If you’re looking to buy a home, the current real estate environment can be very daunting.Between the pandemic, rising inflation, and the housing crisis, becoming a homeowner seemsmore unattainable than ever. In this article, you will find an overview of…
A study carried out by the Canadian Association of Accredited Mortgage Professionals showed that the average Canadian would own around 4.5 to 5.5 homes throughout their life. This implies that after a first-time purchase, there would be other purchases coming.
Buying a home usually requires a down payment, and more often than not, second-time homebuyers use equity from their first home to cover the purchase of their new home. For this to work, the sales timeline of both present home and future home would have to align.
However, there are times when this just doesn’t happen, and your intended purchase has a closing date earlier than your present home. In such a scenario, you may be missing a vital element – the equity you wanted to use for payment. This is where a bridge loan comes in. So, what is bridge financing?
- A bridge loan allows you to purchase a new home with a loan up to the equity in your previous home before its closing date
- Bridge loans feature higher interest rates than traditional loans, but they are only available for short durations
- You can use a bridge mortgage calculator to determine how much you would need in the way of a bridge loan
What is Bridge Financing?
The sole purpose of a bridge loan is to act as a literal gap-bridging financing device specifically between the sale of previous property and the purchase of a new property. What is a bridge loan? It is one that allows you to access the equity in your previous home in the form of borrowed funds, before using the actual equity after the sale to pay off the loan.
How does bridging finance work?
In essence, bridge financing in Canada allows you to access equity earlier than you should. The main qualification for a bridge loan is the confirmation of a buyer for your home. It should be noted that this loan type usually has a very short duration- as short as few days or as long as 12 months or more.
Hot real estate markets see a lot of bidding and haggling, and as a result, you could easily miss out on your dream property while waiting for your home sale to go through. Bridge funding is commonly used by homeowners in such markets to avoid missing out on desired deals. The bridge loan and interest accrued are then paid when you sell your home and access funds from there.
Bridge Financing vs Traditional Loans
Mortgage bridge loans generally undergo faster processing especially since they are usually needed somewhat urgently. Compared to traditional loans, they see a speedier application, approval, and funding process. Given their nature, these loans typically feature high interest rates, short terms, and significant origination fees.
Since they are a short-term plan, borrowers still choose this option because it compensates by providing quick and easy access to funds. In addition, the high interest only accrues over a very short period and this can still be reasonable given the huge problem it solves. In addition, prepayment penalties are absent from most bridge loans.
Note that the amount that you can borrow cannot exceed the equity you have in your present home.
Do All Lenders Offer Bridge Loans?
Bridge loans are quite common, and as a result, can easily be gotten from lenders including all the big banks in Canada. You may be able to secure bridge financing from small lenders, however, ensure you have consulted with your mortgage broker.
Most banks do not allow access to bridge loans without your having a mortgage with them. This is because bridge loans as a standalone product bear more risk to reward for them. In the event that you are unable to access a bridge loan this way, you may need to opt for a private lender.
How Much Will Lenders Typically Offer On a Bridge Loan?
A large loan from a lender is done on a case-by-case basis. The lender typically reviews the entire situation as well as your financial standing, however, this process might take longer. Your property might also see a lien registered on it, so, you would be looking at more in the way of fees, including legal fees.
Generally, lenders can lend up to $100,000 for a duration of up to 120 days without too much of a hassle. Loans like these do not usually see a lien registered on the property. As a result, it would be less expensive, although the bridging loan interest rate is somewhat steep.
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How to Calculate a Bridge Financing Loan
Using a bridging loan calculator for this works just great. Now, here’s a breakdown of what you need to know whether or not you would be using a bridge loan calculator in Canada:
Given a scenario where your home has a closing date about 100 days away and the new home has a closing date only 55 days away. The 45-day period (100 days – 55 days) would be covered in terms of equity by the bridge loan.
Take for instance that the price tag on the home is $450,000, you made an initial deposit of 5% ($450,000 x 0.05 = $22,500), and you’re looking to use all of the $195,000 equity you have in the home you put up for sale.
Since there is a disparity between the closing date on your new home and that of your old home, you would need a bridge loan to cover the difference between the intended total payment and deposit.
Using a bridging finance calculator:
$195,000 (deposit) – $22,500 (down payment) = $172,500 (bridge financing)
This answers explicitly, ‘what is a bridge loan?’.
Additional Fees to Consider
The main fee that comes with a bridge loan is the interest, which often bears a rate similar to a personal line of credit or an open mortgage.
On average, this figure is around prime +1%, however, depending on amount needed and creditworthiness, it might soar to up to 8.5% or even 10.5%. This is somewhat reasonable when compared to business bridge loans that typically charge interest rates between 15% and 24%.
Alongside interest, borrowers also pay closing costs as well as necessary legal and administrative fees. Closing costs are required too for a bridge mortgage, and may range from 1.5% to 3% of the entire loan amount:
- Appraisal fee
- Administrative fee
- Notary fee
- Title searches
- Loan origination fee
A mortgage bridge in Canada can be a great way to secure your dream home at minimal extra cost. It is necessary to weigh your options and see whether you can afford to take on the loan before beginning the process. However, all things being equal, paying back should not be too much of a hassle.
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