Commercial Bridge Loans: What They Are, How They Work, & When You Need One
Let’s imagine a scenario. Your business needs capital now. You’ve applied for a loan with your bank, but the lender tells you that it could be weeks before you get your funds. You like the low rates and favorable terms of the loan, but you don’t want to play the waiting game. Anything can happen in the time it takes for your loan to be disbursed, and you could find yourself in a cash crunch that jeopardizes business operations.
On the other hand, you could go to an alternative lender and receive funding with a much shorter turnaround — even as quickly as the next day. The downside, though, is that a high-interest rate, additional fees, and shorter repayment terms mean that your loan will be more expensive — which could also negatively impact your business.
Fortunately, you aren’t stuck with these two choices. There is a way to get the funding you need now while waiting for your long-term loan. That option is called a commercial bridge loan.
If you need a way to cover gaps in cash flow while waiting for your loan disbursement, keep reading because a bridge loan may be exactly what you’re looking for.
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What Is A Commercial Bridge Loan & What Are They Used For?
A commercial bridge loan is a type of short-term loan that businesses use as they seek a more long-term funding option. This loan bridges the gap in cash flow between the time a business applies for funding to the time that funds are disbursed.
Commercial bridge loans are used for a number of purposes. Most commonly, these loans are used to secure commercial real estate quickly. If a business owner finds a great deal on an office building, securing a mortgage or other real estate loan is time-consuming, and they could miss out on this opportunity. With bridge funding, the business owner could secure short-term funding quickly, purchase the property, and have time to secure a low-cost, long-term loan.
Bridge loans can also be used to fund the cost of renovations, either for your own commercial real estate or for investment properties. Other large purchases, such as equipment, can also be purchased with bridge loans. Another way that bridge loans are used is when acquiring another business.
The most important thing to remember is that a bridge loan is a temporary funding solution. Loan terms are often quite short, and interest rates can be high, so you want to pay this type of loan off as soon as possible by securing low-interest, long-term financing elsewhere.
How Commercial Bridge Loans Work
A commercial bridge loan works similar to other business loans. The business owner applies with a lender, provides information and documentation required to close the loan, and receives funding quickly — sometimes in just a matter of days.
The lender will consider several factors before approving an application, which we’ll discuss in more detail in a later section. For now, though, one thing that the lender will look at is the loan-to-cost (LTC). The LTC is the maximum percentage of the total cost that the lender will give to a borrower. For most lenders, the LTC is 70% to 80%.
Let’s look at an example. You want to purchase a property that is priced at $100,000. The lender is willing to offer a bridge loan of 80% LTC. This means that the lender will provide you with a loan of $80,000, while you will be required to come up with the remaining $20,000.
The lender will set the rates and terms for your bridge loan (more on that later). Once your loan is approved, funds will be disbursed so that you can make your purchase. If you bought the property from the example above, you would make payments as agreed until you secure a mortgage or other long-term funding that covers the principal, interest, and any fees required by the lender.
Another thing to note is that the property being purchased with loan funds is typically the collateral that secures the loan. That means if you default on your agreement to repay the lender, the lender has the right to seize and sell the property to recoup its losses.
Typical Bridge Loan Terms
Bridge loans are temporary, short-term solutions to cash flow problems. Most bridge loans have repayment terms of one year or less. Some lenders may provide bridge loans with longer terms, but these generally will not exceed two years. Many bridge loans will need to be repaid in just a matter of months, giving you enough time to secure more permanent financing.
Typical Bridge Loan Rates
As with any type of business funding, terms vary by lender. However, you should go into bridge loans knowing that the rates are higher than your average loan. Expect to pay at least double the prime rate or roughly 8% to 11%. Since terms for bridge loans are so short, lenders use high rates to make money off their investments.
The interest isn’t all that you have to think about, either. Most bridge loans have numerous fees that must be paid. These include:
- Origination fees
- Escrow fees
- Appraisal fees
- Title fees
A prepayment fee may also be applied if you pay your loan off early, so make sure to ask your lender about this fee and any other applicable fees that may increase your cost of borrowing.
