayments or capitalise the interest during the bridging period.
Disadvantages
- Higher interest rates compared to traditional home loans: since these loans are short-term and carry more risk for the lender, the interest rates are typically higher to compensate for that risk.
- Potential for financial stress if your existing property takes longer to sell or at a lesser price than expected: if your property remains unsold for an extended period, you may accumulate more interest on the bridging loan, increasing your overall borrowing costs, or be forced to sell by the lender.
If you're considering a bridging loan for your property transaction, Qudos Bank is here to help. Explore our home loan FAQs to learn more about our home loan offers or get in touch with us today to discuss how we can assist you in achieving your property goals.
Bridging Loan FAQs
How does a bridging loan differ from a traditional mortgage or loan?
Unlike a traditional mortgage or loan, a bridging loan is specifically designed to bridge the gap between the sale of an existing property and the purchase of a new one. It provides short-term financing, allowing borrowers to access funds quickly for their new property while they await the sale proceeds.
What is the loan-to-value (LTV) ratio for bridging loans?
The Loan-to-Value (LTV) ratio for bridging loans can vary depending on the lender and the borrower's financial circumstances. Generally, lenders may offer up to 80% LTV for the combined value of the existing property and the new property being purchased.
What types of collateral are accepted for a bridging loan?
Bridging loans are typically limited to residential owner-occupied properties. The type and value of the collateral will be evaluated by the lender to determine the loan amount and terms.
