Bridge loans can supply short-term financing before developers and investors cement long-term financing. Their popularity surged during and in the wake of the Great Recession — and that popularity has yet to retreat. But if you’re considering obtaining a bridge loan as part of a new deal or a refinancing, or for on-site improvements, you need to learn the potential pros and cons.
The typical duration for a bridge loan is 12 to 36 months. This can give you the time to address issues that are preventing you from securing traditional financing or taking advantage of other opportunities. For example, bridge loans might help when you want to:
• Close a deal with an impending deadline
• Make renovations
• Get a property out of foreclosure
• Stabilize cash flows
• Pursue environmental remediation
• Replace a tenant
• Improve your creditworthiness
If you’re looking for long-term financing, you can choose to pay off the bridge loan before or after you find it. You’ll improve your odds of receiving that financing by making timely payments on the bridge loan. Or, if you opt to pay it off after finding long-term financing, you can apply some of those funds to pay off the bridge loan.
In addition, bridge loans usually require less income documentation and close more quickly than traditional loans, getting the funds to you within a week or so. And they can be nonrecourse, allowing you to safeguard other assets.
Bridge loans carry higher interest rates (usually based on market-based rates), transaction fees and closing costs than conventional loans. They generally also may require a high loan-to-value ratio and a large balloon payment.
Bridge loans are more closely monitored by lenders than traditional loans, too. As a result, you could incur costly penalties when, for example, you fail to satisfy complex debt-coverage ratios or debt-yield tests. If you plan to use long-term financing to pay off a bridge loan, you’ll be left on the hook for it if that financing doesn’t come through. Should you fail to timely meet the payoff, interest costs will pile up fast. These concerns are particularly relevant given recent concerns about a looming recession.
There’s also no guarantee that you’ll qualify for a bridge loan. Lenders tend to require exceptional credit, a low debt-to-income ratio and a significant chunk of equity.
In the right circumstances, bridge loans can provide a flexible and worthwhile solution to short-term funding needs. But they aren’t without substantial financial risk, so tread carefully before signing. Our financial advisors can help determine whether a bridge loan is right for your project and negotiate the optimal terms with a lender.
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