Purchasing property at auction can be an exciting way to secure real estate at below-market prices. However, coming up with the full purchase price in cash within 28 days is often a major obstacle for buyers. This is where auction finance and Debt Service Coverage Ratio (DSCR) loans come in.
What is Auction Finance and How Does it Work?
Bridging loans provide funds that can be accessed quickly, enabling buyers to meet the 28-day auction completion deadline. The loan is then repaid after a set term, usually around 12 months, once longer-term financing has been secured.
What are the Main Features of Auction Finance?
When taking out auction finance, there are several key features you need to be aware of:
In addition to interest charged on the loan, you will usually need to pay various fees, including:
- Arrangement Fee – A fee charged by the lender, usually 1-2% of the loan amount
- Exit Fee – A fee payable when the auction finance is repaid
- Auction finance loans can range from £25,000 up to £5 million, depending on the lender
- The maximum Loan to Value (LTV) is typically 80%, but can reach 100% with additional security
- For properties needing refurbishment, some lenders may offer 85% LTV
- Auction finance needs to be approved and completed within 28 days
- Completing the finance application thoroughly and having your supporting documents ready can help ensure the process goes smoothly
- Auction finance usually has a maximum term of 12 months
- This provides time to sell the property or arrange longer term financing
- Interest rates are higher than mainstream mortgages, reflecting the short-term nature of the lending
- Rates can vary significantly between lenders
What Properties are Eligible for Auction Finance?
Most auction finance lenders are able to provide loans for:
- Residential properties – houses, flats, bungalows
- Commercial properties – shops, offices, industrial units
- Land with planning permission
- Buy-to-let properties
How Do DSCR Loans Work for Auction Purchases?
DSCR stands for Debt Service Coverage Ratio. DSCR loans allow you to borrow based on the property’s projected rental income, rather than your personal income or credit score.
What is DSCR?
The Debt Service Coverage Ratio compares the property’s annual net operating income to its annual debt obligations.
DSCR = Net Operating Income / Annual Debt Payments
A DSCR of 1.0 means the property’s income equals its debt payments. Most lenders want to see a minimum DSCR of 1.15 – 1.25. This provides a safety buffer in case income drops.
Who Are DSCR Loans Suited For?
DSCR loans can be ideal for:
- Real estate investors – especially those with experience managing rental properties
- Landlords looking to expand their portfolio
- Those with good credit scores but limited provable income
- First-time investors able to show strong management ability
DSCR loans remove the need to document your personal income and finances. Instead, the focus is on the property’s projected rental income and your real estate management expertise.
What are the Advantages of DSCR Loans?
Compared to conventional mortgages, DSCR loans offer several benefits:
- Speed – Can be approved quicker as underwriting is simpler
- Higher Leverage – May finance up to 80% of the property value
- No Income Verification – Loan approval is not based on your income
- Interest-Only – Only need to cover interest payments each month
This flexibility makes DSCR financing well-suited to auction purchases, where speed and higher leverage are often needed.
Are There Any Drawbacks to DSCR Loans?
There are some potential downsides to weigh up:
- Higher Interest Rates – Usually 0.5 to 1% higher than normal mortgages
- Shorter Terms – Often just 1 to 3 years before refinancing needed
- Prepayment Penalties – Charged if the loan is repaid early
- Stricter Underwriting – Lenders scrutinize property cash flow closely
Careful financial planning and utilizing an experienced broker can help overcome these challenges.
What is the Process for Obtaining Auction Finance?
If you’ve found a promising auction property, getting your finance lined up quickly is crucial. Here is an overview of the key steps:
1. Research and Apply
- Research different lenders and products a few weeks before the auction
- Submit your finance application ASAP – delays can jeopardize the purchase
- Use a broker to access deals from multiple lenders
2. Valuation and Approval
- The lender will undertake a valuation of the property
- They assess the property’s suitability as loan security
- If approved, you receive a formal loan offer letter
3. Conveyancing and Legal Work
- Appoint a solicitor to handle the conveyancing and legal work
- The solicitor will carry out searches and property checks
- Loan security documents are prepared
4. Paying the Deposit
- Once the auction is won, you pay the deposit (typically 10%)
- The deposit can be funded via the auction finance
5. Exchanging Contracts
- Contracts are legally exchanged within 28 days
- At this point, you become legally obligated to complete the purchase
6. Completion Day
- On completion day, the auction finance funds are sent to the seller
- Ownership is transferred once funds have cleared
Strictly adhering to the timeline is vital – the seller can keep the deposit if completion is delayed.
What Documents are Needed for Auction Finance?
Applying for auction finance requires various supporting documents:
- Proof of ID – passport, driving license
- Proof of address – utility bill, council tax statement
- Bank statements – last 3 months
- Proof of deposit – e.g. bank statement
- Evidence of property value – copy of auction catalog
- Income evidence – payslips, accounts if self-employed
- Rental income – ASTs for existing tenants
Presenting complete, accurate documents from the outset can help expedite the underwriting process.
How Should You Compare and Select an Auction Finance Lender?
