Bridge loans and home equity lines of credit have become two of the most popular cash out loans for homeowners in the Us. s in 2024. When it comes to financing large expenses or leveraging home equity for investments, homeowners have several options. Two popular choices are bridge loans and home equity lines of credit (HELOCs). While both can provide the funds needed for various financial goals, they serve different purposes and come with distinct features.

Guide to Bridge Loan and Home Equity Line of Credit

Understanding the differences between a bridge loan and a home equity line of credit is crucial for making an informed decision.

Both of these types of loans are secured by real estate and both offer a borrower access to money.

The Home Equity Mart publishes this guide to explore the key aspects of bridge loans and HELOCs, comparing their uses, benefits, and drawbacks.

Understanding Bridge Loans

A bridge loan is a short-term financing option used to bridge the gap between buying a new home and selling your current one. It provides immediate cash flow to purchase a new property before selling the existing one. Typically, q bridge loan are secured by the borrower’s current home and are repaid once the old home is sold.

A bridge loan is a short-term financing option often utilized by homeowners seeking to purchase a new home before selling their current one. The loan proceeds can be used to cover the down payment on the new property.

These short-term loans are secured by your existing home or other assets, with most lenders offering repayment terms ranging from six months to one year. However, bridge loans can pose challenges if your current house takes longer than expected to sell.

Key Features of Bridge Loans:

Short-Term Financing: Bridge loans usually have a term of six months to one year.
Higher Interest Rates: Due to their short-term nature and higher risk, a bridge loan often comes with higher interest rates and increased closing costs compared to traditional mortgages.
Secured by Current Home: The loan is secured against the equity in the borrower’s current home.
Quick Approval and Funding: A bridge loan is known for a fast approval process, making them suitable for urgent needs.

Pros of Bridge Loans:

Facilitates Immediate Purchase: Allows homeowners to purchase a new home without waiting to sell their current one.
Flexible Repayment: Repayment is typically structured to occur once the current home is sold.
Avoids Contingency Clauses: Helps buyers avoid making offers contingent on the sale of their existing home, making their offers more attractive to sellers.

Cons of Bridge Loans:

Higher Interest Rates: The cost of borrowing is generally higher than other loan types.
Short Repayment Period: The loan must be repaid quickly, which can be stressful if the current home does not sell promptly.
Risk of Dual Payments: Borrowers may need to manage two mortgage payments simultaneously if the home does not sell within the loan term.

Understanding Home Equity Line of Credit (HELOC)

A home equity line of credit (HELOC) is a revolving line of credit that allows homeowners to borrow against the equity in their home. Unlike a traditional loan, a HELOC functions more like a credit card, providing flexibility in how and when you borrow funds. A HELOC is a 2nd mortgage and is taken out as a secure lien against the property. The borrower only has to make an interest only payment on the portion of the credit line they used.

Key Features of HELOCs:

Revolving Credit: Borrowers can draw funds as needed up to a predetermined credit limit.
Variable Interest Rates: HELOCs typically come with variable interest rates that can change based on market conditions. The HELOC interest is calculated like a credit card. Compare the best HELOC interest rates today.
Draw and Repayment Periods: HELOCs have a draw period (usually 5-10 years) during which you can borrow money, followed by a repayment period (10-20 years) where no further draws are allowed, and the balance must be repaid.
Secured by Home Equity: The line of credit is secured against the equity in the borrower’s home.

Pros of HELOCs:

Flexibility: Borrowers can withdraw funds as needed, making it suitable for ongoing expenses or projects.
Lower Interest Rates: Generally, HELOCs offer lower interest rates compared to credit cards and personal loans. Apply for a HELOC.
Interest-Only Payments: During the HELOC draw period, borrowers can choose to make an interest-only HELOC payment, reducing the monthly payment burden.

Cons of HELOCs:

Variable Rates: The interest rate can fluctuate, leading to unpredictable monthly payments.
Risk of Over-Borrowing: The revolving nature of HELOCs may tempt some borrowers to spend more than they can repay.
Secured Debt: Defaulting on a HELOC can result in foreclosure since the loan is secured by the home. How long does it take to get a HELOC?

Comparing Bridge Loans and HELOCs

Purpose:

Bridge Loan: Primarily used to finance the purchase of a new home while waiting to sell the existing one.
HELOC: Used for a variety of purposes, including home renovations, debt consolidation, or other large expenses.

