The lengthy approval processes associated with traditional financing options can be a problem at the best of times, but especially when you need to act quickly. Luckily, the market responded to this by providing short-term financial solutions that help businesses obtain funding. In this article, our commercial property solicitors walk you through bridging loans, how they work and how you can go about getting one to suit your commercial needs. We discuss some key legal and practical considerations that borrowers should take into account, and what options are available if you run into difficulties.
Contents:
- What is a bridging loan?
- When are bridging loans used?
- Can you get a bridging loan on a commercial property?
- What types of commercial properties are eligible for bridging loans?
- Are personal guarantees required for bridging loans?
- What legal advice should borrowers seek before they take out a bridging loan?
- What legal documents are required for a bridging loan?
- Applying for a bridging loan for a commercial property
- What legal protections are in place for borrowers?
- What happens if a borrower cannot repay the bridging loan on time?
- Can you extend the term of a bridging loan?
- Alternatives to bridging loans
- Summary
What is a bridging loan?
A commercial bridging loan is a short-term financing option that helps businesses secure funding quickly while awaiting longer-term financing to come in place. They are termed bridging loans because they are often used to ‘bridge the gap’ between two transactions, sources of funds or your current financial needs and future income. The loan is secured against property or other assets. They usually last between 1-12 months and come with higher interest rates compared to traditional long-term financing options, reflecting the quick access to funds and higher level of risk involved. Interest on such loans is paid on a monthly basis or can be rolled up to be paid at the end of the loan term together with the balance.
When are bridging loans used?
Bridging loans are typically used for the following purposes:
Property purchases: bridging loans can be used to finance the purchase of a new property before the sale of an existing property is completed. This can be particularly useful in competitive markets where quick access to funds is necessary to secure a property.
Auction purchases: bridging loans are commonly used to finance property purchases at auctions where immediate payment is required. These loans provide buyers with the necessary funds to secure the property quickly, with the intention of refinancing or selling the property at a later date.
Property development: bridging loans can be used to fund the development or refurbishment of a property project before longer-term financing is arranged. This can help cover construction costs, materials, and other expenses until the project is completed and can be refinanced or sold.
Cash flow needs: bridging loans can be used to address short-term cash flow needs or unexpected related expenses. This could include covering operating expenses, renovations, or other costs that arise before long-term financing can be secured.
Can you get a bridging loan on a commercial property?
Yes, bridging loans are commonly used to bridge a financial gap in commercial real-estate, such as when a borrower needs quick access to funds for a commercial property purchase or renovation. Lenders will assess and use the value of the property as security for the loan. Importantly, lenders will be interested in seeing a clear exit strategy in place to repay the loan amount (such as from the proceeds of sale of another property, refinancing onto a longer-term traditional mortgage, or another form of funds, assets or expected capital injection). The availability and terms of bridging loans for commercial properties can vary between lenders, so it's important to do your research to find the most suitable option for your specific needs.
What types of commercial properties are eligible for bridging loans?
Bridging loans can be used for various types of commercial property, including but not limited to office buildings, retail spaces, industrial facilities, warehouses, and land earmarked for development. Additionally, bridging loans can also be used for mixed-use properties, such as buildings that encompass both commercial and residential elements. They can be and have been used in a variety of industries and sectors, including healthcare, hospitality, professional services, special purposes and more. They are often used by developers and landlords to buy commercial property at auction.
Are personal guarantees required for bridging loans?
Lenders often require personal guarantees (for example from directors of the borrower company) to provide an additional layer of security and assurance that the bridging loan will be repaid. This is especially the case for higher loan amounts, concerns about the borrower’s creditworthiness or riskier transactions. Personal guarantees help mitigate the lender's risk by holding the guarantor personally liable for the repayment of the loan amount, interest, and any associated costs in case the borrower is unable to fulfil their obligations.
What legal advice should borrowers seek before they take out a bridging loan?
Before taking out a bridging loan, borrowers should strongly consider seeking legal advice about the terms and conditions of the loan agreement. A solicitor can help you understand the legal implications of the loan, highlight areas of risk and negotiate on potential pitfalls, such as default provisions, interest rates, and repayment terms.
What legal documents are required for a bridging loan?
- identification documents (director photo ID, proof of address)
- three to six months’ of bank statements/proof of income and expenditure to determine affordability
- evidence of current assets and any liabilities, such as outstanding mortgages
- your business plan / planned exit strategy to repay the loan
- details and valuation of the property for purchase, or property portfolio details (for developers)
- the bridging loan agreement itself setting out the terms and conditions of the loan
- the legal charge creating security over the property to be lodged at Land Registry
- in some cases, in addition to the legal charge, there will be debenture agreement giving the lender floating security over all of the borrower company’s assets
- the guarantee (if a personal guarantee is being given)
Applying for a bridging loan for a commercial property
- Initial considerations: anyone considering bridging finance should conduct initial research and obtain sound financial advice that this is the right product for your needs. Work with a trusted financial advisor/mortgage broker to compare different lenders and select a lender based on factors such as interest rates, loan terms, fees, and reputation.
- Application submission: you will need to complete the formal application for the bridging loan, providing detailed information about the commercial property, its value, your financial situation, and the purpose of the loan. As part of this process, you will need to gather and submit supporting documents such as property valuations, business financial statements, and personal financial information.
- Assessment and approval: the lender will assess your application against their eligibility criteria, including the condition and value of your security property, your financial situation, your ability to repay the loan, and your exit strategy. During this process, they may conduct a professional valuation of the property, credit checks, and any other internal due diligence they require. If approved, you will receive a formal offer outlining the terms of the bridging loan, including the amount, interest rates, repayment terms and penalties.
