What is a bridge loan?

Bridge loans, sometimes called bridge mortgages, are something I’m seeing a lot more often with my clients. A bridge loan is a short-term financing option designed to bridge the gap between the purchase of a new home and the sale of an existing property. It provides the necessary funds to buy the new property before the current one is sold, offering financial flexibility to homeowners. They are often used by homeowners who need to move quickly or who want to secure a new home before selling their current one.

Why might you want – or need – to get bridge financing?

I was chatting with one of the real estate lawyers I work with the other day. She told me that after more than 20 years in practice, she’s decided “same day closings” are more hassle than they’re worth. You may have experienced one… It is where your home sale and new home purchase are timed to happen on the same day. You often end up with a mad scramble to get out of your old home, and into your new one, all within a few short hours. Not fun for you, not fun for your real estate lawyer. And, that’s not even touching the possibility that something goes wrong and your timing is messed up even further.

My lawyer friend explained that unless she has previously dealt with people, she won’t accept new clients if they have a same-day closing. Instead, she encourages people to spread the closings out such that the purchase takes place a week or more before the sale. If you plan to use the equity in your existing home as part of the money to make this work, you either need access to a source of funds such as a line of credit, or you’ll need to arrange a bridge loan.

Bridge financing is becoming more popular in the GTA

I’ve noticed that this is becoming a trend in the GTA. Some situations occur where the home buyers had to close on the purchase earlier than they’d planned because that was a non-negotiable requirement of the sellers. But, more often, it’s elective. People are choosing to time their purchase a few weeks before the closing date on the sale of their existing home. After the closing date on the purchase, they do things like minor renovations (painting, stripping and staining floors, and that kind of thing). Or, they take the time to do a simple cleanup and a nice, orderly move-in.

Why? Perhaps it’s because we’re already so stressed and busy… All the clients I’ve talked to felt that the fairly minimal extra cost was worth the significant reduction in stress levels. Being able to get into your new place for a week or two, get it painted, cleaned, and have some minor renovations done, is much easier when you’re not stumbling over boxes, and trying to make meals. and deal with kids, and so on.

So, how does a bridge loan work?

Typically, the lender who’ll be getting your business on the new home is the one you’ll go to for the bridge financing. Not all lenders do bridge financing, so if this is part of your plan, make sure you let your mortgage professional know that up front so you can incorporate it into your mortgage planning process.

Bridge mortgage costs vary from lender to lender

Bridge loans typically have higher interest rates and fees compared to traditional mortgages due to their short-term nature and higher risk. Usually you’re looking at a rate of prime (currently 3.2%) plus 2-5%, as well as setup fees of approximately $250-500. If the mortgage is a large one, your lender may also require a collateral mortgage secured against your property. And, there will be an extra charge from your lawyer, since they have to do a bit of extra work.

I’m a bit of a numbers geek so I’ve pulled together a real-life example to illustrate this.

An example:

My clients sold their home for $695,000 and purchased a new home for $1,100,000. They were planning to get a mortgage of $740,000 on the new property, so they needed a down payment of $360,000.

The numbers played out as follows:

New property – purchase date Oct 2
Purchase price $1,100,000.00
New mortgage $740,000.00

Shortfall on purchase: $360,000.00
Existing property – sale date Oct 15
Sale price $695,000.00
Existing mortgage to be paid out $299,000.00
Real estate fees $27,487.50
Net proceeds available for bridge loan: $368,512.50

The costs:

Bridge finance amount $360,000
Setup fee $250
Interest charged $769.32 (prime plus 3%, or 6%, for 13 days)
Total – $1,019.32

What are the must-haves?

You will need to have firm Purchase and Sale Agreements for both the sale of your existing home and the purchase of your new property. The maximum term allowed between the purchase and the sale varies from lender to lender, but it’s generally between 30 and 90 days max. As well, all lenders have a maximum amount that they’ll allow, and again, it varies from lender to lender.

Alternatives?

What if you don’t yet have a firm sale agreement on your existing property, but you would like to proceed with the purchase of a new property? One option to explore is a home equity line of credit, or HELOC, secured by your existing home. But, you do need to qualify for both this new HELOC and the new mortgage on the purchased home, because from the lender’s perspective, you might be carrying both debts indefinitely.  If that’s not an option, you may need to consider private financing to cover you until your home sells.  It’s not cheap, but it still beats losing your deposit, and allows you to move ahead with your purchase.

The message? Consider your options when moving from owning one home to the next. In this case, my clients spent the time painting, cleaning, and getting their home organized for move-in day. They felt the extra cost was more than outweighed by the peace of mind they gained.

Get in touch

If you want to discuss your options with me, please don’t hesitate to reach out!

Photo credit: Andres Ramos for vecteezy.com