Most bridge lenders are fundamentally alike in one respect. They provide short-term capital at above-market interest rates. Those rates reflect the service that bridge lenders provide: the ability to move quickly and cater to the needs of the borrower.
Bridge lenders often make a decision within one to two weeks on whether or not to lend, and can fund loans within 14 to 45 days, depending on the need. Often, these loans are interest only and contain a balloon payment or are a nonrecourse loan secured only by the collateral itself. Beyond these basic similarities, however, bridge lenders start to look very different.
Commercial mortgage brokers should know that bridge lenders can differ significantly from one another in terms of the properties they will finance, their lending criteria and the level of risk they are willing to tolerate. Many of these differences depend on where their money comes from.
Bridge loan sources
There are four primary ways that bridge lenders raise the funds to finance their loans. One common method comes via an arbitrage strategy. In this case, the bridge lender uses a line of credit to fund their loans with the aim of making their money from arbitrage — that is, the difference between the cost of funds and the annual yield they negotiated with their sponsor. In other words, they are borrowing money at a certain interest rate and making loans at a higher interest rate.
Another common type of bridge lender is one that provides the interest portion of the loan to investors while keeping only 1 to 3 percentage points (the fee portion) for themselves. Like the leveraged bridge lender, the fee-driven lender uses other investors’ money, which results in being guided by the financial criteria of those investors in choosing which bridge loans to make.
Both leveraged bridge lenders and fee-driven lenders offer certain advantages to borrowers, particularly affordability. These lenders offer loans at competitive rates in a generally high-priced bridge loan market. They also have some disadvantages, however.
Some leveraged bridge lenders source funds for each new loan they make. It takes time to source this money, causing potential delays in closing loans for borrowers who are trying to meet a firm deadline. Even a small delay introduces uncertainty into the transaction, leaving your borrowers anxious.
The investors who purchase bridge loans also typically want the underlying real estate to meet certain criteria. If your project meets those investment requirements, you’re in luck. If your project is not standard or too complex to fit into that box, however, you may need to look for another type of bridge lender.
Similarly, a borrower whose mortgage has been sold to an investor may face some difficulty in situations where a property has problems and the loan needs to be renegotiated. Mortgage brokers and borrowers may have to negotiate with the investor who currently owns the paper, rather than the original loan officers who know the borrower and understand the spirit of the deal. The investor or servicer may be located in another part of the country and may have never spoken to you before. They also may be largely unaware of the asset, the local market or the borrower’s strategy to improve the asset.
Conventional lenders, such as banks, are now willing to make bridge loans on certain properties, but almost exclusively they’ll do so only in cases where a bridge loan can help a property become a stabilized and more attractive asset to finance long term. At that point, a bank or conventional lender can replace the short-term bridge loan with a long-term mortgage — the kind of safe loan these lenders prefer to make.
In other words, the conventional lender is using the bridge loan to groom a substandard property into a stabilized asset, just so it can provide permanent financing down the road. It’s a competitive strategy that conventional lenders often use to maintain or increase their permanent loan originations.
The last type of bridge lender is one that does not sell loans but keeps them on its balance sheet. These companies are less concerned about the cost of funds. Instead, they focus primarily on capital provided by their own investor pools.
Since balance-sheet lenders don’t sell their loans, they are free to make loans on any project they want, such as borrowers with strong sponsorship, or those who can demonstrate they have a solid business plan with a clear-cut exit strategy. These lenders are not necessarily looking for cookie-cutter projects to satisfy the preexisting requirements of their capital providers.
The sponsor’s level of sophistication and real estate acumen tends to be higher when the loan is in the $20 million range or higher. Most of these lenders are accustomed to working with sophisticated investors with meaningful financial wherewithal and are not afraid of complex projects with many moving parts.
One advantage of working with balance-sheet lenders is speed in the decisionmaking process, both in terms of how the loan is structured and its document execution. Instead of multiple loan committees, the balance-sheet lender typically only has one. The single committee is usually able to decide within a couple days whether to go forward with financing, modify the loan structure or terms, or pass on an opportunity entirely.
In these cases, borrowers and brokers gain the advantage of speed as well as confidence that the loan will ultimately be approved and close. This becomes more beneficial in complex deals. The sponsor can work directly with the lender’s credit committee. Timely funding of a loan is critical in transactions that must be funded by a certain day, since the investor risks losing both the deal and a nonrefundable deposit.
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All of the above-mentioned types of bridge lenders are knowledgeable financial professionals. Each type of bridge lender offers something of value to commercial mortgage brokers and real estate investors. With this industry road map in hand, hopefully you will be better equipped to choose the bridge lender that works best for your client.