You are considering selling your current home, and buying another. Ideally you would like to move straight out of your current home into the new one, which would mean both settlements occurring on the same day. But how do you finance the purchase of a new home if you cannot align the settlement dates?
There are a couple of scenarios to consider:
- The Sale Settles First
In this case, financing is easier because you can use the sale proceeds to put towards the purchase, however, where will you live in between the two settlements?
- You could temporarily move into another house (e.g. a rental, or with family). This is often the only solution however you need to consider the obvious double handling with removalists etc.
- You could potentially negotiate with the Purchaser of your home, to let you rent the property off them for the period in between settlements.
- The Purchase Settles First
You already have a home loan, and you don’t have access to the equity / cash from your home because it has not yet settled! In this case you need to consider a Bridging Finance solution.
How Does Bridging Finance Work?
Bridging Finance enables you to borrow up to 100% of the purchase price to settle on a new purchase, whilst you work on selling your current home, however, there are a few important elements of bridging finance to be aware of:
> Bridging Finance Is Not For Everyone
As a ‘rule of thumb’ it is most often only a viable solution if you have built up equity of at least 40% of your existing home’s value, before you attempt a bridging loan. Otherwise, the total amount of lending that you need to settle on the new property (plus your existing home loan) may be more than the maximum loan amount available.
> How Do You Borrow 100%?
Whilst you can also contribute some cash towards the new purchase, the bridging loan is often used to cover 100% of the purchase price and relevant stamp duties.
The loan is secured against both the new home and the existing home.
Even though bridging may only be required for a short term, the “total loans” (new and existing) cannot exceed 80% of the “total property value” (for both existing and new properties).
> Potential Issues
To complicate the numbers further, various lenders use different models to calculate the value of a bridging loan. One common model includes a 15% allowance against the potential sale price of your existing home.
In other words, say you think you could sell your home for $800,000, some lenders will assume (for the sake of approving or declining the bridging loan) that you will only sell for $680,000. This immediately impacts whether bridging finance is viable, and reinforces the 40% equity guide discussed earlier.
> How Do Repayments Work?
The loan is often split into two parts:
- The loan amount that you would eventually need once your sale has gone through (i.e. the ongoing home loan). Repayment on this loan are usually Principal & Interest over the standard term of 30 years (i.e. normal home loan repayments).
- The ‘Bridging Loan’ which covers the rest of the purchase price. This loan allows for interest to ‘capitalise’ on top of itself – in other words repayments on this loan are optional. However, the more interest that accrues, the less money you will receive from the sale proceeds.
> What Are The Risks?
The obvious risk is that for whatever reason, you are unable to sell your old home. Bridging loans typically have a maximum term of 6 months; after this date the lender may enforce a monthly repayment on the bridging loan (which can become a significant cash flow burden), and if the sale process still does not gain some traction, the lender may reserve the right to take charge of the sale process, which can result in a lower sale price.
If structured correctly, with realistic time frames and price estimates, bridging finance can ease the pressure of matching up settlement dates, and give you time to sell your existing property whilst securing your new one.
If you require finance or want to speak to an adviser about if a bridging loan and if it is right for you, contact our specialist lending team at Crosbie Finance.