Interim or 'Bridge' Financing

By David Crothers B.A. LL.B

If you are planning to buy a home and sell your current property and the purchase of a new home is closing before the sale of the old, it should be no surprise that you need short-term financing in place to have the funds necessary to buy that new home the day it closes. Most people who buy and sell their homes on the same day do not use interim financing, as funds from the sale of the old home will go directly towards the purchase of the new property being purchased. This is not the case for people who are closing the purchase of their new home before the sale of the old home, as funds from the sale of the old home will not be available until the sale is completed.

The costs that typically have to be paid on the closing of the new property include the balance of your down payment, provincial sales tax at 8 per cent on any mortgage insurance costs (such as Canada Mortgage and Housing Corporation fees), appraisal or inspection fees charged by the lender, legal fees, land transfer tax, and, if you are buying new from a builder, the builder's closing charges such as utility installation costs, the Tarion new home warranty enrollment fee, driveway paving, and subdivision damage deposits.

If you do not have access to a line of credit or other such funds, then the usual practice is to arrange interim financing or what is often called "bridge" financing from a bank. The way bridge financing works is that you get what amounts to a short-term loan based on the "equity" that you have in the home you are selling, and this loan gets paid back once the sale of the old home is completed. The equity of the home is determined by taking the sale price of the home you are selling and deducting the costs to pay off all current mortgages or secured lines of credit (including any prepayment penalties), real estate agent commissions for selling the home, and legal fees for the lawyer to complete the sale transaction. This net figure then becomes the basis for the bridge loan.

In most cases the bank where you are arranging your mortgage or line of credit for the new home purchase will also provide you with a bridge loan. The interest rate for the loan is higher than a secured line of credit, typically bridge loan rates are 1 to 3 percentage points above the bank's prime lending rate. Banks as a rule also charge customers a fee for arranging the bridge loan (typically around $200 to $250), but in most instances the bank arranging your new mortgage will agree to waive or reduce the administration fee if you request it.

Is there a need for bridge financing when you are buying and selling on the same day? I always recommend bridge financing for same day buying and selling, even though in the vast majority of transactions both sale and purchase transactions are completed on that day.

There are circumstances, however, where the buyer of the home you are selling runs into difficulty getting mortgage or other funds on the closing date and they are unable to close the transaction with you. When this happens, if you do not have bridge financing in place, you will not be able to close your new purchase because the funds from your sale are not available. This scenario is obviously not a pleasant one and can result in large costs for moving and storage fees, additional legal fees, financial penalties from the builder of a new home or vendor of a resale home that you are purchasing, cancellation fees for people installing appliances or security systems, not to mention the stress and anxiety that can occur because you are not able to move in to your new home. Sometimes much of these costs cannot be recovered from the buyer of your home.

While it may seem hard to believe that purchasers of your home cannot close with you on the closing date, the usual reason is that they are having problems obtaining a mortgage or because certain conditions required by their mortgage lender have not been met in time. This is despite the fact that the buyer will have waived a financing condition in their agreement of purchase and sale shortly after the offer is made. In my practice I am seeing this problem with more frequency. These days purchasers are being pre-approved by banks for 100 per cent financing, sometimes more than that if there are cash back funds or other incentives. The marketplace has exploded with new buyers and young buyers who are just establishing themselves financially and lenders competing for their business and giving mortgages to them. In my view it is inevitable that some of these buyers will take longer to have all conditions met for funding their mortgage or that some of them will ultimately not meet the conditions that are imposed when it comes time for the banks to actually fund these mortgages.

I recommend that anyone buying and selling on the same day should have interim or bridge financing in place, as this will eliminate the reliance on your buyer closing with you and should allow you to close your new home on the appointed. I would be particularly mindful of the need for bridge financing if your buyer has put down a very small deposit with your real estate agent (less than $5,000); the buyers are first-time buyers; they require a second mortgage as well as a first mortgage, particularly if the loan will be from a non-institutional or "private" lender; or if after giving an initial deposit they later ask that the initial deposit be reduced. For the small cost and time involved in obtaining bridge financing, it is well worth it.