Bridge Loan

A bridge loan is a type of short-term loan, typically taken out for a period of 2 weeks to 3 years pending the arrangement of larger or longer-term financing. It is usually called a bridging loan in the United Kingdom, also known as a "caveat loan," and also known in some applications as a swing loan. In South African usage, the term bridging finance is more common, but is used in a more restricted sense than is common elsewhere.

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

Bridge loans are typically more expensive than conventional financing, to compensate for the additional risk. Bridge loans typically have a higher interest rate, points (points are essentially fees, 1 point equals 1% of loan amount), 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). The lender also may require cross-collateralization and a lower loan-to-value ratio. On the other hand, they are typically arranged quickly with relatively little documentation.

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 as much as ability to secure funding.

A bridge loan is similar to and overlaps with a hard money loan. Both are non-standard loans obtained due to short-term or unusual circumstances. The difference is that hard money refers to the lending source, usually an individual, investment pool, or private company that is not a bank in the business of making high-risk, high-interest loans, whereas a bridge loan is a short-term loan that "bridges the gap" between longer-term loans.

Characteristics

For typical terms of up to 12 months, 2–4 points may be charged. Loan-to-value (LTV) 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 time frame, or open in that there is no fixed payoff date (although there may be a required payoff after a certain time).

A first charge bridging loan is generally available at a higher LTV than a second charge bridging loan due to the lower level of risk involved, many UK lenders will steer clear of second charge lending altogether.

Lower LTVs may also attract lower rates, again representing the lower level of underwriting risk, although front-end fees, lenders legal fees, and valuation payments may remain fixed.

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 a 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 the 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 a 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.
• A bridging loan can be used by a business to ensure continued smooth operation during a time when for example one senior partner wishes to leave whilst another wishes to continue the business. The bridging loan could be made based on the value of the company premises allowing funds to be raised via other sources for example a management buy in.
• A property may be offered at a discount if the purchaser can complete quickly with the discount offsetting the costs of the short term bridging loan used to complete. In auction property purchases where the purchaser has only 14–28 days to complete long term lending such as a buy to let mortgage may not be viable in that time frame whereas a bridging loan would be.

Corporate finance

Bridge loans are used in venture capital and other corporate finance for several purposes:

• To inject small amounts of cash to carry a company so that it does not run out of cash between successive major private equity financings
• To carry distressed companies while searching for an acquirer or larger investor (in which case the lender often obtains a substantial equity position in connection with the loan)
• As a final debt financing to carry the company through the immediate period before an initial public offering or an acquisition.

 

From Bridge Loans at Wikipedia, the free encyclopedia