Also known as “wraps” or “gap financing,” bridge loans are a lifeline for homebuyers looking to buy new digs before they’ve sold the home they’re currently in. In such scenarios, unless you have income and wads of money for the down payment, it may be difficult to qualify for the loan amount of that new home while you are still struggling with monthly payments on your current home’s mortgage – for many people, this means stretching their finances awfully thin.

While some lenders may be reluctant to give borrowers a loan for that new home, lenders also know that there’s a good chance the borrower will sell their old home soon enough and then run out. A short-term bridge loan helps bridge this gap.

How bridge loans work

Typically, for a bridging loan, you can finance up to 80% of the combined value of both homes. So if you sell a house for $200,000 and buy another for $300,000, you can borrow up to $400,000. As for the rest (in this case, $100,000), you’ll need that in the form of home equity, savings for a down payment, or a combination of the two. Once your home is sold, you pay off the bridge loan, then apply for a new, longer-term mortgage with a lower interest rate to refinance just your new home.

Bridge loans generally take less time to process than conventional loans (a few weeks versus a few months) and are meant to be short-term solutions (often three months to a year). However, since lenders cannot make a lot of money by interest in such a short time, they typically charge borrowers a higher interest rate and fees than lenders on a standard home loan.

In today’s market, lenders are charging interest rates on bridge loans in the range of 6% to 16%, depending on Jordan Rothvice president of GuardHill Financial Corp. At New York. You may be able to find lenders that offer a fixed-rate, interest-only loan for the length of time you need bridge financing.

With interest rates like this, the idea is to pay off the bridging loan as soon as possible, as soon as you sell your old property. (That said, some lenders have a prepayment penalty while others don’t, so be sure to read the fine print.)

Lenders can charge borrowers a hefty origination fee on bridge loans – think of it as the price you pay for the convenience of getting a short-term loan.

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Advantages and disadvantages of bridging loans

What is a bridging loan used for? With one of these loans, you can make an offer on a new home with no financing conditions, which means you will buy the home. only if you can get a new mortgage. Chances are the person selling the home you’re hoping to buy doesn’t like the financing contingencies, because that would mean your offer isn’t a sure thing. A bridge loan solves this problem of buying a house by guaranteeing the cash needed to close the deal.

Yet bridge loans are rare, requiring excellent credit score and a weak debt to income ratio– and you should take the time to ask yourself “what will a bridge loan do for my long-term finances?”

Even if you’re pretty sure you’ll sell your current home quickly and be able to pay off that high-interest loan, the real estate market is never a sure thing and it’s always possible that your old home will put a lot more time to sell. than you imagine or, God forbid, your old house will never sell at all. Then you’re forced to pay high interest rates and large mortgage payments – and if you can’t repay at the end of the loan term, you could end up losing your home to foreclosure. Granted, most bridging lenders are willing to extend the term of a bridging loan, but not forever.

Is the bridging loan for you?

Whether you should get a bridging loan or not “depends on the market you are in,” says Steve Goldmana real estate partner with Kurzman Eisenberg, Corbin & Leverin White Plains, New York.

Generally, it’s a good bet if your home is located in a hot region. sellers marketwhere you are reasonably assured it will sell out in no time.

“If you’re in a seller’s market, it’s generally okay to buy a new house and then sell the old one,” Goldman says.

However, if you are in a buyer’s market, where your home may sit on the market for months or years, it is much wiser to sell your home and rent something for a short time until you find another house that you love. Yes, that means you’ll have to move twice – once to your rental and then once more after buying a house – but those hassles will pale in comparison to the stress you’ll face when the clock is ticking and you’re doing mortgage payments on a bridge loan. So make sure you are a good candidate before venturing into this branch.

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