Bridge Loan

A short-term loan intended to help “bridge the gap” between a current situation and a more financially advantageous one.

Following a series of phone interviews, Jimmy received a job offer as a remote architect for a big construction company in the U.S., but he needed to “look the part” for his first video-conference. Jimmy was low on funds but, luckily, was able to get a bridge loan to buy a nice suit, get a haircut, and have his face tattoos removed.

Related or Semi-related Video

Finance: What is the Process of a Bank L...107 Views

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finance a la shmoop. what is the process of a bank loaning money ? alright well

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there are two key factors a bank focuses on to determine the likelihood and terms

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in your getting dough from them. alright one can you afford to pay the loan back? [ man in office speaks to camera]

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like what do you do for a living? how much do you make? is it likely you'll

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still be employed after the next economic downturn? you know stuff like

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that and then there's two. if you don't pay back the loan you promise to pay

00:31

back then which of your assets can they take from you, so that they get their

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money into the interest you were supposed to pay back .okay example time [Man carries money in front of a for sale sign]

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you're buying a house first one. you scrimped you save and now you think you

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can afford this half-million dollar home in palo alto. and that's what half a

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million bucks buys you here. well you have 50 grand in savings ready to put

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down on the house, and you have a nice job as a personal trainer to the stars [man smiling in a gym]

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of Silicon Valley, they look a little different from the stars of Hollywood. so

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yeah you'll never be out of work. you make about 70 grand a year but it's all

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as an individual contractor, so you have great periods of time where you make

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bank and then months where you make a whole lot of nothing. well after taxes on

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average your seventy K is about 50 K which is all you've got to your name. you [math equation]

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thought you'd put 10% down, but didn't realize that you'd have to pay real

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estate taxes in advance, and then other closing costs so you really needed

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$60,000 but the bank wants your business

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mainly because, well, their biggest [businessman talks to man in gym]

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customers are your clients. prevailing interest rates on mortgages are 6% but

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you're not exactly a Bill Gates credit risk, so your cost of interest will be

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higher. they quote you an 8% mortgage rate if you put 20% down on the house.

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but you don't have 20% to put down. you have way less, which means more risk to

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the bank,and lending you the money meaning it's higher risk that they don't [equations shown]

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get paid back, so they'll charge you more for renting the money from them. so the

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price they charge you is 10% interest to rent the money because well you have to

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pay for insurance, or PMI. that covers you if you don't pay them back. and yes that

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sounds harsh and cruel, but well welcome to the real world. so you're

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thinking that you have a loan of 460,000 dollars that extra 10 grand covers

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closing costs and taxes and other things like maybe a little furniture a place to

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sleep on. on 10 percent interest you'll pay 46 thousand dollars a year just in [equations]

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interest. well essentially all of that interest is directly tax-deductible so

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instead of your seventy thousand dollars being fifty thousand after taxes, as far

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as the IRS is concerned ,you no longer make seventy thousand dollars you make

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seventy thousand dollars minus forty six thousand dollars, or just twenty four

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grand a year ,and your taxes on that are like that two grand maybe even a little

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less .you almost qualify for food stamps. and that's good you might need them, [man chews on food stamps]

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because two grand will just barely pay for the food you'll need to, you know

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live. so the bank just barely passes you to qualify for this loan after checking

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to be sure that you know you've never had a missed payment on a credit card, or

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any other loan, or had any other issues like a DUI or some criminal thing that

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would give any lender a cause to pause. so the above is all about your ability [checklist shown]

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to pay that was number one. right number two what comes next is all about the

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risk to the bank. you bought a home in a very active real estate market. the bank

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presumes that they can always sell the home but the home is doubled in value in

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the last three years, and the bank knows that this rate of appreciation is not

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normal. so there's a lot of risk if the home drops in volume 30 40 maybe even 50

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percent in the short run so there is a scenario where the home you just bought

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for five hundred grand ends up selling for 300 grand less 20 [boxes and for sale sign]

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grand in commissions and costs and that's only 280 G's. well the bank loaned

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you four hundred sixty thousand dollars and in this scenario you'd of course

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lose the fifty thousand dollars you put down at your down payment, but the bank

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would then lose a hundred eighty thousand dollars as well. and you know

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banks don't like to lose money. at least the ones that do don't stay in business

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very long. yeah. so that's the process pay your loans. [ group smiles in front of Christmas tree]

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