Bridging Finance Simplified: Everything You Need to Know
Bridging finance is a solution tailored for Australians navigating the often challenging process of buying and selling properties. Whether you're downsizing, upsizing, or dealing with specific financial situations like inheritance or separation, bridging loans can offer the flexibility to make transitions smoother.
What Is Bridging Finance?
Bridging finance is a short-term loan designed to cover the gap when you're buying a new property before selling your current one. It’s an ideal option for those needing financial breathing space during this transitional period.
Key features of a bridging loan include:
Loan Term: Typically 6 to 12 months, with some lenders offering extended terms in specific circumstances.
Loan Amounts: Ranging from a few hundred thousand to millions, depending on the lender, your financial profile and the property’s value.
Loan-to-Value Ratio (LVR): Usually up to 80%, though specific postcode restrictions may apply and some lenders will look at 85%.
Payment Structure: Many lenders offer interest capitalisation, where no repayments are made during the loan term, and interest is added to the loan balance instead.
At Three Capes Finance, we make sure you fully understand these terms and guide you in structuring your loan for maximum benefit.
What Is Interest Capitalisation?
Interest capitalisation means that instead of making monthly repayments during the loan term, the interest is added to your loan balance. This allows you to avoid out-of-pocket costs during the bridging period, making it especially useful for those managing significant financial commitments.
Here’s an example:
If your peak debt (new purchase price + existing loan balance) is $1,000,000 and the capitalised interest is $50,000 over 12 months, your total loan amount at the end of the term will be $1,050,000. Once you sell your existing property, the proceeds are used to reduce this balance.
While this approach offers convenience, it’s important to note that capitalisation increases the loan balance, so planning for a realistic sale price is crucial to avoid financial strain.
Benefits of Bridging Loans
Bridging loans come with several advantages:
No Missed Opportunities: Secure your new home without waiting to sell your current one.
Financial Flexibility: Capitalised interest means no repayments until the end of the loan term.
Seamless Transitions: Avoid the hassle and costs of temporary accommodation.
Hypothetical Scenarios
Scenario 1: Downsizing Without End Debt
Barbara, a 70-year-old retiree, decides to sell her family home worth $2.5 million to move into a smaller townhouse costing $1.5 million. She still owes $500,000 on her existing mortgage.
Peak Debt Calculation:
$500,000 (current mortgage balance)
$1,500,000 (new property purchase price)
Peak Debt: $2,000,000
Bridging Period:
Barbara opts for a 12-month bridging loan with interest capitalisation. Over the term, $60,000 in interest is added to her loan, bringing the total to $2,060,000.Sale and End Debt:
After selling her home for $2.5 million:$2,060,000 clears the peak debt (including capitalised interest).
The remaining $440,000 becomes her surplus funds for retirement.
By choosing bridging finance, Barbara avoided the stress of renting while downsizing and didn’t need to make repayments during the loan term.
Scenario 2: Upsizing with End Debt
Tom and Sarah, a couple with two young children, want to upgrade to a larger home. Their current property is valued at $700,000, with an outstanding mortgage of $300,000. Their new property costs $1.2 million.
Peak Debt Calculation:
$300,000 (current mortgage balance)
$1,200,000 (new purchase price)
Peak Debt: $1,500,000
Bridging Period:
With interest capitalisation, the total loan increases by $60,000 during the 9-month bridging term, resulting in a final balance of $1,560,000.Sale and End Debt:
Once their existing property sells for $700,000:$700,000 is deducted from the peak debt, leaving $860,000 as their end debt.
This balance is converted into a standard mortgage with manageable repayments.
Key Considerations Before Taking a Bridging Loan
While bridging loans offer significant advantages, there are several factors to keep in mind:
Costs and Fees:
Bridging loans often have higher interest rates than standard mortgages. Additional costs, such as valuation, application and legal fees, should also be factored into your budget.Market Conditions:
If your property takes longer to sell or sells below the expected price, you may end up with a higher end debt than planned.Loan Approval Requirements:
Lenders typically assess your servicing ability for the peak debt and may require evidence of a concrete exit strategy, such as a realistic sale price for your current property.LVR Limits:
Bridging loans are often capped at 80% of the property’s value. Ensuring your current property is in a saleable condition can help maximise its valuation.Shading Margin:
You should be aware that lenders will typically reduce the estimated sale price of your home to add in a safety buffer for unforeseen circumstances e.g. market downturn. This has implications for your maximum lending capacity.
Your broker will work closely with you to address these considerations, ensuring your bridging finance solution is realistic and sustainable.
Avoid Common Pitfalls
Overestimating Sale Prices:
Be realistic about your property’s value to avoid being left with unexpected end debt.Mismanaging Interest Capitalisation:
While convenient, capitalised interest increases your total loan amount. Aim to sell your property within the loan term to minimise additional costs.Unclear Exit Strategies:
Have a clear plan for repaying the loan, whether through a sale or refinancing. Your broker can guide you through this planning process to avoid common missteps.
Is Bridging Finance Right for You?
Bridging finance is an excellent option for homeowners who need to transition between properties smoothly. However, it requires careful planning and professional advice to avoid financial pitfalls.
At Three Capes Finance, we pride ourselves on providing expert advice tailored to your unique circumstances. Whether you’re looking to downsize, upgrade, or manage a complex property transaction, we’ll ensure your bridging loan is structured to meet your goals.
It’s our aim to always be recognised as the best mortgage broker in Hobart and beyond by helping clients understand their options, choose the right products, and execute a smooth transition into their next property. Whether you’re in Hobart or anywhere else in Australia, we’re here to help make your property journey a success.