A bridge loan is a loan that is requested for an immediate need for financing and that has a temporary nature, until the final loan is formalized, provided that a future income is secured by the borrower or debtor .
In a bridge loan we find three main characteristics:
- Immediate need for financing, as we will see in the next section.
- Temporary character This means that the bridge loan is transitory, until the final credit is formalized.
- There must be a guarantee of future income by the borrower, which ensures the return of the credit. Without this guarantee, the financial institution will not grant the credit.
When a bridge loan is granted
The main purpose of the bridge loan is the acquisition of a new home without the need to quickly sell the current home. That is, the bridge loan allows the borrower various options:
- Acquire a new home that may not be built yet and require some type of advance payment (immediate need for financing)
- Have a reasonable time to sell the current home, and not be forced to sell it quickly.
Bridge loans may have other purposes, such as obtaining immediate financing while formalizing the final credit (which usually takes a few days) or for business purposes. However, in this analysis we will focus on its main purpose.
Operation bridge credit for the acquisition of new housing
With the bridge loan, the financial institution usually integrates the current housing loan and the bridge loan into one. However, only interest is paid on the bridge loan, while interest and principal are paid from the previous credit. Usually a maximum term (or period of lack) is established for the borrower to sell his current home. Once the current home is sold, the credit associated with that home disappears with the sale and the bridge loan also. Then the final mortgage loan is formalized .
What happens if the current home is not sold
It may happen that once the period of lack ends, the current home has not been sold. In this case, the borrower must return the entire amount granted by the financial entity, in addition to interest. That is, after the end of the grace period, the borrower must pay the principal and interest, both of the bridge loan and the current home loan.
Advantages and disadvantages of bridge credit
The main advantage of the bridge loan for the borrower is that it allows you to sell your current home with peace of mind, without the need to “sell it”. In addition, during the period of lack, although de facto it has two credits, it is only returning one, since the bridge loan only pays interest.
However, this credit also has several drawbacks. The main one is that, in case of not selling the current home, the bridge credit, including interest, must be returned in addition to the first credit. On the other hand, the bridge loan is a risk operation for financial institutions, so the interest rate of these loans is usually higher and the requirements for granting them are also higher than in others (greater solvency must be accredited) .
Bridge loans make sense in times of economic growth, in a context where home buying and selling is relatively simple. In times of economic crisis due to a real estate crisis, these credits lose their raison d’être, due to the difficulty of selling homes at a reasonable price.