Short Term Property finance In New Zealand

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The majority of us have that dream of finding the perfect property, that forever family home, the one we have been looking for all our lives. Unfortunately, it can be challenging to match the sale of your existing home and the purchase of your new home due to various reasons. Consequently, far too many people have lost their dream homes. However, several short-term property finance options allow flexibility between selling your existing home and buying a new one.

Why might you require short-term property finance?

Short-term property finance, often referred to as bridging finance, does precisely that; it bridges the gap between the sale of your existing home and the purchase of your dream home. There is the option to use a bridging loan for house deposit and then take out an additional mortgage on your new property. In theory, it is straightforward, but in practice, there are a number of issues of which you should be aware.

Alternatively, you may be looking to acquire property for your business, but there are issues with short-term cash flow. While most short-term property finance deals relate to the purchase of homes, they can be handy in other scenarios.

What are the main types of short-term property finance?

Such is the liquidity of the New Zealand property market and related financial sector that there are several options when considering short-term property finance. These include:-

Loan from family or friends

Considering that the deposit (usually around 20%) on a $500,000 property would be a minimum of $100,000, this option is not open to many people. While the idea would be to repay the loan using the equity in your existing property, it is still a lot of money. They also say never mix business with family and friends!

Short-term personal loan

A short-term personal loan may be an option if you need a relatively small top-up to cover the required deposit. However, as we will cover later in this article, the terms of a short-term personal loan are very different to those of a bridging loan.

Sale of investments

If you are in a position to sell part or all of your investments to cover the short-term deposit requirement, this may be an option. Even though interest rates have increased of late, they are still near record lows, and the potential return on a property investment could be more lucrative. This is something that you should discuss with your financial adviser.

Bridging loan

Such is the demand for bridging loans that this is a very liquid and very competitive market. Consequently, while the short-term nature of a bridging loan will often attract a higher than average interest rate (compared to personal loans), it can still be advantageous. Also, most bridging loans will roll up the interest, so there are no monthly repayments.

Savings

Again, as we touched on above, with interest rates near their historic lows, you may be able to “work your capital” much better by using savings for a house deposit. While nothing is ever guaranteed, historically, the return on property investments tends to be steady and relatively attractive in the longer term.

What are bridging loans?

Even though many people will have heard of bridging loans, the structure, terms and conditions, and how they work can be a mystery. They can be very useful, whether using a bridging loan for house deposit and/or to offset mortgage requirements on a second property. We will now take a look at bridging loans in more detail:-

How do bridging loans work?

In simple terms, a bridge loan allows you to get from A to B with minimal fuss. The best way to show how bridging loans work is to give an example:-

Existing home

Value: $300,000
Outstanding mortgage: $100,000
Equity: $200,000

New home

Value: $500,000
Deposit required: $100,000

In this scenario, we will assume that you have $30,000 available, which you can put towards the deposit (minimum 20%) on your new home. Unfortunately, this still leaves you $70,000 short before you are even in a position to look at a mortgage.

Solution

Take out a $70,000 short-term bridging loan which, when added to the $30,000 available, will cover the $100,000 deposit required. When your existing property is sold and the outstanding mortgage repaid, you will have a net $200,000 leftover. Pay off the short-term bridging loan of $70,000 plus interest, and you are left with $130,000 less bridging loan charges.

Mortgage finance

While this type of short-term property finance allows you to cover the deposit, you would still require a mortgage on the new property. This prompts the question, how would you afford two mortgage repayments until your existing property was sold?

In practice, it would depend upon your financial situation and whether you could cover additional mortgage payments in the short term. Many people are not able to cover two mortgage payments, but there is an option.

It may be possible to organise a new mortgage with an initial interest-only period until your existing property sale is completed. This would reduce your mortgage outlay, and the mortgage company would have sufficient collateral with the new property. Additional insurance in the shape of equity in your existing home would further reduce the perceived risk.

How long do bridging loans last?

Bridging loans are structured as a short-term cash flow solution and therefore tend to be anywhere from one month to one year in duration. There will be scenarios where this can be extended, but it is crucial to appreciate the higher interest rate charged on bridging loans against traditional finance. However, due to a potential delay in the sale of your property, or additional financial issues, you may be forced to seek an extension.

On the subject of the duration of bridging finance, there are two different types to consider, closed bridging finance and open bridging finance.

Closed bridging finance

A closed bridging finance arrangement is one where there are defined completion dates for the sale of your existing property and the purchase of a new one. Bridging finance simply means “bridging” the gap between these two dates. Due to delays, extensions, etc., extending a closed bridging finance arrangement may be possible for up to 12 months.

Open bridging finance

An open bridging finance arrangement is a little riskier as this is used in scenarios where you have identified your new home but have yet to agree on a sale of your existing home. As we touched on above, your mortgage provider may agree to an interest-only period to reduce the financial pressure in this scenario.

As this is an open-ended arrangement for both parties, there may be restrictions on the maximum duration. This can be negotiated with the help of your financial adviser.

What is the interest rate on bridging loans?

At Alternate Finance, we provide bridging loans with interest rates varying from 10.95 % to 17.95 %, subject to status. The interest rate charged will depend on an array of issues such as:-

• Affordability factor
• Amount of loan
• Duration
• Collateral
• Credit history

It is important to remember that while the headline interest rates are usually higher than average, most borrowers will only require the funds for a matter of weeks or months. Due to the structure of short-term bridging loans, it is unlikely you will make any repayments until the sale of your property has gone through. Consequently, you will be charged interest monthly, which will be rolled up and added to your outstanding balance. Therefore, there will be a degree of interest on interest until repayment is made in full.

Alternatively, you can make payments towards your bridging loan at any time, reducing the level of interest paid.

What are the pros and cons of bridging loans?

While bridging loans are a helpful type of short-term property finance, it is crucial to beware of the pros and cons. These include:-

Pros of bridging loans

• Allow you to secure a new home before the sale of your existing property
• Use the bridging loan for house deposit
• Can be repaid at any time
• Duration of loan can be flexible in specific scenarios

Cons of bridging loans

• Relatively high-interest rate compared to personal loans
• Typically repaid upon sale of existing property, there will be a degree of interest on interest
• The risk that your existing property sale is delayed or falls through
• Market movements may reduce your equity content

In a perfect scenario, using a bridging loan for house deposit will allow you to secure your dream property. Prompt settlement of the sale of your existing home would minimise your interest charges. While few things rarely go to plan, there is a degree of flexibility from bridging loan lenders, but interest charges may be greater than you budgeted for in this scenario.

Summary

As with any financial arrangement, there are pros and cons and issues you need to be aware of. However, competition in the sector ensures that interest rates remain competitive and, historically, property investment has proved lucrative in the long term. So while there may be difficulties if the sale of your property falls through, there are options available and a degree of flexibility offered by lenders.

It is essential to take advice if you are considering short-term property finance in the shape of a bridging loan for house deposit. To be forewarned is to be forearmed, ensuring there are no surprises!

Mark Benson

Mark previously enjoyed 15 years as a stockbroker/financial adviser and still maintains a strong interest in all things financial. Over the years, he has written about subjects such as property finance, loans, pensions, insurance, stock market investments, tax planning and more. Mark believes it is essential to keep up with the latest financial regulations and adapt your finances accordingly, something he portrays in his financial articles.

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