Bridging loans are a fairly new product and have increased significantly in popularity over the last decade. The value of the industry has increased from £1 billion in 2011 to over £7 billion in 2018. Whilst many property developers and business owners use bridging finance to complete within a short timeframe and access finance quicker than a typical mortgage, there are several common mistakes that customers can make when using a bridging loan, as Tiger Financial investigates below.
Getting the numbers wrong
Since most customers that use bridging finance are property developers, it is essential to have a strong understanding of your financials. Being a successful property investor takes time and experience and one of the key things is finding a property that is potentially undervalued and being able to sell it at a higher price or rent it out at a rate that will generate strong income.
You should avoid overpaying for a property and if you are planning on doing any refurbishments or additional work, it is worth visiting the site with your builder or architect beforehand and getting a full understanding of your costs before you proceed. Further costs included with a bridging product are stamp duty, taxes, buildings insurance, valuation fees, broker fees and more – and these are some fundamental costs which some people fail to take into account.
In addition, you need to ensure that using a bridging loan will be profitable for you. Once you have repaid the loan and its interest, it is important to determine how you will make money and whether it will be commercially worthwhile.
No exit plan
An exit plan determines what you are going to do with the property or business at the end of the loan term, which is typically 3 to 12 months. The bridging lenders we work with at Tiger Financial will commonly ask about your exit plan during the application process. Examples of exit plans include refinancing at the end of the loan term, re-selling the property for a profit or using the additional income to pay off the loan.
Failing to have a strong exit plan can lead to financial issues for the borrower. When the interest repayments are due and you have no sufficient exit plan in place, you can find yourself falling behind on repayments and in the risk of your property being repossessed.
Mismanaging their cash flow
Receiving your bridging loan in one lump sum can provide you with much-needed funds for your project. However, many developers and borrowers are enthused by having what initially might feel like an unlimited sum – but mismanagement can make it quickly run out.
Building projects will regularly overrun on costs and this can put pressure on one’s cash flow and profit margins.
It can help to be cautious when calculating your costs and putting an extra 10% or 20% on top in case of contingencies.
To manage cash flow more effectively, you can ask your bridging lender to provide funds in stages and increments to avoid overspending too soon.
Not checking out the property effectively
There have been several cases of bridging loan customers who have committed to buying properties without carrying out sufficient checks on the property. As mentioned, visiting the site with your builder or architect is essential to get an idea of what you can do to the property and to understand your costs better.
Other areas where people have fallen down include not being able to get planning permission on the property which has delayed its development or made the project a no-go. Elsewhere, finding issues with subsidence, asbestos or other toxic materials can be very costly to fix and make your property undesirable for future buyers or tenants.
Most bridging finance providers require a valuation to be confirmed by a RICS quality surveyor prior to proceeding with a loan. This should give a strong valuation of the property and be the foundation of the loan amount and potential earnings.
Those individuals who have relied on weak valuations from unqualified personnel may suffer financially when it comes to renting out or reselling the property.
Lack of due diligence when buying at an auction
One of the most common reasons for using a bridging loan is to buy property from an auction. Buying a property at an auction can result in a hefty discount due to the vendor’s urgency to sell the property, commonly due to probate.
In a property auction scenario, you are bidding in a high-pressure environment against other potential buyers. Some of the biggest challenges that can emerge from buying the property at an auction include overpaying for the property due to being caught up in the moment or failing to do proper research on the estate and the area it is in. Overpaying for the property will impact your bottom line and your overall profit.
Further issues include not being able to come up with the full amount to purchase the property within 28 days. If you cannot come up with the remaining 90%, you will lose your 10% deposit that you have put down and risk losing it to someone else.
Also, you want to avoid buying a property at an auction and finding out that it needs serious building work or has major issues such as plumbing problems, subsidence or no ability to get planning permission.
Your repayment is too early
Being cash positive and in a position to repay your bridging loan early can be a great way to save money. However, it is important to note that some bridging loan companies have early redemption penalties and these can be significant the sooner that you clear your debts. Be sure to check your contract about any early repayment fees and determine how much it would cost you to close the account earlier if you needed to. You may find that it is more financially viable to keep the loan for longer instead.
Balancing LTV over interest rates
For any borrower, the premise of borrowing as much as possible is always very appealing. However, one should try to balance the loan-to-value with the interest rate they are charged. Tiger Financial’s customers can usually receive up to 70% or 75% of the property’s value.
With interest rates starting from 0.44% per month for very low LTV loans, they can be considerably more depending on the complexity of the case – so as a borrower you want to avoid paying too much interest and finding the right amount for you. This is something that you can ask your broker about.
Not getting the best deal
Some borrowers will overpay for their bridging loans and not get the best deal possible. This is where Tiger Financial can help. As a whole of market broker, we have access to some of the best rates in the industry and can get you a quote from the best providers in the UK and Scotland. We can also give you advice and guide you every step of the way to make sure that your project is a success. For more information, contact us today.