What is a bridge loan and why would you need one? Sometimes the closing date for the home you are selling does not match that of the home you are buying for some reason. We are not going to get into the reasons here. Suffice to say that if the closing date of the property you are buying is prior to that of the one you are selling, you will need what is known as a bridge or interim loan. Basically, the amount of the bridge loan is actually the total down payment excluding the deposit, because the loan provider is giving the rest of the mortgage money as an advance on the property purchase. The actual bridge loan amount is calculated taking into account the interest rate set by the loan provider, the prime rate, and the number of days you will need the loan for (covering the buy/ sell gap) multiplied by 365 to get the per day cost. If you are going to need a loan for a period greater than 45 days, the lender will usually ask that you provide some kind of collateral. Sometimes a collateral mortgage will be required.
Bridge loans are available for both residential and commercial properties. In some cases, even loans to complete construction are available. Canadian lenders offer some very competitive rates on loans of this type.
Bridge financing is also available for representatives of the small and medium-size business sectors. This works by building on the equity in the home or property. A bridge loan is convenient because it lets people take their business to the next level. These loans are available both short-term, long-term, or as a credit line or a second mortgage.
Bridge loans come with a degree of flexibility, meaning that they may be open or closed. With open bridge loans, the payoff date is fixed while with closed ones, the loan is offered for a certain timeframe.
Truth be told, few people manage to do without a bridge loan. It is somehow too nice and tidy to sell your old property and buy your new one at the exact same time, or even have one follow the other. Bridge loans cover the down payment balance, the respective sales tax, all mortgage insurance costs, legal fees, land transfer fees, appraisal or inspection fees. If you are buying a property that was just built, you have to pay utility installation costs, paving, a home warranty enrollment fee, and damage deposits. You cannot do without a bridge loan unless you have some money set aside or a credit line.
On the downside, bridge loan interest rates are usually higher than those on credit lines (secured) and are between 1 and 3 per cent above the bank's prime lending rate. Fees to be paid are not limited to the ones above. There may be an origination fee in addition to the appraisal fee. Your financial institution may charge you a title fee and an escrow fee as well. In fact, fees may be quite hefty, depending on the amount of the loan, and you may be looking at close to $2,000 in fees.
Naturally, you have to be able to pay the loan back, be it through the liquidation of some assets or using your cash flow or both. The ratio between your monthly payment and gross income should not be above 35 percent. Exceptions are when you have significant liquid assets to sell and pay your loan back and when the LTV or loan-to-value is low. In the typical case, the LTV should not be above 80 percent for a residential property and above 65 percent for a commercial one, with this being based on the appraised value.