Bridge Loans: What They Are and How They Work

Key takeaways
* Bridge loans are short-term, interim financing used until permanent financing is secured or an existing obligation is settled.
* They carry higher interest rates and fees, generally require collateral (commonly real estate), and are approved faster than traditional loans.
* Homeowners use bridge loans to buy a new home before selling their current one; businesses use them to cover operating expenses while awaiting long-term capital.
* Lenders typically favor borrowers with strong credit and low debt-to-income ratios; bridge loans often cover up to about 80% of combined property value.

What is a bridge loan?

A bridge loan (also called bridge financing, gap financing, or swing financing) provides immediate, short-term cash to “bridge” a timing gap between transactions or funding events. It is commonly secured by assets such as real estate or inventory and is intended to be paid off quickly once long-term financing or proceeds from a sale are available.

How bridge loans work

• Short term: Designed to cover a gap for a limited period while permanent financing is arranged.
• Collateral and limits: Lenders usually require collateral and may lend up to a percentage (commonly around 80%) of the combined value of relevant properties.
• Cost and speed: Interest rates and origination fees are higher than traditional loans in exchange for faster approval and funding. Many bridge loans have few or no prepayment penalties.
• Repayment: Borrowers repay the bridge loan with proceeds from the sale of an asset or by refinancing into longer-term financing.

Common uses

• Real estate — A homeowner buys a new property using a bridge loan backed by the equity in their current home, allowing them to move before the old home is sold.
• Business — A company awaiting equity financing or a longer-term loan may use bridge financing for payroll, rent, inventory, and other operating expenses.

Important practical note: If your current mortgage is still outstanding, you may need to make payments on both the mortgage and the bridge loan until the old home sells.

Real-world example

In 2016, Olayan America Corp. used a bridge loan to quickly secure the purchase of the Sony Building in New York City. The short-term loan allowed the company to close the deal while it arranged longer-term financing.

Pros and cons

Pros
* Fast access to capital when timing is critical.
* Flexible, customizable for a variety of short-term needs.
* Enables transactions that might otherwise be impossible (e.g., buying before selling).

Cons
* Higher interest rates and origination fees than traditional financing.
* Increased financial risk if the underlying asset doesn’t sell or long-term financing falls through.
* Potentially double mortgage payments for homeowners still carrying an existing loan.

How to qualify

Lenders generally look for:
* Excellent credit scores.
* Low debt-to-income ratios.
* Significant equity in the collateral property or substantial cash reserves.

Bridge loans vs. traditional financing

Bridge loans offer speed and flexibility but at the cost of higher interest and fees and shorter terms. Borrowers usually accept these trade-offs to close urgent transactions, planning to replace bridge financing with lower-cost, long-term loans as soon as feasible.

Bottom line

Bridge loans are valuable short-term tools for individuals and businesses needing quick financing to cover a timing gap. They are most appropriate when borrowers have a clear exit plan (sale proceeds or secured long-term financing) and can tolerate higher interim costs and potential short-term cash-flow strain.

Sources
* International Risk Management Institute (IRMI) — Gap Financing
Quicken Loans — Bridge Loans: What They Are and How They Work in Real Estate
Chase — Bridge Loans: Everything You Need To Know
* Bloomberg — Reporting on bridge financing in commercial transactions