Commercial bridge loans are short term financing instruments intended to bridge the gap between financial needs and future sources of funding. In most cases, the financial need is immediate. Borrowers don’t have time to wait on traditional lending. But in order to gain approval, they also have to offer valuable collateral.
Both hard money and bridge loans depend on collateral because the two types of funding are asset-based. This means that approvals are made based primarily on the value of the asset being offered as collateral. Note that there are different types of collateral borrowers can offer.
A Practical Example From Utah
Before getting to the different types of collateral private lenders will accept, let’s quickly look at a real-world example involving a Utah hard money lender based in Salt Lake City. The firm, Actium Partners, was asked to provide a bridge loan to fund the gap between acquiring a new property and selling an existing one.
The client was looking to add a short-term rental to his portfolio. He was also looking to sell a property he already owned. He had originally hoped to tie the two transactions together so that proceeds from the sale would fund his purchase. It did not work out that way. He needed a bridge loan to complete the acquisition.
Both of his properties – the existing property in his portfolio and the one he was acquiring – were offered as collateral. Their combined value was more than enough to satisfy Actium’s risk profile. They made the loan, he completed his acquisition, and the existing property was eventually sold to repay the bridge loan.
Collateral Can Be Virtually Anything
Private lending is such that the collateral a borrower offers could be virtually anything. As long as lender and borrower agree, pretty much everything is on the table. But practically speaking, hard money lenders tend to look for certain types of assets.
When the purpose of a hard money or bridge loan is obtaining new property, Actium Partners says that the property being acquired usually acts as the collateral on the loan. That property typically has more than enough value to cover the cost of the loan and a little bit more. Yet there are other types of collateral that could be offered:
- Other commercial properties
- Residential properties
- Business assets (equipment, vehicles, etc.)
- Business inventory
- Accounts receivables
- Certain types of assets
The vast majority of hard money and bridge loans are secured by real estate. It makes sense, given the fact that most of the loans go toward purchasing property. But even a business looking to expand might offer an existing property it owns as collateral on a loan intended to fund expansion plans.
Enough Value to Justify Risk
From the lender’s perspective, collateral needs to have enough value to justify the risk. Think about it. All loans are risky to some extent. Hard money in bridge loans tend to be more risky due to their nature. So a lender wants to see collateral with enough value to cover the loan as well as any costs the lender might incur in the event of default.
Note that lenders use another tool, in addition to collateral, to manage risk: comparatively low loan-to-value (LTV) ratios. By keeping LTVs closer to 50-65 percent, lenders reduce risk by requiring borrowers to put more skin in the game. This isn’t necessarily a bad deal for borrowers who now have more wiggle room in terms of collateral value.
Collateral is the security behind hard money and bridge loans. Without it, a borrower will not be approved.