Mortgage brokers report that prospective homebuyers are turning to bridge loans to purchase with cash and avoid becoming caught in a property chain.
Despite the rising cost of living, home prices continue to rise, as a lack of houses entering the market fuels competitiveness.
Brokers report a large increase in the number of prospective purchasers requesting a short-term loan to cover the cost of their property, which is then repaid by the sale of their previous residence.
This is despite the eye-popping interest rates, which vary from 0.5% to 1% of the loan amount for each month that the money is not repaid.
Ashley Thomas, director at Magni Finance, stated, “They pay a premium with higher rates and fees, but they believe it is worth it because there are multiple bidders on properties and some sellers will only accept chain-free buyers.”
In a competitive housing market, the legal and financial processes might take longer to complete, giving cash purchasers a unique advantage.
Typically, loans are negotiated with a maximum period of 12 months to allow the borrower to sell their current property. If they need to pay off the bridging loan, they may decide to refinance for a mortgage on the new property.
According to Thomas, the typical cost of a bridge loan ranges from 0.50% to 1% every month.
Consider the cost of a bridging loan for a £500,000 loan for a £1,000,000 purchase price, which represents the upper end of the market.
The loan costs 0.57 percent per month (6.84 percent annually), or £2,850 per month, to the borrower. In addition, there will be a 2% arrangement fee for the £10,000 loan. Add to this the fact that legal expenses for this sort of debt are typically greater than for conventional mortgages – in this case, possibly approximately £1,000 in addition to the £1,000 valuation price.
Typically, the monthly payment and arrangement fee are paid when the bridge loan is closed. The initial expense would consist of legal and appraisal fees.
In our instance, even a one-month loan would cost the purchaser about £15,000 in interest and fees.
Compare these fees to those associated with arranging a standard mortgage loan. A £500,000 mortgage with a two-year fixed rate would incur an annual interest rate of around 3.24 percent, or $1,351 per month.
The arrangement charge would likely be around £995 and there would be no valuation fee. Legal fees would be based on the market rate.
Samuel Mather-Holgate, the director of Mather & Murray Financial, reports that the team has seen a 200 percent increase in bridging loans over the past year, largely due to clients who were locked in a home-buying chain.
‘Because housing transactions are taking so lengthy at the moment, an increasing number of consumers are turning to bridge finance to secure their purchase, lest they lose it to more liquid buyers.
This can be quite costly, however, because of high set-up fees and interest rates, especially if the security used has a poor cover ratio.
How do short-term loans influence your credit history?
Mather-Holgate is unconvinced that bridging loans will hinder your capacity to obtain other financial products, contrary to popular belief.
‘Bridge players are typically asset-rich,’ he explains. ‘They can use collateral in both the house they are selling and the one they are buying (provided they are making a down payment), and the sale of their present home is their intended repayment vehicle.
However, some individuals require a conventional mortgage to offset any shortfall. The majority of lenders will be understanding, and a solid credit score is far more significant to them than the presence of additional loans.
He adds that if you have a 30% down payment, you can expect to pay around 0.75 percent interest per month on a bridge loan. A bridging loan might cost you up to five times as much as a conventional residential mortgage.
For a £298,000 house – the current average property price in the United Kingdom – the arranging charge and valuation fee would be £7,450 and £495 respectively.
Your monthly interest payments would be £2,291 and you may be required to pay a redemption charge of a few hundred pounds when you decide to pay off the loan.
‘It is crucial to note, however, that bridging finance should not be equated to a conventional mortgage, as the two serve different purposes. According to Mather-Holgate, bridging finance should be utilized as a short-term facility to help resolve a transitory difficulty.
Michael Aldridge, director of Lucra Mortgages, suggests that if your exit strategy is a normal mortgage, you should be assured that you have a lender lined up for when you’re ready.
There is nothing wrong with utilizing a bridge in the appropriate conditions; nonetheless, you should be informed of all the related costs and risks before jumping in.
Mather-Holgate guides what to watch out for to those who are considering a bridge loan.
He urges borrowers to ensure they have a comprehensive understanding of all fees and monthly payments.
Consider if the payments are fixed or whether they will increase if the Bank of England decides to raise the base rate once more. Some forecast that it will reach 3% before the end of the year.
Lastly, he advises, ensuring that it is inexpensive. Even when cash purchasers are engaged, there is always uncertainty in supply chains, and things can take longer than anticipated.
