What is a bridging loan?

The lender takes a mortgage over the property you are buying and, in most buy-before-you-sell cases, over the one you are selling as well, ranking first or second behind any existing mortgage. It assesses the combined loan-to-value ratio across both properties, then works out peak debt, your existing loan plus the purchase and costs, and end debt, the balance left once the sale proceeds are applied. Most lenders test serviceability against end debt rather than peak debt, often at a stress rate, with interest on peak debt capitalising during the bridge. Valuations, title searches and the purchase contract are needed quickly.

Repayments are usually interest-only. Interest accrues daily on the outstanding balance and is either paid monthly or capitalised, meaning it is added to the loan and you pay interest on interest. The principal is cleared at exit, from the sale proceeds or by refinancing onto a standard home loan. Because the rate is higher and rolled-up interest compounds, a bridging loan gets expensive if it runs longer than planned.

A closed bridging loan is for when you already have a signed, unconditional contract to sell with a known settlement date. The lender can rely on the sale proceeds as the exit, so the cost is generally lower and the LVR limit a little more generous. An open bridging loan is for when you have not yet sold. The lender has less certainty about when it will be repaid, so it charges more, allows a lower LVR and will want to see the old property being marketed. The risk with an open loan is a sale that takes longer than expected, which pushes up the total cost and may force a rollover or extension. Bridging finance is not only residential: commercial and development bridges work the same way, as short-term senior finance secured over property and repaid when a sale, a refinance or a longer-term facility takes over.

On top of interest, expect an establishment fee, valuation fees on each security property, legal and mortgage registration costs, an exit or discharge fee when the loan is repaid, and in some products ongoing administration fees. Lenders mortgage insurance may apply if the combined LVR is above the lender's threshold. Many lenders cap the standard term at twelve months.

The main risks are a sale that falls through or is delayed, a fall in property values that erodes your equity, and covering repayments on two properties at once. A closed loan, a subject-to-sale clause in the purchase contract and a contingency fund of several months' interest all help. If you have strong equity and time, a line of credit or a redraw on your existing loan is usually cheaper. Porting your existing mortgage, vendor finance, or selling first and renting in between are the other options.