8 Common and Creative Ways to Use Bridging Finance
Bridging loans can be an extremely useful finance tool for property investors, business owners and individuals needing a short-term cash injection.
In this article, we’ll go through some of the most conventional and creative ways you can use bridging finance, as well as cover some of their key features.
What is a Bridging Finance?
A bridging loan is a type of short-term loan (typically 12 months or less) that provides fast and flexible finance while you wait for longer-term funding to be put in place, such as a mortgage, the completion of a property sale or business income. As the name suggests, bridging finance is used to “bridge the gap” financially.
The two main requirements for bridging finance are – security and an exit strategy. Security is usually in the form of property. The exit strategy is how and when the funds will be available to repay the bridging loan.
What Can Bridging Finance be Used for?
The great thing about bridging finance is that the loan is fast and flexible, making it a great solution for many circumstances where short-term cash is needed. There are various ways bridging finance can be used, some more common than others. Here are just a few that may be useful to you.
- To Prevent a Property Chain Break
Homemovers or property investors who are using the sale of one property to cover the purchase price of another can often find themselves in a broken or slow property chain. In this situation, a bridging loan can be used to purchase the onward property while waiting for the existing property to sell. Once the sale is complete, the bridging loan is repaid with the sale’s funds. A bridging loan can reduce the level of disruption to the chain and ensure the borrower successfully secures the property they want to purchase.
- To Purchase Auction Property
When purchasing a property at auction, speed is essential, and the full purchase price is often required within 28 days of winning the bid. However, it can take around 4-6 weeks to arrange a mortgage, so many auction purchases would fall through before the mortgage is put in place. In this case, a bridging loan is ideal to complete the purchase and allows buyers to act on great opportunities that arise while having time to secure a mortgage.
- To Purchase Unusual or Distressed Buildings
Many property investors, developers and individuals often seek out unusual, dilapidated or run-down buildings that they can convert or put their own stamp on without having to build a property from scratch. These types of properties are often considered unhabitable, and many high street lenders will not provide a mortgage for them due to the lack of security they provide. However, a bridging loan can be used to purchase these types of properties – providing you can offer alternative security for the loan. The property can then be renovated to make it habitable, at which point a mortgage can be secured so that the bridging loan can be paid off.
This use of bridging is the most common use among property investors that follow the BRRR (buy, refurbish, refinance, rent) strategy. Investors can purchase a below-market-value property that requires work with a bridging loan, add value to the property and then refinance onto a mortgage before renting the property out to tenants. As they have added value to the property, when it comes to refinancing the property, the investor can refinance at the higher value, allowing them to recycle their initial capital and move on to the next project.
This method is one of the most common strategies for property investors as it allows them to start their property business with little initial capital and scale it fairly quickly.
To Remove Japanese Knotweed
Japanese knotweed is a fast-growing and strong clump-forming perennial plant with tall, dense annual stems. It is an invasive non-native species that grows rampantly along railways, waterways, parks and gardens and is notoriously difficult to treat. So much so that properties with Japanese knotweed will often be considered unmortgageable by many lenders as it can damage building foundations, drainage systems, and walls. It can also be harder to sell a property if Japanese knotweed is present.
In this scenario, a bridging loan can be used to pay for the expert removal of the knotweed from a property. The property can then either be refinanced with a mortgage or sold to repay the bridging loan.
To Provide Short-Term Business Cash Flow
Many businesses can experience cash flow problems, such as set-up costs, staff wages, outstanding invoices, upfront expenses, growing costs or investment into new technology, stock or equipment. When the company is either not yet generating any income or the revenue is low, a bridging loan provides quick access to funds without disrupting the day-to-day running of the business.
As the approval process for bridging loans is fast, this type of finance is ideal for bridging a business funding gap – providing there is an asset such as an office building or alternative property that can be used as security against the loan as well as evidence that you can repay the loan.
To Pay a Tax or VAT Bill
There are many forms of tax bills that individuals and companies need to pay. While these are generally not unexpected and can be budgeted for, there are occasions when a large unexpected tax bill arrives, or circumstances change, resulting in insufficient funds available to pay it before payment deadlines.
Another often-overlooked cost is the need to pay VAT on property transactions, which currently stands at 20%, adding a significant amount to the price of a purchase or sale.
Even for purchases that are VAT exempt, the tax still needs to be paid before it can be recouped, which means cash flow can be affected for months before the funds are received. This can severely restrict a developer’s ability to take on new projects in the meantime.
Using a bridging loan to cover a tax or VAT bill allows investors to manage their cash flow and continue growing their property business.
- To Exit Development Finance
Many developers use development finance to get their projects off the ground, either by building from the ground up or carrying out extensive renovations to a property. Like bridging finance, development finance is a type of short-term finance that must be repaid once the development is complete and the property is either sold or refinanced. However, in some cases, there can be a delay to project completion and the developer reaches the end of the terms set out in their development finance. Development exit finance is a type of bridging loan that is designed for these situations allowing the developer to repay the development finance and bridge the gap between the sale or refinance of the property.
- To Secure Planning Permission
Investors will often seek out properties that require planning permission, either to build on or convert into another use. While great sites may become available, they often do not come with planning permission. In this scenario, bridging can be used to purchase land or property with the potential for planning permission. Once purchased, a planning application is then submitted. If the planning permission is approved, the site will typically have increased in value and can be sold for a profit or developed by the borrower. Once permission has been granted, development finance is generally used to fund the development project.
How Much Can I borrow with Bridging Finance?
Most bridging lenders will offer loans from £10,000 with no maximum amount, but the amount that you can borrow depends on why you need the loan as well as how you can repay it. If you need to bridge a gap between a purchase and the sale of an existing property, the lender will consider the value of the existing property and the likelihood you will be able to refinance onto a mortgage.
If you plan to buy a property and then develop it to sell at a profit, the lender will determine how much you can borrow based on the current value, the cost of works and the value once the project is complete.
The most important thing a lender will consider is the exit strategy and security provided against the loan. Based on this, they will decide how much they are willing to loan you.
What are the Criteria for Bridging Finance?
Each lender has its own specific criteria that a borrower must meet; however, most borrowers will need to fall into the following:
- Be a private individual, partnership or limited company.
- Be over the age of 18 years old.
- Live or have a registered address in the United Kingdom.
- Have a form of security – usually one or more properties.
- Have a defined exit strategy – usually to sell or refinance a property.
- Be employed, self-employed or retired.
As security and exit strategy are crucial, credit history and income are often not considered.