The advantages of bridging loans are that:
- they are generally quick to put in place, taking a week or two if all goes well, and do not tie you in long-term to a particular funder; and
- they tend to be based on the property’s value and not simply its purchase price.
As a relatively flexible source of finance they therefore tend to be used to help arrange transactions such as buying sites for property developments, helping to achieve business purchases or raising short-term business cash.
In one example a business sale included in its property which was valued at £1.5m but which for a number of reasons was included in the sale contract at £1m. This meant that the buyers could only obtain £700,000 in funding against the property from mainstream commercial mortgage lenders who operated on the basis of lending at the lower of purchase price or valuation, which obviously would leave them with a large requirement for equity investment to fill the gap.
However they took out a bridging loan against property instead which was based on 70% of the valuation of £1.5m, enabling them to raise more than the £1m purchase price. Six months later they were then able to replace this with a normal commercial mortgage, as on refinancing the lenders were prepared to look at valuation.
As discussed below however, bridging loans are expensive so you should always be looking from the outset at how you are intending to repay the bridge, either by selling the asset or refinancing it, (known as ‘takeout’ finance).
You should never go into a bridge without having your exit planned and if anyone you are dealing with appears to be advising you to take out a bridge without having both this and the funding of the ongoing interest charges covered you should seek another advisor immediately.
Bridging loans can be:
Based on first charges over the property, where loans of up to 70% of the loert of OMV and purchase price are becoming available again, falling to 60% where given on a second charge basis.
‘Closed’, where the arrangements for the take out by way of a remortgaging or a sale are in place at the outset, or ‘open’ where they are not; and
‘Status’, where the lender has satisfied themselves that the borrower can repay the loan, or ‘non-status’ where the borrower is simply operating on a pawn broking basis that if the borrower defaults the lender can recover their money by sale of the property. Advances in bridging therefore tend to be driven almost exclusively by the property’s valuation.
So for lenders, the key criteria and issues in lending are:
- valuation of the property by a professional valuer on the lender’s panel
- the quality of the property
- the borrower’s ability to service the borrowings; and
- the viability of the proposed exit.
The mainstream banks will generally only offer closed bridges on a full status basis.
For open bridges and non-status loans there are a limited number of serious players in the commercial property bridging market mainly lending up to £2m. Larger bridging loans can be arranged, particularly in relation to potential property development sites where we have seen £10m bridges being offered but this is an area where specialist advice is required in placing the proposal.
Bridging is however expensive money. As well as valuation, broker and legal costs you can expect to pay a lender’s arrangement fee of up to 3% and discounted interest rates of up to 2.0% per month.
Interest is either collected upfront by way of a deduction of the total interest charge for the facility period from the initial drawdown, monthly or weekly in advance, or very rarely rolled up into a bullet payment at the end of the arrangement.
Against this, being interest only, bridging loans can in some circumstances have short-term cashflow advantages over a normal commercial mortgage where regular payments would include an element of loan capital.
The interest rates quoted above are the discounted rates for prompt payment and it is normal for the full rates to be almost double these. It is crucial that you are aware of this as in the event of default on a payment (such as failing to pay exactly on the due day), you will lose the right to pay interest at the discounted rate and will be charged at the full rate.
In the event of default, you should expect all lenders to take swift and robust action to secure their lending by way of appointing receivers to sell the property. In addition you will find that the lender will reserve the right to charge administration costs incurred in dealing with any default.
If you take out a bridge where the interest is deducted from the advance on drawdown this has the advantage that you do not need to find the cash to make payments during the period of the loan. Against this, it reduces the funds you actually raise by entering into the bridge and do not forget that at the end of the period, you will need to find the cash to repay the gross amount advanced, not the net received.
The alternative is to take out a bridge on a pay as you go basis, in which case you must ensure that you have sufficient funds to make all the payments on time to avoid the increased interest costs and charges that arise on default. The results of taking out a bridge without having this funding in place can be potentially disastrous however.
As defaults are an area in which lenders can make extremely high returns, and can recover these by appointing receivers to sell your property, you should take care that you are dealing with a reputable lender. While bridgers will generally be robust in their approach and expect to act swiftly in both lending and recovery, you should be cautious about dealing with lenders who appear to be willing to lend very aggressively or who are completely unconcerned about your ability to pay the interest or to repay the loan at the end of the term. You should also check the terms of any loan carefully to ensure that:
- the rate and/or the basis of charges (for example the percentage over bank base rate) will remain set for the whole of the facility period and cannot be varied by the lender once you are signed up; and
- that there are no unexpected exit fees.
While a broker will charge you for arranging a facility (typically 1%, deducted from the advance drawn down), using a reputable asset finance broker will assist you in finding a reputable bridging lender.
If you are considering using bridging funding to raise cash for property development, you should be aware that there are specialist funding products for property development.
As this is an area of small specialist lenders, it is one where there is always a lot of change in what is on offer.
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Of course the information contained in an article like this can never be a full statement of the legal position as the relevant laws are complex and liable to change. This article can only therefore be a general guide as to the issues involved and as these can have serious implications you should always seek appropriate professional advice on your own particular circumstances before taking any action.
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