What You Need To Qualify For A Bridge Loan
The requirements for obtaining a bridge loan varies from lender to lender. However, these loans may not have requirements that are as strict as traditional bank loans, which is why so many businesses use them as short-term solutions until a more favorable loan can be obtained. In exchange, though, the cost of borrowing is much higher than other financial products. You must also be able to secure long-term financing before your loan is due, or you risk losing your collateral — typically, the property purchased with loan funds.
Most lenders will look for the following when determining whether to approve a loan application:
- Affordability: Lenders will consider various factors, including your debt-to-income ratio (DTI) and your debt coverage service ratio (DCSR), to determine if your cash flow is sufficient to cover current obligations plus any costs associated with your new loan.
- Equity: A bridge loan will only provide around 70% to 80% of the cost of your purchase. You will need to have the remaining 20% to 30% available to complete your purchase.
- Property Being Purchased: Lenders will look at what you are using your loan funds for. If you’re purchasing commercial real estate, for example, the lender may consider factors, such as the location of the property, its condition, and existing liens.
- Credit History: If you have a low credit score, this doesn’t necessarily disqualify you from receiving a bridge loan. However, lenders may look at your past credit history to determine if derogatory marks — bankruptcies, foreclosures, and liens, for example — make you a risky borrower.
Is A Commercial Bridge Loan Right For Your Business?
A commercial bridge loan isn’t the right choice for every business. How do you determine if your business will benefit from a bridge loan? There are a few things to consider.
First, think about why you need funds. If you want a long-term solution for cash flow issues, a commercial bridge loan isn’t a good fit. However, if you need funds for one of these reasons, consider speaking with a lender:
- Close A Deal Quickly: When the real estate market is hot, you have to strike quickly, or you’ll get left out in the cold. Lining up a mortgage or long-term loan can take weeks or even longer, and by that time, you may have lost out to another buyer. If you want to purchase a commercial property fast, you can get the funds you need with a commercial bridge loan, which buys you enough time to secure another source of funding.
- Work On Your Credit: Is your credit preventing you from getting a mortgage or a bank loan? If so, making a purchase using a bridge loan may be a wise choice. If you need to make a purchase now but also need to work on your credit (i.e., paying off debt or disputing erroneous items on your credit reports), bridge loans provide you with the capital you need until you’re able to clean up your credit and obtain another loan.
- Acquire A Business: If you plan to purchase another business, time is of the essence. Instead of waiting on funding, a bridge loan can help you push the deal forward quickly.
- Renovate Your Property: If you want to improve your business to draw in new customers, a bridge loan can help you get the ball rolling on renovations sooner rather than later.
Where To Find Lenders That Offer Bridge Loans
Does a bridge loan seem like a good fit for your business? If so, the next step is to find your lender. Where do you get started? Try these options.
- Banks: Many traditional banks offer commercial bridge loans. Start by speaking with any institutions that you currently have working relationships with. Even if your bank offers bridge loans, make sure to check out other options in your area to find the best terms and lowest rates.
- Credit Unions: Credit unions that offer commercial products and services may provide bridge loans. Start with your credit union, or search for ones in your area to find the institution that best fits your needs.
- Hard Money Lenders: Hard money lenders are private investors that may offer short-term bridge loans. The good thing about hard money lenders is that they often put the value of the property over factors such as credit history. The downside is that they may have higher rates than other lenders. Make sure to compare your options and only work with reputable hard money lenders.
- Alternative Lenders: Some online lenders specialize in bridge loans and other short-term funding. These loans typically have quick turnaround times, and you never even have to leave your office to get the money you need.
Learn About Other Types Of Financing For Small Businesses
If a bridge loan isn’t quite the right fit for your financial situation, take heart — there are numerous other options available to help you score the capital you need. Check out our great resources, starting with the 12 Different Types Of Small Business Loans You Should Know. From affordable SBA loans to flexible lines of credit, there’s something for everyone. Then, shop your options by checking out our small business loan reviews. Once you’ve narrowed down your choices, make sure that you fully understand the loans, terms, and costs of borrowing so that you can take your business to the next level without drowning in a sea of debt. Good luck!