- Legal checks and due diligence: the role of a solicitor is crucial in obtaining a bridging loan. We review the terms and conditions of the loan agreement, identify and negotiate any onerous clauses with the lender, and help you understand the risks and implications of the loan so that you are not in for any nasty surprises. We assist in the preparation and execution of all legal documents required to put the loan in place (mortgage deed, security charge, loan agreement itself). We will also conduct thorough due diligence checks on the security property to identify and highlight any issues or encumbrances. Ultimately, our role is to ensure your interests are protected throughout the process.
- Drawdown of funds: after legal checks have been satisfied and transaction documents signed and verified, the lender can proceed to transfer the funds to your solicitor, who then allocates the funds as needed, such as for completing the property purchase or transferring them to your bank account.
- Timescales: since bridging finance is meant to be a quick solution, the application process can be straightforward, taking as little as 72 hours in ideal conditions with funds being released within weeks. That said, processing times will vary from application to application, some taking longer than others as a result of inaccurate or missing paperwork, delays in obtaining the property valuation, or general slow communication/response times between parties. Having all your paperwork in order and choosing an efficient legal team can make a big difference.
- Fees and costs: due to their nature, bridging loans are more expensive than other forms of finance. In general, you will need to factor the following into your budget: arrangement or product fee charged for setting up the loan (ranging between 1% – 3% of the overall loan amount), monthly interest charges (typically ranging from 0.45% to 2%) and broker fees which can be anywhere from 0.5% to 2% but may also just be a flat fee. There will also be additional charges such as arranging the property valuation, legal costs, and administration fees. Most bridging loans will expect you to pay a deposit of at least 25% of the property’s value as a deposit. There may also be potential exit fees for paying the loan off early in the region of 1%.
What legal protections are in place for borrowers?
Although bridging loans by their very nature are more expensive and riskier than traditional forms of lending, this does not mean the lender can get away with clauses and practices that put you at an unfair disadvantage.
Penalty interest clause: lenders often impose an additional default interest rate that kicks in in the event of a breach by the borrower to safeguard their own legitimate interests.
Redemption difficulties: if a bridging loan agreement contains an onerous redemption clause that significantly hinders the borrower’s ability to repay, the borrower could potentially argue that the loan terms are unenforceable by way of a "clog on the equity of redemption."
Personal guarantees: although lenders routinely secure personal guarantees, their enforceability can be challenged where the guarantor can prove there was some sort of unconscionable bargaining, undue influence or misrepresentation that led them to give the guarantee.
What happens if a borrower cannot repay the bridging loan on time?
Whether it is due to delays in a property sale, problems in securing longer-term financing, cash-flow issues, or something else, things don’t always go according to plan. Defaulting on a bridging loan can cover late or nonpayment of interest, breach of loan covenants, or a general failure to repay the full amount at the end of the term when it is due. It is best to speak to your lender if you anticipate difficulties as soon as possible, who may be willing to with struggling borrowers. In general, you may expect the following if things go wrong:
Increased interest rates: if a payment is missed, or the terms and conditions of the loan are breached, the loan agreement may document that default, higher interest rates kick in. These are likely to significantly escalate the overall cost of borrowing.
Late payment fees: the lender may apply late payment or penalty fees for each day or month a payment is overdue.
Default notice and legal action: the lender may issue you a formal notice in writing if the bridging loan remains unpaid beyond a certain point, setting a deadline for repayment. Failure to respond to the notice or make payments by the specified dates can lead to legal action and a court judgment.
Repossession: as bridging loans are ultimately a form of secured lending, with a charge placed on assets or the property in question being used as collateral, lenders can call in the security to recover their outstanding debt. In practice, this is usually used as a last resort with lenders being willing to explore other options first.
Can you extend the term of a bridging loan?
It is possible to extend the terms of a bridging loan, but it is entirely at the lender’s discretion and would largely depend on the lender’s policies, the borrower’s circumstances and the specific terms of the loan agreement. The lender may charge some sort of extension or arrangement fee. Otherwise, some lenders may be willing to offer what is known as a “re-bridging” loan to refinance an existing one.
Alternatives to bridging loans
Traditional bank loans or commercial mortgages: Traditional bank loans, including commercial mortgages or business loans, offer longer-term financing solutions with lower interest rates compared to bridging loans. These loans are suitable for borrowers with stable financials and longer-term financing needs.
Mezzanine financing: this type of financing involves obtaining a loan that is subordinate to the primary mortgage, providing additional capital but typically at a higher cost due to increased risk for the lender.
Equity partnerships: bringing in equity partners or investors can provide access to capital for commercial property transactions without taking on additional debt. Equity partnerships involve sharing ownership and profits with investors in exchange for their financial contribution.
Sale-and-leaseback arrangements: in a sale-and-leaseback arrangement, a property owner sells the property to a buyer and then leases it back from the buyer. This can provide immediate capital while allowing the owner to continue using the property.
Crowdfunding: real estate crowdfunding platforms allow individuals to invest in commercial property projects collectively. This alternative financing method can provide access to capital from a broader pool of investors.
Peer-to-peer lending: peer-to-peer lending platforms connect borrowers directly with individual lenders willing to provide financing for commercial property transactions.
Private lenders: private lenders or hard money lenders offer short-term financing solutions for commercial property transactions. While interest rates may be higher than traditional bank loans, private lenders can provide quick access to capital with less stringent requirements.
Summary
Overall, bridging loans are a flexible financial tool that can be used in various situations in commercial property where short-term funding is needed to bridge a financial gap. It is important to carefully consider the terms and costs associated with bridging loans before committing. Engaging an expert commercial property solicitor is key to help you understand your obligations and potential risks involved as well as negotiate on your behalf to protect your interests.