Loan Term:

Bridge Loan: Short-term, typically six months to one year.
HELOC: Longer-term, with draw periods of 5-10 years and repayment periods of 10-20 years.

Repayment Structure:

Bridge Loan: Lump-sum repayment upon the sale of the current home.
HELOC: Flexible repayment, often with interest-only payments during the draw period followed by principal and interest payments during the repayment period.

Interest Rates:

Bridge Loan: Higher interest rates due to short-term nature and higher risk.
HELOC: Variable interest rates, generally lower than bridge loans but can fluctuate.

Approval Process:

Bridge Loan: Fast approval and funding, suitable for urgent needs.
HELOC: Typically requires a more extensive approval process, including a home appraisal and credit check.

When to Choose a Bridge Loan

Buying a New Home Quickly:

If you need to purchase a new home immediately but haven’t sold your current home, a bridge loan can provide the necessary funds.

Competitive Real Estate Market:

In a seller’s market, making a non-contingent offer can make your bid more attractive. A bridge loan helps you avoid contingency clauses.

Short-Term Financing Need:

If you expect to sell your current home quickly, the short-term nature of a bridge loan can be advantageous.

When to Choose a Home Equity Line of Credit

Home Renovations:

A HELOC is ideal for funding home improvements, allowing you to draw funds as needed for ongoing projects.

Debt Consolidation:

If you have high-interest debt, a HELOC can offer a lower interest rate, helping you save on interest and consolidate payments. The home equity loan is a wise choice for refinancing high interest debts and personal loans.

Flexible Borrowing Needs:

If you need access to funds over an extended period for various expenses, the revolving nature of a HELOC provides the flexibility you need.

Lower Interest Rates:

For those who prefer lower interest rates and can manage variable payments, a HELOC is often a cost-effective option.

Home Equity and Credit Requirements for HELOCs and Bridge Loan Programs

Your home’s equity is a crucial asset for securing both bridge loans and HELOCs, typically requiring at least 20% equity. These home equity loans use your property as collateral, which provides lenders with security.

Both options require equity in your home: Most lenders require at least 20% equity to qualify for a bridge loan or HELOC.
Both are secured loans: Your home is used as collateral, meaning it could be foreclosed upon if you miss payments.

Easy credit qualification criteria: The lending requirements for a bridge loan and HELOC are often more lenient than those for other home loan products. The lower your credit score, the more equity you will need to qualify for a bad credit HELOC loan.

Bridge Loan: Lenders will assess your creditworthiness, taking into account your credit score and your capacity to manage additional debt.

HELOC: To qualify, you generally need a good to excellent credit score, a steady income, and a debt-to-income ratio that aligns with the lender’s requirements. If you are looking to eliminate credit card debt, choose the HELOC for debt consolidation.

Comparing Closing Costs on a Home Equity Line of Credit and Bridge Loan

Most bridge loan offers come with higher interest rates, typically ranging from 9% to 20%, depending on the mortgage lender or bank. Additionally, you’ll need to cover closing costs, which usually fall between 2% and 7% of the total loan amount. These costs can include loan origination fees, administrative fees, processing fees, underwriting fees appraisal fees, escrow fees, notary fees, and title policy costs.

Similarly, obtaining a HELOC involves various fees and closing costs. You might also encounter maintenance fees, which can be charged annually, as well as minimum withdrawal and inactivity fees. If you decide to close your HELOC early, you could incur a cancellation fee or early termination fee. Before choosing a lender, make sure there are no pre-payment penalties.

Summary of Bridge Loans and Home Equity Lines of Credit

Both a bridge loan and a HELOC offer valuable financial solutions depending on your specific needs and circumstances. A bridge loan is particularly useful for those who need immediate funds to purchase a new home before selling their current one, offering quick approval and flexibility in competitive real estate markets. However, the higher interest rates and short repayment period can be challenging.

On the other hand, a HELOC provides flexibility for ongoing expenses, such as home renovations or debt consolidation, with generally lower interest rates. The variable interest rates and potential for over-borrowing are factors to consider when opting for a home equity loan of credit.

Ultimately, the choice between a bridge loan and a HELOC depends on your financial goals, the timing of your needs, and your comfort with the terms and risks associated with each option. HEM recommends consulting with a financial advisor and mortgage specialist can help you navigate bridge loans and HELOCs to find the best solution for your situation.