Bridge Loan vs. HELOC: What’s the Difference?

It’s more than just the purpose of the loan proceeds

People looking at a house for sale with a real estate agent
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Bridge loans and home equity lines of credit, or HELOCs, offer homeowners the option to borrow by using their home as collateral. Both loans provide funds to the borrower based on the amount of home equity available in their house; however, the use of those funds, among other factors, is what differentiates these two loans.

Bridge loans are typically used during the process of purchasing a home to "bridge" the gap between the sales price of your new home and your new mortgage on that residence in the event your existing home doesn't sell before closing. A HELOC can have many different uses.

Using a home as collateral can be risky, as this gives the lender rights to the house if payments are not made. However, if you’re able to make the payments, these loans can help provide needed funds. See how a bridge loan measures up against a HELOC.

What’s the Difference Between Bridge Loans and HELOCs?

Bridge loans and HELOCs are similar in that they both rely on the home’s equity for an approval. Home equity equals the difference between the current market value of your home and how much you still owe on the mortgage. The standards for collateral may be similar for both types of loans, but there are several differences between bridge loans and HELOCs.

Deciding whether to use a bridge loan or HELOC depends on your preferences and other considerations, such as specific loan requirements and the overall process for securing each.

Bridge Loan HELOC
Used for purchasing a new home while trying to sell your current home Funds can be used for any purpose
Short-term loan that is usually only one year or less Loan with varying options, averaging about 10 years
Lump-sum amount provided to cover home expenses Revolving credit with a set limit that works similarly to a credit card
Interest rates charged on full amount provided Interest rates are only charged on funds used from the credit line

Loan Uses

Bridge loans and HELOCs differ in the way their funds can be used. While HELOCs have flexibility in the use of funds (generally, for any purpose), bridge loans are specific to the fees and expenses related to purchasing a new home.

Bridge loans are typically used to cover closing costs. HELOCs, on the other hand, can be tapped for different reasons, including education expenses, home renovations, starting a business, and to cover other financial needs.

Structure of the Loan

The structure of each of these loans differs greatly when it comes to term length. A bridge loan is considered a short-term loan. It is expected to be paid off much sooner than a HELOC. Generally, borrowers have about a year until they must begin making payments. For a HELOC, borrowers may have several years, depending on the lender’s terms.

Lump Sum vs. Revolving Credit

A bridge loan provides a lump sum to the borrower, while a HELOC lends the borrower limited funds in a revolving line of credit.

Homeowners receive a larger amount of funds in a lump sum from a bridge loan than from a HELOC; however, this is a one-time transaction.

HELOC funds are available on an ongoing basis. The lender sets a limit, similar to a credit card, and the borrower can spend up to that amount. In the long run, the borrower can end up borrowing more funds in total from the HELOC, as long as they consistently pay in full at the end of each billing period.

However, if the HELOC is used for purchasing a new house while selling the current house, most lenders require borrowers to pay off the HELOC once the previous house is sold because that equity used as collateral is gone.

Interest Rates

The way interest rates are charged differs because of the way each loan is structured. Because bridge loans are disbursed in a lump sum, interest is charged on the full amount provided, even if the borrower doesn’t use it all.

On a HELOC, the interest is only charged on the funds borrowed. As a line of credit, the borrower may only use a small portion from the available balance, and will only owe interest from the amount borrowed.

The levels of interest rates incurred are also different when comparing a bridge loan and a HELOC. In general, bridge loans incur higher interest rates due to their greater element of risk, while interest rates for HELOCs are typically lower.

If you’re using a HELOC to buy a home, to cover home renovations, or to finance repairs, you may be able to claim the interest paid as an itemized deduction when you complete your taxes. Bridge loans, however, are not deductible.

Which Is Right for You?

Deciding whether to move forward with a bridge loan or a HELOC depends on your personal preferences and your ability to repay the loan. Usually, if you’re looking for a larger sum of money to put toward your new home, you’ll want to consider a bridge loan.

On the other hand, if you don’t think you’ll be able to promptly repay the loan, you may opt for a HELOC, as it provides longer terms for repayment. Make sure to conduct your research, because different lenders will provide a variety of options and terms.

You may also want to calculate other incurred costs down the line. For example, if you’re looking to put a 20% down payment on the home, the bridge loan can help provide this sum of money. In the long term, putting up this amount reduces the monthly mortgage payments because private mortgage insurance (PMI) will not be required.

On the other hand, if you have some money saved for your down payment but you’re looking to combine some additional funds, you may benefit from a HELOC instead. A smaller loan, combined with your savings, can help reach that 20% down payment.

With either of these types of loans, keep in mind that they are separate from your actual mortgage. This means you will be obligated to make payments on two separate loans in accordance with the terms of the lenders.

The Bottom Line

A bridge loan and a HELOC each can serve as an option when you’re looking to buy a house. While there are pros and cons to each loan, you’ll need to consider what works best for your personal finances. Keep in mind that using your home as collateral is risky, as it allows the lender to foreclose on the house if loan payments are not made.

If you’re in a competitive housing market and want to have an edge with lenders, you can opt for a bridge loan to obtain a lump sum to make a minimum 20% down payment. On the other hand, you may opt for a HELOC if the market isn’t so competitive, or you want the flexibility to use the funds for other purposes. Make sure to conduct your research and compare lenders to find the best options.

Frequently Asked Questions (FAQs)

When is private mortgage insurance required?

Private mortgage insurance (PMI) protects the lender if the homeowner fails to make payments. It is typically added on to your total mortgage payment when the homebuyer makes less than a 20% down payment, although this may vary, depending on the lender.

How is home equity calculated?

Home equity refers to the value of the house, which can be used as collateral for a loan. Home equity is calculated based on the current market price and the amount of the mortgage that has been paid off. Lenders typically offer up to about 80% of the amount that already has been paid off.

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