What Are Bridge Loans and How Do They Work?

author Laura Agadoni
Laura Agadoni

Just as a bridge provides the best or most convenient way of getting you over an obstacle, a bridge loan is often the best method of getting you through a real estate transaction. And like a bridge, which is intended for short-term usage (just to get you to where you’re going), a bridge loan’s term is short, usually due in a few months to up to three years or so, enough time to tide you over until you sell or refinance, at which point you pay off the bridge loan.  

What Are Bridge Loans?

Bridge loans are short-term loans often used in commercial and residential real estate deals. They are not permanent loans; they are loans that “bridge the gap” while you wait for a permanent loan to come through or until you sell a property. You can typically get a bridge loan quickly. But for that convenience, you should expect to pay a higher interest rate. Without bridge loans, many real estate deals could not happen.

How Do Bridge Loans Work?

Nothing can kill a deal faster in real estate than not having the funds to proceed. In residential real estate deals, this often plays out when a buyer makes an offer contingent on their current home selling, often a deal breaker as far as the seller is concerned. A bridge loan can save this type of transaction by letting a buyer purchase a house before they’ve sold their current home. As soon as their current home sells, they pay off the bridge loan. It’s much better to come to a seller ready to act. Bridge loans give buyers that opportunity.

In commercial real estate deals, bridge loans are mostly used when the desired property won’t qualify for permanent financing because it needs major renovation work. Bridge loans are often used to buy buildings that are in bad shape but that have potential once they are upgraded. This can apply to apartment complexes, office buildings, retail properties, and hotels.

Although it’s expensive to renovate commercial property, commercial bridge loans offer a great solution, and one that comes with a huge advantage for real estate investors. With commercial bridge loans, lenders determine the amount of money you can get based on the improved value of the property, not the current value, as is generally the case with permanent loans. With commercial bridge loans, substantially more money is available for you to use to get your project done.

Best Way to Secure a Bridge Loan

Bridge loans present higher risks for lenders, so the qualifications are somewhat strict.

  •        You must prove that you can handle the carrying costs of the loan. Lenders usually determine this by using a Debt Service Coverage Ratio (DSCR), which measures the cash flow available to you minus your debt obligations.

  •        You need to demonstrate that you have some experience with the type of commercial endeavor you wish to accomplish.

  •        Your net worth needs to be at least equal to the bridge loan.

  •        You should have some cash reserves.

  •        Your credit score should be decent enough to be able to secure refinancing down the road.

Best Places to Secure a Bridge Loan

You can get a bridge loan from a bank, credit union, or a private finance company. Because the terms can vary considerably with bridge loans, it’s best to shop around. The most efficient way to shop allows you to apply online and have an entire marketplace of lenders available to you. RealAtom offers such a marketplace, enabling borrowers to access the largest network of commercial real estate lenders in the nation.

Scams to Look Out For

Although bridge loans can be your ticket to make a real estate deal happen, you don’t want that bridge to collapse. Here are two scams to watch out for.

Upfront fees: Charging upfront fees in and of itself is not necessarily a scam with financial transactions, but upfront fees can sometimes signal a scam. With bridge loans, for example, you are charged an origination fee, which is generally 1 percent to 6 percent of the loan amount. That’s typical and is not a scam. Be on alert, however, if you are being charged upfront fees and there are grammatical errors or misspelled words in written communications, the lender offers to partner with you in an overseas deal, or the upfront fees are unusually high. Those are all red flags of a possible scam.

Bait and switch: This old scam that you often see in the retail sector (an advertised great deal that is not there when you try to buy it) also shows up with some unscrupulous lenders. They advertise a fantastic deal on a bridge loan—fast closing, low rates, little documentation—but when you are ready to close, the lender springs some new terms on you, terms that are not nearly as favorable as advertised.

Your best bet to avoid being scammed when you’re seeking a commercial bridge loan is to use a lender that has a good reputation for closing these types of loans. If you use RealAtom to find a lender, you’ll be working with a team and platform that works with lenders to find the best loan with the most favorable terms for you.