What are the pros and cons of bridging loans? | RateCity

When you apply for a bridging loan, lenders will calculate what is known as your peak debt. It is the sum of your outstanding mortgage and the value of the new property you intend to buy. So, if you have $300,000 outstanding on your mortgage and the new home you are buying is worth $600,000, your peak debt would be $900,000.

Most lenders will allow you to borrow up to 80 per cent of the peak debt. The remaining 20 per cent must be held by you in genuine savings. However, some lenders may not ask for a cash deposit if you have substantial equity in your existing home.

Once the property is sold, the amount is applied towards discharging your existing mortgage. The remaining amount is known as the end debt, which is converted into a standard home loan secured on your new property.

Bridging finance can help you ‘bridge’ the ‘financial gap’ between buying a new home and selling your existing one. However, it’s worth understanding the pros and cons of a bridging loan to ascertain whether it’s the right choice for you or not.

One of the biggest advantages of a bridging loan is that it lets you buy your new home without waiting to finalise the sale of your current one. For instance, it may happen that you like a property so much that you want to buy it instantly. However, you may find it challenging to make a downpayment on the new house until your existing house is sold. One option you have is applying for a bridging home loan to finance the new property and get some more time to sell your existing home, which could help you fetch a better price by giving you the time to negotiate more favourable terms. 

By ‘bridging’ the gap between selling and owning your old and new homes, respectively, bridging finance may also help you save on any temporary storage or rental costs, as your new home will most likely be ready to move into by the time your old one is sold.

While a bridging loan could be a helpful way to finance your new home when you still haven’t sold your existing one, there are a few pitfalls you need to be aware of:

• The interest rate charged on a bridging loan is usually higher than the average ongoing home loan rate. Therefore, the longer it takes to sell your house, the more interest you will pay. If you opted to capitalise the interest, you’ll be paying interest on interest, which could add to your costs significantly.
  
  
• When you take out a bridging loan to purchase a property before your existing one is sold, there’s always the risk of stretching yourself too thin if your home sells for less than you expected. This could leave you with a larger borrowing and increased monthly repayments that may result in financial stress.
  
  
• It’s also possible that your current mortgage lender doesn’t offer a bridging loan. In such a situation, you may have to refinance your existing loan, which will add to your costs. For example, you might have to pay exit fees to your current lender (if you have a fixed rate home loan) and valuation fees for both the properties.

It’s also worth remembering that not everybody qualifies for a bridging loan. Most lenders require you to have substantial home equity to be eligible for bridging finance. Speaking to a broker could help you understand the pros and cons of taking out a bridging loan and make an informed decision whether it meets your requirements or not.