Is your loan a bridge too far?

Published on Saturday 7 March 2009 13:28

AS INTEREST rates have fallen, the cost of bridging finance has sunk to levels never seen before. So with property prices sliding, is now the time to snap up a bargain and cross your fingers that your own home will sell quickly?

UK house prices fell 2.3% in February according to the Halifax, wiping out January's 2% climb and pushing average prices to 160,327. Values are nearly 18% down on a year ago.

The chance of finding your dream home at a never-dreamed of price has rarely been higher, particularly if you can move quickly. Could bridging be the answer?

Bridging loans have long been a factor in the Scottish housing market, where the speed of the system sometimes made it difficult for movers to synchronise the sale of their own house and the purchase of a new one on the same day.

But Graeme McCormick of Conveyancing Direct says most buyers are wary in the current market. "When the market was buoyant people were taking the risk and buying before they were selling," he says. "But now almost no one is buying before they are selling unless they've got private funds."

Yet bridging finance, if you can get it, has never been cheaper. Bridging is priced at a margin over base rate of as little as 1% or 2%. As base rate has fallen, so has the price of taking that gamble.

So how does bridging work? Essentially a bank lends you enough money to buy your new house before the other is sold. There are two kinds of bridging: "closed" bridging and "open-ended".

A closed bridge is where you have completed missives, but for some reason are unable to complete the sale of your existing property on the same day as the purchase of the new one. McCormick says: "It never fails to surprise me how so many buyers do manage to synchronise the timing of their sale and purchase, but they do. And of course there is nothing to stop you setting the date of entry six months after the missives."

However, if synchronising a move proves impossible, a closed bridge may be the answer. The risks involved are limited and quantifiable, as you are borrowing the money for a clearly defined period of time.

The other kind of bridging is "open-ended", where you buy one house without having completed missives on your existing home. Even if you have a buyer, this leaves you exposed, as they could pull out.

If you don't have a buyer, there is no guarantee in this current market that you will find one. This would leave you paying a hefty interest bill on two properties for an unknown period of anything up to a year or even longer. John Postlethwaite, a broker at Punter Southall, said: "With open-ended bridging you are taking a huge gamble. It is certainly advisable only for the chosen few."

L & C mortgage adviser David Hollingworth added: "We don't sell bridging because we think it is too risky. Closed bridging is cheaper, but open-ended bridging is immensely dangerous, even if you think you have a buyer. If they pull out it could cost you a fortune."

The Edinburgh Solicitors Property Centre says properties are currently on their website for an average of 126 days, although that includes four weeks after a price has been agreed. This means it is currently taking owners more than three months to find a buyer.

Bridging can work in a variety of ways but two are most common. Take the hypothetical example of Mr Brown who lives in Edinburgh. He owns a 250,000 property, on which he has a 100,000 mortgage with the Halifax. He wants to buy a 350,000 bigger house, in a better road around the corner, on which he will end up with a 200,000 mortgage.

Everything was going smoothly until his buyer pulled out just ahead of completing missives. Someone else has made a good offer on the house he wanted to buy. He must either walk away or bridge.

If he is able to raise finance cheaply enough, the bridging company will buy his new home, while simultaneously taking a second charge on the remaining equity in his existing home. This leaves the borrower with outstanding loans of 450,000 and a charge against his remaining equity of 150,000.

Alternatively, the lender may prefer to take over the borrowings of both houses. In this case, the bank will pay off the Halifax, and end up with total loans of 450,000 secured against property worth 600,000.

But getting any bridging loan now is difficult, and open-ended bridging the most problematic of all. None of the big mortgage lenders, such as Halifax, Abbey or Nationwide, offers them. Traditionally you went to your bank, but some, such as HSBC and Barclays, have pulled out of the market. A range of specialist bridging companies has developed, such as Cheval Property Finance, Bridgebank Capital, Credit & Mercantile and Hampshire Trust. These are primarily business bridging companies, although some will consider a residential property bridge. But they can be expensive.

Most customers are advised to stick to high street banks. Lloyds TSB says it will offer bridging to existing customers, but you have to apply at a branch and undergo rigorous credit checks.

Royal Bank of Scotland will consider applications from non-customers as well as customers, but the money has to be repaid within a year.

Whoever you borrow from, you will have to pay an arrangement fee, interest and possibly an exit fee. The interest you pay will depend on the property deal being done, the credit-worthiness of the customer and their relationship with the bank. Lloyds TSB said closed bridging would cost 0.5% in arrangement fees, and interest for their most credit-worthy customers start at 1% over base. Open bridging starts at a 1% arrangement fee and 2% over base.

If Mr Brown had already completed missives, and was having to bridge for just a fortnight, this might cost him around 1,952 in total on top of his existing mortgage with base rates at 0.5%. That's nearly 1,000 per week.

However, if he decides to proceed without a buyer and before missives the cost will be much higher. At best, he'll face a 3,500 arrangement fee and 729.17 monthly interest charge on top of his existing mortgage. If it takes him six months to complete, interest will climb to 4,375 or around 8,750 if it takes a year, pushing the cost up 12,000 on top of his usual mortgage repayments.

RBS has a 1% arrangement fee, 250 application fee and interest again tracks base rate. The margin over base will depend on individual circumstances, but it typically averages 2.5% over base rate.

The cost soars if you have to use one of the specialist lenders. These are likely to charge a 1% arrangement fee and between 1% and 1.25% per month interest, pushing the interest bill up to more than 4,375 a month or 52,000 if it takes you a year to sell. They are likely to add an exit penalty too.

Where you can't get cheap bridging, open bridging may be avoided by slashing the price of your home to get a quick sale. Otherwise, if you have savings to put down for a deposit, you could take out a new mortgage on the second property and keep the two loans going. You may be able to rent out your old home to cover the first mortgage.