Are Bridging Loans Risky?

What are the main risks?

As bridging loans tend to be high interest, short term loans, there are several risks that should be considered before applying. Below we cover some of the main ones.

Failure to repay at the end of the term

Your repayment strategy, or exit strategy, is crucial and must be watertight.

The importance of an exit strategy can’t be understated, and should it fail, you will be unable to repay the lender.

Much like a mortgage, if you fail to repay by the pre-agreed term, your account will be placed in default. This means that the collections process will begin leaving you liable for defaults, CCJs, liquidation of the holding company (if your property is held in a company name) and repossession.

Payment arrears

Although bridging loan costs have reduced in recent years, the interest rates charged are still higher when compared to those on mortgages.

This means that the higher interest rates charged lead to higher monthly payments, which can be difficult to keep up. Should you fail to keep up the payments, you’ll find yourself in arrears and at in danger of debt escalation or being put into default by the lender.

Defaulting

If the lender does issue a default, they will want to redeem their funds as quickly as possible. This is usually by means of repossession and forced sale, typically via an auction.

While you will have an element of protection if you’ve taken a regulated bridging loan, there is little protection for unregulated and commercial bridging loans.

If your property is repossessed, additional costs are added and there’s a negative impact to your credit file.

Breaching the lenders terms

You can run into trouble with your lender even if the monthly interest is all up to date.

Each loan comes with a detailed set of terms and conditions, which set out exactly what you’re allowed, and not allowed to do during the loan term.

A good bridging loan example is where an applicant decides to use the loan to extend or refurbish a property, where this isn’t allowed by the lender.

If you breach the loan terms, the lender is within their right to take possession of the property and sell to get their money back.

When applying for any type of secured finance, you’ll often see the following statement on your offer:

‘Your home may be repossessed if you do not keep up repayments on your mortgage.’

How can I minimise the risks?

When taking out a bridge, the key to reducing risk is to be totally prepared from the outset. You must consider all eventualities before completion, as once your loan is in place – it may already be too late.

Here are some handy tips:

Exit strategy

The first and most important thing is how you plan to repay, known as your exit strategy. This must be totally comfortable and if the numbers are tight, make sure you have a backup plan.

In most cases, your exit strategy will be either sale of a property, or a refinance onto a longer term product.

When selling a property to repay the finance, there are 2 key considerations to take into account, sale price and sale time.

• Sale price, you should seek advice on how much the property is likely to sell for. It’s worth speaking with a local estate agent who will be able to offer guidance and will have knowledge in this regard. You can also do research online and look at similar comparable properties and how much they have sold for to ensure this is realistic.
• Sale time, this affects how long the property will take to sell and will therefore impact how long the bridge is needed for. If properties in the area aren’t selling, bridging finance could be considered risky. To reduce the sale time, the property needs to be priced to sell quickly.

For example, you’re planning on refurbishing an investment property to add value, which will allow you to refinance. In this scenario, you must consider what you’ll do if the improvements made don’t add the desired value. What if the market dips and you’re unable to exit?

A strong alternative exit strategy here would be to sell for a small profit, or even at breakeven to clear the facility. This could be the difference between allowing you to move on to the next project, or destroying your credit file and making future borrowing very difficult.

When borrowing to inject cash into a business to increase income, future profit is used to repay the loan. In this instance, lenders consider this to be risky as the projected income isn’t guaranteed.

Monthly payments

Rolling your interest into the loan upfront takes away the risk of missing payments.

When opting to pay monthly, you should carry out an income and expenditure assessment to check whether this is affordable, and how long it’s affordable for.

Where the monthly interest is very high, careful consideration must be made before committing to them. Where there’s a risk of default, you should consider rolling up or deducting the interest, leaving you with no monthly payments to make.

Consider your financial position.

Take a look at your income, expenditure, assets and liabilities. If you run into trouble, are you in a position to cover shortfalls?

Allow financial leeway

If you are putting every last penny into the transaction, you are leaving yourself prone to running out of cash part way through.

Use a broker

Seeking advice from an experienced broker, such as ABC Finance, can be a huge benefit as they will guide you through the process and manage the process for you.

What are the key considerations when taking out a bridging loan?

Ultimately, bridging loans are a vital tool for homeowners and property investors, and can lead to excellent outcomes that otherwise wouldn’t be possible.

That said it’s important that you approach them with care to avoid any undue threats to both your property and credit file.

Seeking professional help from an experienced bridging loan broker is often advised for those who aren’t 100% comfortable with the bridging market.

To keep reading, check out our guide to the history of the bridging loan market.

What else should I look out for?

There are a few key points to look out for, they are:

• What happens if you default and how flexible is the lender?
• Is there a pre-agreed default interest rate and fee charged?
• What are your chosen lender or brokers reviews like? Keep an eye out for red flags.
• Have you compared multiple options? Doing so will highlight any potential issues.
• Is your exit strategy robust and do you have a plan b?

Of course, your personal circumstances could mean there are more things to consider. If you’re unsure, give us a call and we’ll be happy to talk through how you can minimise the potential dangers.

Frequently asked questions

Are there less risky alternatives to bridging finance?

Other forms of property finance could be considered less risky, however may not be available.

Longer term products such as mortgages, secured loans and homeowner loans, commercial mortgages and HMO mortgages are less risky. This is because you have longer repayment terms, in some cases up to 30 years.

The issue here is that if the property isn’t habitable or fit for purpose, or the funds are needed quickly, a mortgage may not be possible.

Can ABC Finance help me reduce risk?

ABC Finance have specialist bridging advisors with the experience to highlight and reduce the risks.

Are FCA regulated loans less risky?

Regulated bridging finance can be just as risky as unregulated bridging, however you have the added benefit of protection from the Financial Conduct Authority should you run into trouble.

Whether the bridge is regulated or not, you must still have a clear repayment plan in place and endeavour to repay by the pre-agreed term.