What is a Bridge Loan?

What are Bridge Loans and How Do They Work?

A bridge loan is a loan that helps a homebuyer successfully transition from one home to another. The new home is used as collateral for the loan and secures the loan of the new home even before the old home is sold. Getting a bridge loan is comparable to working with a hard money lender.

The average term of such a loan is usually six months. When it comes to getting approved for one of these loans, your real estate assets will often hold more weight than your credit rating. The term bridge loan is used because the loan works to bridge the way from one transaction to another.

The reason these loans are so short term is because they provide financing only until the other property is officially sold, the borrower's credit rating improves or the property is completed or updated.

The payoff for homeowners is getting the money they need without having to wait for the home they are selling to be sold. The payoff for investors is a high yield in a short period of time. Like most short term, high-yield investments, there is a level of risk for investors.

A bridge loan can be risky for the person getting the loan as well because no one wants to get stuck with two mortgage payments every month. For example, what if your old house didn't sell like you thought it would?

You would get stuck paying not only the mortgage on the old house but the mortgage on the new house as well. It can get very expensive if your real estate transactions don't go as planned. One reason for this is because bridge loans come with a high interest rate of anywhere from 12 to 15 percent.

When shopping for a bridge loan, you should definitely check with more than one lender and compare rates. Sometimes you can find a cheaper lender who charges a lower interest rate.

The key is to weigh all the advantages and disadvantages, and decide whether or not the payoff is worth the risk you're taking. If you feel a bridge loan is the right thing for you, there are a variety of financial institutions which offer them including banks, credit unions and mortgage companies.