Bridge Loan Requirements: Process, Tips, and Mistakes to Avoid
As a business owner, sometimes you come across opportunities that you need to act on quickly. Perhaps you need a down payment for a new property to expand your business, but you haven’t sold your old property yet. Or maybe you’re preparing for an IPO and need financing to cover expenses until it goes through.
A short-term loan, such as a bridge loan or hard money loan, can be a quick solution to get the funding your company needs while you wait for other financing options to come through.
Are you considering getting a bridge loan for your business, or are you a broker that has clients that could use a bridge loan? Find out more about bridge loan requirements, how bridge loans work, and mistakes to avoid when applying.
What Is a Bridge Loan?
A bridge loan is a type of loan that is used to fill a financing gap until you can find a longer-term solution.
Bridge loans are commonly used in real estate to purchase a new home while homebuyers apply for a mortgage or wait for their current home to sell.
But these aren’t just financial vehicles for consumers. Bridge loans give businesses the opportunity to move on an immediate opportunity and not miss out because of a lack of funding. They also can help them cover expenses while they wait for a longer-term loan or another expected influx of cash.
So a business can also use bridge loans to purchase real estate. On top of that, bridge lending can help a business purchase inventory or get capital to buy another company. Or it can pay for expenses as you wait for SBA loans or other long-term financing to be approved and disbursed.
How Does a Bridge Loan Work?
Bridge loans are also known as gap financing or swing loans that are meant to be short-term. Like conventional loans, when you get a bridge loan, you get a lump sum that you need to start paying back right away. But in many cases, the loan amount will need to be paid back in a few months or a year.
In some cases, the business will need to make interest-only monthly payments or will be expected to make an end-of-term payment. In these cases though, the total term of the loan is often shorter than a typical loan.
For example, let’s say a company is planning to close a fundraising round in six months but is running out of cash. To stay afloat until their fundraising closes, they might use a bridge loan to cover their working capital, such as payroll, rent, inventory, and any other operational expenses until their funding round finishes. Once they receive the fundraising, they’ll have the ability to
Because of the short-term nature of these loans, they can often have higher interest rates compared to other types of traditional loans.
Bridge Loan Requirements
Before applying for a bridge loan, it’s best to be prepared. Make sure you understand the bridge loan requirements that a lender may require so you can quickly get the funding you need.
Here are some of the bridge loan requirements you can expect.
Clear Purpose for the Loan
When you apply for a bridge loan, make sure you are clear about what you need the loan for. Do you need the funds to help purchase new inventory? Are you hoping to piggyback off an existing commercial mortgage to pay for a new mortgage on a new property? Or do you simply need funds to help with a temporary cash-flow issue?
When you apply, make sure to clearly state what the purpose of the bridge loan is and when you expect to get your longer-term financing. Having a clear exit strategy can help you secure funding.
When you apply for traditional loans, the lender will look at your credit score. Bridge loan lenders will also consider your creditworthiness, but they may be more willing to overlook a business with poor credit. However, if you have poor or bad credit, you may have to pay high interest rates.
Companies that offer bridge loans often require collateral. This means you will need to secure the loan by offering an asset such as real estate. The collateral acts as insurance for the lender. If for some reason you can’t pay back the loan, the lender will have the right to take control of the asset.
Having valuable assets like property or equipment can increase your chances of getting approved for a bridge loan.
A bridge loan lender will also consider other factors, such as your debt-to-income ratio and revenue when deciding whether to extend a loan. Most lenders allow your debt-to-income ratio to be as high as 50%.
While how much you will need to earn in revenue compared to your debt varies by lender, the more money you earn and the less debt you have, the higher your chances of getting approved. You will often have to submit your financial information, such as cash flow statements when applying for a bridge loan.
The purpose of this bridge loan requirement is to ensure you have a viable exit strategy, which is how you are going to be able to pay back the loan.
5 Mistakes to Avoid When Applying for a Bridge Loan
While applying for short-term financing is often not as complex as longer-term solutions, there are some common mistakes that a borrower could make. Before submitting your loan application, make sure you understand the bridge loan requirements and aren’t falling for any of these pitfalls:
Not doing your research: Before you apply for a loan, make sure to do your due diligence. Research all of your options and shop around with different lenders to make sure you are being offered the best loan terms for your business. Working with a broker can also help you wade through the options.
Overlooking the fine print: When you apply for a bridge loan, check the fine print and loan terms. Make sure you understand the repayment terms, such as if you need to make weekly or monthly payments. Also note that you may need to pay other fees, such as closing costs.
Not providing enough collateral: Because bridge loans are secured with assets, you’ll need to provide collateral that matches or surpasses the value of the loan you are applying for. While real estate is the most common type of collateral, you can also put up other assets like equipment or, in some cases, business invoices.
Rushing the application process: While bridge loans are meant to be acted on quickly, rushing the application process can lead to mistakes. It could also lead to your application getting rejected. Take the time to carefully read the application instructions and include any necessary financial statements.
Not having a solid exit strategy: Bridge loans are not meant to be a long-term financing solution. If you take out a bridge loan, you need to have an exit strategy — i.e., a clear plan for how you’re going to repay it. Not doing so can lead to a lot of financial stress.
Explore Your Financing Options With a Bridge Loan
There are many loan options for businesses who are in need of financing. A bridge loan can help your small business move quickly on an opportunity or fill a cash-flow gap while you wait for other loans to come through.
Understanding the bridge loan requirements before applying can increase your chances of getting approved. Before applying for a bridge loan, read the fine print and have enough collateral as well as revenue. Most importantly, make an exit strategy and plan for paying back the bridge loan.
Do you have clients that are struggling to get the funding they need to pay you? With Backd, you help your clients get the bridge funds they need to meet their goals. Increase your sales and help your clients run their small businesses by partnering with Backd today.