Bridging Loans - Buying before Selling Property
Bridging loans are short-term loans that assist in purchasing a new property before selling an existing one. These are credit products that "bridge" the finance gap, allowing you to secure your next home without waiting for the current property to sell.
Bridging loans can be "Open" or "Closed" depending on whether the existing property is sold or not yet sold. To access a bridging loan you must be an Australian resident and at least 18 years old.
An understanding of the issues involved can assist in guiding astute decision-making.
Eligibility Criteria for Bridging Loans
Credit Providers will consider a range of factors, including normal lending parameters.
Capital: Typically, borrowers would have at least 50% equity in their existing property.
Character: Good credit score, stable employment, and, ideally an ability to service both loans (current and new) during the bridging period.
Exit Plan: There generally needs to be a clear plan to sell your existing property within the bridging period (6–12 months). Some Credit Providers will require proof that your property is listed for sale. For a closed bridge loan they will require an unconditional sale contract.
Collateral: A maximum Loan-to-Value Ratio (LVR) is generally capped at 80% of the new property’s value.
Capacity: You must show that you can cover interest-only repayments on the combined debt (peak debt) during the bridging period.
Keeping the property as an investment
Keeping your first property and changing its status to an investment property may be an option to consider.
Converting your current home to an investment while buying in the new location allows you to try different scenarios. There could be merit in exploring the option to hold the property as a long-term investment.
Open and Closed Bridging Loans
Open Bridging Loans are used where the existing property has yet to sell and there is no certainty when it will do so. These offer more flexibility but also have higher risk and usually higher interest rates.Closed Bridging Loans are used when there is an unconditional sale date for the existing property. They have a fixed repayment date, provide more certainty, and often have a lower interest rate.
Open vs Closed Bridging Loans - Feature Comparison
| Feature | Open Bridging Loan | Closed Bridging Loan |
|---|---|---|
| Repayment Date | No fixed repayment date; repaid once existing property is sold. | Fixed repayment date, usually aligned with settlement date. |
| When Used | Current property not sold and no confirmed date for sale. | When Contracts exchanged or there is a confirmed sale date. |
| Flexibility | More flexible but higher risk for both lender and borrower. | Less flexible but provides certainty. |
| Interest Rates | Typically higher due to more risk and uncertainty. | Standard rates, as the lender has more security with a set repayment timeline. |
| Lender Preference | Less preferred, may have stricter requirements. | More preferred by lenders, easier to obtain if a sale contract is in place. |
| Risk |
Higher risk if the property takes longer to sell; may incur extra costs. |
Lower risk as the repayment source and timing are known. |
Bridging Loans - Pros
- Buy Before You Sell: Secure a new property immediately without waiting for an existing property to sell.
- Accommodation Certainty: Removes the need to rent temporarily or move multiple times, which can save significant time and money.
- Reduce Loan Repayments: Most bridging loans require only interest payments during the bridging period.
- Flexible Repayment: Extra repayments can be made or the loan can be paid out early without penalty (with most lenders).
- Maximise Selling Price: There is no immediate need to sell the existing home quickly, giving you time to achieve a better sale price.
Bridging Loans - Cons
- Higher Interest Costs: Bridging loans often have higher interest rates than standard home loans, and interest accrues on the combined debt (peak debt).
- Risk of Over Committing: If the existing property sells for less than expected, the residual is a larger ongoing loan than expected.
- Criteria: Credit Providers will require stronger capital, income, and more equity in the existing property.
- Short Loan Term: Typically, you have 6–12 months to sell your existing property. If you can’t sell in time, you may face higher rates or be forced to sell quickly.
- Holding Costs: There are the ongoing costs for ownership of multiple properties, including taxes.
- Stress: During the bridging period, there is obviously a higher level of debt, which can be stressful and a risk if circumstances change.
Bridging Loan Case Study
To decide if a bridging loan is a viable option for you, you'll need to calculate Peak Debt, Available Equity and End Debt.
- Peak Debt: The total debt during the bridging period, which includes the current mortgage and the new property purchase price.
- Available Equity: The difference between the current property value and the existing mortgage.
- End Debt: The remaining debt after selling the current property and using the sale proceeds to pay down the peak debt.
Let's take an example bridging loan scenario of:
Current Property Value: $800,000
Current Mortgage: $300,000
New Property Purchase Price: $1,250,000
Calculations
1.Calculate Peak Debt: This is the total debt during the bridging period.
Current Mortgage: $300,000New Property Purchase Price: $1,250,000
Peak Debt: $300,000 + $1,250,000 = $1,550,000
2.Calculate End Debt: This is the remaining debt after selling the current property.
Peak Debt: $1,550,000Sale Proceeds from Existing Property: $800,000
End Debt: $1,550,000 - $800,000 = $750,000
Summary
| Amount | |
|---|---|
| Current Property Value | $800,000 |
| Current Mortgage | $300,000 |
| New Property Purchase Price | $1,250,000 |
| Peak Debt | $1,550,000 |
| Available Equity | $500,000 |
| Sale Proceeds from Current Property | $800,000 |
| End Debt | $750,000 |
In this scenario, the purchaser would need to service the interest on the peak debt ($1,550,000) during the bridging period. Once the current property is sold, the sale proceeds ($800,000) are used to reduce the debt, leaving an end debt of $750,000.
Bridging loans can offer flexibility and convenience for home buyers who need to buy before they sell. However, there are associated costs. Do the calculations and be aware of the financial impact and risks involved if the current property does not sell as expected.
Always seek advice to assess if a bridging loan suits your situation.
Contact MCP
1300 510 816 or your Finance Partner
enquiry@mcpfinancial.com.au
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The team at MCP Financial Services has specialised expertise in structuring complex debt arrangements. We can assist with review and restructuring, refinancing and renegotiating.