A 2017 survey conducted by the National Association of Realtors revealed that second home purchases are on the rise. Some 19% of the properties purchased that year were purchased for investment purposes. Another 12% were homes purchased as vacation properties. It would be interesting to know how many of the vacation homes were also purchased with the idea of renting them out when owners are absent.
The question at hand for this post is whether or not using a bridge loan to purchase a vacation home is a good idea. It is a question that comes up quite often. Why? Because convincing a bank to write a mortgage on a vacation home is not the easiest thing in the world.
Complicated Lending Criteria
Anyone who has purchased a primary residence via a bank mortgage knows how difficult it is to navigate the lending process. Banks require buyers to jump through hoops just to get approval. Imagine what it must be like to get a conventional mortgage on a vacation home. The hoops are more numerous indeed.
The thing about mortgage lending is that the criteria for second homes is complicated. Lenders want to know if the property will be used solely as a vacation property or if it will be a combined vacation/investment property. In the latter case, they need to be reasonably assured that rental payments will be steady enough to support the mortgage. In the former case, the borrower has to have enough income on his or her own.
A bridge loan suddenly becomes attractive becausehard money lenders who offer bridge loans do not tend to look at income, credit history, etc. They look at the value of collateral, according to Salt Lake City-based Actium Partners.
In the case of a vacation home, that home would act as collateral on the bridge loan. However, there is an inherent problem with this model. The vacation home is probably not going be worth enough to support a bridge loan covering its entire value represented in the purchase price.
Bridge Loan Values
Just like conventional banks, hard money lenders will usually not offer mortgages equal to the value of the property offered as collateral. Instead, bridge loan values range between 50% and 70% on average. As a buyer, you would have to make up the difference. On a $300,000 vacation home in central Florida, you’re looking at as much as $150,000 you would have to contribute up front.
Do you have that kind of money? If not, how would you make up the difference? As you can imagine, bridge loan values are the single biggest factor that prevent people from using them as a standard replacement for conventional mortgages.
Bridge Loan Terms
One final thing to consider are loan terms. A typical bridge loan does not extend beyond one year. Borrowers are expected to make full payment on the maturity date. If they don’t, whatever property was put up as collateral will likely be foreclosed on.
If you were to purchase a vacation property you intended to rent out when you were not there, you could forgo your own vacation for the first year and keep the property rented throughout peak season. With any luck, you would collect enough rent to satisfy the bridge loan. But relying on such a plan is tricky. What if you don’t keep the place rented for the entire year?
A bridge loan can be a useful tool for buying a second house. As to whether or not it’s a good idea, that depends on your circumstances.