A rising Fed rate doesn’t have to derail your business loan refi

With the recent Federal Reserve hikes policy rateBorrowers with small business loans may feel they have missed their opportunity to refinance at a lower interest rate.

That is not necessarily the case. A lower interest rate may still be within reach since the interest rate you pay on your business loan is influenced by more than the Federal Reserve. And while a better interest rate can help, that’s not the only reason to consider refinancing. Here’s what to consider when weighing your options.

Benefits of refinancing a business loan

Securing a lower interest rate

Loan type, collateral, borrower qualifications and years in business can all affect creditworthiness Interest rate on your business loan. If you’ve been in business for a few years, have built your credit rating, or now have collateral to back up a loan, for example, you may be able to qualify for a lower interest rate – one that wasn’t previously available to you.

“If someone is looking for a lower interest rate, it’s usually a good idea if they’ve made progress in their business,” says Luis Ramos, director of business advisory at Accion Opportunity Fund, a nonprofit lender. This can be especially the case if your business has just started when you first got funding. “When they take out their first loan, their interest rate is usually much higher than an existing business [operation] for several years,” says Ramos.

Get a fixed interest rate

The Federal Reserve has indicated that further rate hikes are likely in the future. For borrowers who currently have an adjustable rate loan, refinancing into a fixed rate loan could provide a stable monthly payment going forward. Note, however, that interest rates on fixed-rate loans are typically higher than the initial interest rate on adjustable-rate loans, and not all lenders or loan types offer fixed-rate options.

Federal funds rate increases could push your floating rate higher than expected. If you’re considering refinancing from an adjustable-rate loan, Ramos suggests thinking about how a higher interest rate, and the larger monthly payment that comes with it, would affect your cash flow. If you’re not comfortable making larger monthly payments, setting a fixed rate is an option to explore.

Reduction in monthly loan installments

The amount of your monthly loan payment can have a major impact on the operation of your business. Refinancing an existing loan to reduce your monthly payments can give you some breathing room if you’re concerned about cash flow.

According to Frank LaMonaca, a mentor at SCORE, a nonprofit and Small Business Administration resource partner, cash flow is critical. “Companies don’t fail to get a reasonable interest rate on their loans. They fail because of a lack of liquidity when things go wrong,” says LaMonaca. Small business owners “should really focus on cash flow. It helps them survive every day and every hiccup,” he says.

Avoiding a balloon payment

Refinancing can be a way to avoid large cash outlays for borrowers whose loan includes a lump sum due at the end of their loan term, commonly referred to as a balloon payment.

“If you’re in this situation, always look for an opportunity to exit the balloon payment that makes commercial sense,” says LaMonaca. “My advice is that you start refinancing that [loan] at least one year before maturity.”

Considerations when refinancing a business loan

Prepayment Penalties

If you face a penalty for prepaying your existing loan, weigh the cost of the penalties against the benefits of a new loan to ensure you’re making the best financial move. Choosing a loan with no prepayment penalties or other types of exit fees can give you more flexibility in the future to pay off the loan at a time that is convenient for you.

loan fees

Business loans usually include fees in addition to the interest rate. For example, SBA loan typically charge guarantee fees for any loan, including a refinance. It is common for loan fees to be added to the loan amount. While they may not result in a material increase in your monthly payment or the total loan amount, you should consider these fees when weighing the pros and cons of refinancing.

your financial situation

The underwriting process for your refinance is the same as any other business loan. You can save time and possibly money by checking loan requirements on a lender’s website or speaking with a representative before applying for a loan. Review your business and personal credit history, debt-to-income ratio, accounts receivable, and annual earnings to assess your eligibility for a new loan.

Small business owners can also turn to nonprofit organizations like SCORE for free advice, or speak to their local banker, accountant or business attorney to explore the benefits of refinancing their existing business loan.

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