For those of you looking to sell your existing home and purchase a new property in the Greater Toronto Area, you may be struggling to match your closing dates or wondering what you’ll do if your purchase is has to close before your sale is completed. Obviously, in the latter situation, you would be concerned that you won’t yet have the funds from your sale to use as the down-payment for your purchase. The solution is something called “bridge financing” (also referred to as “interim financing” or a “bridge loan”).
Bridge financing is a short-term, unsecured loan provided by your mortgage lender for the period of time between the closing of your purchase and the closing of your sale. It’s called “bridge” financing because it bridges the gap between your purchase and sale. The process of obtaining bridge financing is quite simple. Just give your mortgage broker a call. If your lender has already committed to provide you with mortgage funds for purchase of your new property, their principal condition to providing bridge financing will be that you have entered into an unconditional agreement to sell your existing property. Often, lenders will also require that the bridging period be 30 days or less; however, some lenders will offer longer bridging periods.
Let’s run through an example so you can have a sense of how the numbers work.
Vanessa and Ray have agreed to sell their King West condo for $550,000. The scheduled closing date is May 31st. They have a mortgage of $220,000 that must be paid out on closing. Their costs of disposition will be $28,300 ($27,500 for realtor commissions, $650 for legal fees and $150 for disbursements).
Vanessa and Ray have also agreed to purchase a semi-detached home in Toronto’s Danforth area for $675,000. Their closing date is scheduled for May 14th; this is 17 days before their sale is scheduled to close. Their lender has offered them bridge financing at 5% (prime plus 2%).
Vanessa and Ray made a $30,000 deposit on the purchase from accumulated savings. They plan on making a total down-payment of 25% of the purchase price, leaving them with a mortgage of 75% of the purchase price.Their closing costs will be $21,000 ($19,200 for provincial and municipal land transfer tax, $950 for legal fees, $575 for title insurance and $275 for disbursements).
Step 1 – Calculate net proceeds from the sale of existing property
Net proceeds = $550,000-$220,000-$28,300 = $301,700 [A]
Step 2 – Calculate mortgage amount on new property
Mortgage amount = $675,000 x 0.75 = $506,250
Step 4 – Calculate amount of bridge financing required to close of purchase of new property
Amount of bridge financing required = cash shortfall = (purchase price of new property) + (closing costs) – (deposit) – (mortgage amount)
Amount of bridge financing required = cash shortfall = $675,000 + $21,000 – $30,000 – $506,250 = $159,750 [B]
Step 5 – Calculate cost of bridge financing
Cost of bridge financing = (amount of bridge financing required) x (Number of days between purchase and sale / 365) x (bridge loan interest rate expressed as a decimal)
Cost of bridge financing = ($159,750) x (17/365) x (0.05) = $372 [C]
Step 6 – Amount due to Vanessa and Ray after closing of sale of existing property and payout of bridge financing
Amount due to Vanessa and Ray = [A] – [B] – [C]
Amount due to Vanessa and Ray = $301,700 – $159,750 – 372 = $141,578.
In the example above, we assumed an interest rate for bridge financing of prime plus 2%. Rates for this type of unsecured, short term loan are typically in the range of prime plus 2% to prime plus 4%. Although these rates are higher than the rates you would expect to pay on a mortgage, the cost of bridge financing can usually be managed by most purchasers due to the fact that the financing is only in place for a short time.
Bridge financing is certainly a useful tool for those who want to avoid the hassle of matching up closing dates for their purchase and sale. At Scott & Down LLP, we will be happy to answer your about bridge financing or any other aspect of your residential real estate closing. Please contact us now.