With auction timeframes tight, choosing the right lender is critical. Here are key factors to consider:
- Look for lenders that can provide sufficient funds to cover the winning bid
- Loan amounts on offer typically range from £30,000 up to £2 million
Loan to Value (LTV)
- Opt for lenders that can meet your required LTV
- Many lenders cap at 75% LTV, but some offer up to 100%
Speed of Approval
- Completing finance in 28 days or less is essential
- Seek lenders with streamlined approval processes
- Auction loan rates vary between lenders, from 0.6% up to 2% per month
- A higher LTV usually means a higher interest rate
- Arrangement fees are typically 1-2%, exit fees around 1%
- Compare overall cost of funds between lenders
- Select lenders with strong service and responsiveness
- This ensures the process goes smoothly
Thoroughly researching and comparing lenders gives you the best chance of securing the right auction finance on time.
What Other Costs are Involved in Auction Purchases?
Beyond the actual auction price and any stamp duty, buying at auction incurs various additional costs:
- Deposit – Typically 10% of the purchase price
- Buyer’s Premium – An admin fee paid to the auctioneer, often around £1,000
- Legal Fees – For conveyancing, around £800 – £1,500
- Survey – A building survey costs £400+
- Mortgage Valuation – The lender may charge £200 – £700
- Broker Fees – If using a finance broker, typical fees are 1-2%
Factoring in all these expenses is important when budgeting for your auction purchase. Setting aside a contingency fund for any unseen costs also gives added peace of mind.
What Happens if You Fail to Secure Auction Finance in Time?
If auction finance is not approved and in place before exchange of contracts, there can be serious repercussions:
Forfeiting the Deposit
If you cannot complete on time, the seller keeps the 10% deposit you paid upfront. This can equate to losing thousands of pounds.
Some auction contracts give the seller the right to pursue legal action for losses incurred if the sale falls through. This could include lost rental income.
Negative Credit Impact
Defaulting on an auction contract can harm your credit rating. This downgrades your ability to access finance in future.
Expenses like legal and valuation fees may not be recoverable. Survey costs are also usually lost if the purchase fails.
Going back on an auction bid damages your reputation. This can restrict your ability to purchase at future auctions.
Meeting auction deadlines is therefore critical. Having finance pre-approved before bidding removes this risk.
How Can a Broker Assist With Auction Finance?
Appointing a specialist mortgage broker can streamline the process of securing auction finance:
Access to Multiple Lenders
Brokers have access to exclusive products from a large panel of lenders. This widens your choice of deals.
Expert Application Support
Brokers assist with completing forms and compiling documentation to give your application the best chance of quick approval.
Personalized Lender Matching
Your broker can match your requirements to the lenders most likely to approve your application.
Coordination of Valuations
Your broker liaises with lenders to expedite the property valuation process.
Guidance on Fees
Experienced brokers explain the various fees involved so they are no surprise.
Your broker keeps you updated through every stage of the finance process.
Appointing a dedicated broker removes work and stress from the tight auction timeframes. Their expertise and lender relationships help ensure finance is secured on time.
Top Tips for Successfully Purchasing at Auction Using DSCR Loans
If you are looking to purchase property at auction via DSCR loans, here are some top tips:
- Start early – Begin researching finance options 2-3 months before your target auction to allow time to compare deals and submit applications.
- Cash flow forecast – Create a detailed forecast showing the property’s anticipated rents to determine the potential DSCR.
- Assemble documents – Lenders will request various documents like ID, proof of address, deposit funds etc – have these ready to go.
- Deposit funds – Keep your deposit monies in an accessible account so these can be sent to the auctioneer quickly if you win.
- Legal representation – Appoint a lawyer several weeks prior to the auction to handle contracts.
- Contingency budget – Factor in some surplus funds to cover any unforeseen delays, costs or fees.
- Have backup lenders – Apply to multiple lenders in case your initial choice falls through.
- Credit check – Run your own credit check and address any issues – lenders will base decisions on your credit score.
- Liaise with agents – Build relationships with local real estate agents to get background on potential auction lots.
Following these tips will place you in a strong position to purchase your desired property using DSCR financing. Do your preparation and you can bid with confidence!
Frequently Asked Questions
What credit score is needed for auction finance?
Most lenders want to see a minimum credit score of 600. Anything below 500 will make approval very difficult. An exceptional score of 720+ may enable slightly better terms.
Should I obtain a property survey before bidding at auction?
Yes, arranging a structural survey before the auction is strongly recommended. This identifies any serious defects that could impact valuation. Factoring in repair costs prevents overpaying.
How quickly must auction finance be repaid?
The maximum term is usually 12 months. This provides time to sell the property, refinance to longer term lending, or complete renovations enabling rental or resale.
Can limited companies apply for auction finance?
Yes, most lenders will consider loans to limited company entities buying at auction. Extra due diligence on the company is undertaken, including reviewing company accounts and director details.
What happens if my auction finance application is declined?
Don’t panic! Work quickly with your broker to identify alternative lenders or products you could apply for. As long as you’ve started the process early enough, there should be time to secure another option.
Purchasing property at auction can enable investors and homebuyers to secure real estate at below-market value. For successful buyers, bridging loans and DSCR financing are excellent tools to cover the buying costs within tight auction timeframes. With the right preparation and advice, auction finance makes bidding for your dream property possible.