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Factors that Decide a Business Loan’s Interest Rate

The skill of procurement plays an important role in business profitability. Raw materials, machinery, and even the money for financing have to be sourced after thorough deliberations. Does that mean that the business loan interest rate need not be the same? Business loan rates can vary due to several factors. A business entity would always try to get the best loan deals. That is, business loans at the lowest possible rates of interest. Even a difference of few percentage points can make a meaningful difference for large enough business loan amounts.

The entire banking and financial institutional structure rest on the management of lending and borrowing. Lenders want interest on their monies, while borrowers want to put the money to use. Financial synergies are created when lenders know how to lend best, and borrowers know how to make the best use of credit. Credit financing of business can accrue several benefits to the business. Sound credit financing decisions can also benefit the lender stakeholders and the economy at large.

Optimum capital structure

There are several sources of business finance. Businesses measure the viability of each of these sources and can tap all sources. The optimum capital structure is not a single financial source component but a scientifically constructed portfolio. The debt component can form an important element of the business capital structure. The judicious use of loan resources creates an optimum capital structure for the business entity.

Best use of available funding options

Money cannot grow on its own. Money can generate more money when fed into gainful ventures—financial decisions based on sound business logic and analysis results in the best use of financial resources. The cost of capital of various business financing sources forms major decision criteria while forming the funding portfolio. When loans are available at a low cost of capital for business, the business can assume calculated risks to make its profitable use.

Uses of business loans

Business loans can be of several types. The business loan interest rate can vary according to the use of business loans. The broad categorization of business loan uses can be:

  • Long cycle financing

Several types of business loans are available to fund long-term business needs. These can be land and building lease, hire purchase, rent financing, machinery and equipment financing, technology upgradation financing, and other requirements. The tenure of long-term business loans can be over five years to fifteen and even twenty years.

  • Short cycle financing

Short-term business loans can be availed to finance working capital requirements, raw materials procurement, and other short-cycle business needs. Short-term business loans have a tenure of six months, one or two years, and not more than five years.

Different sources of business loans

Thebusiness loan interest ratecan also vary according to the lending source. The major sources of business loans can be:

Banks and financial institutions

Banks and financial institutions are the largest borrowers as well as lenders. They offer deposit interest rates to their lenders and make money available to borrowers at specific rates of interest. Though loan rates of banks are largely governed by RBI policies, the business loan interest rate can vary by few basis points within banks. Certain financial institutions that specialize in business and project lending can facilitate borrowing at significantly lower rates of interest.

Government-aided projects

The government extends SOPs in the form of low-interest rates for business loans for announced sectoral projects.

International lending agencies

Several international banks, financial institutions, and asset management companies extend loans to specific businesses at a highly reduced business loan interest rate. The interest can be as low as 2 %, depending upon the funding projects.

Company investors

Large companies often invest in startup companies to make money from growth cycles of promising startups.

Other sources

There can be other sources of business finance like a group of investors, venture capitalists, and other individuals and groups.

External factors that affect the business loan interest rate

External factors set the upper limits of the interest rates for all lenders.

State of economy

If the money flow into the economy has been good, there is money available for investing in projects and businesses as loans. As opposed to an abundance situation, sometimes the government may announce cash release to rescue troubled sectors of the economy. The released sums can be made available as business loans to combat recession.

Industry type

Lending bodies can extend loans at differential interest rates depending upon the type of industry or sector. For example, business loans available through government schemes can cost less for the development sector.

RBI lending rate policies

Banks borrow from RBI and lend to the public. When RBI increases the bank borrowing rate, the banks also increase their interest rate. As opposed to this, when RBI cuts the bank borrowing rate, the banks also follow suit.

Bank policies

The business loan interest rate can vary by significant basis points within the general lending rates framework of the present state of the economy. Banks grappling with the NPA problem may show greater stringency towards borrowers.

 Internal factors that affect the business loan interest rate

Businesses with high credibility and performance records find it easier to source debt funds at lowerrates.The prime internal factors that affect the interest rate can be:

Credentials

A business earns credentials due to its policies, mode of operation, human capital asset, management and objectives. Businesses with sound credentials find it easier to source debt funding at a significantly lower rate of interest.

Credit scores

The credit scores of an entity depict how the entity has used borrowed funds in the past. Business entities that have high credit scores are able to secure funds at reduced interest rates.

Performance

The performance of the business firm, as reflected through its sales, audit, and account reports, can be a major determinant in procuring funds at a diminished interest rate.

Type of business loans

Especially for larger loans that require security backup, there can be several schemes that offer funds at attractive rates.For example, at present, certain banks are offering loans at rates of 7 to 7.5% against gold security.

Business loan interest rate FAQS

Q. How to get a business loan easily?

The best way to procure loans at a low-interest rate is to have all documents in place and maintain essential firm records.

Q. How to get the cheapest business loan?

It is possible to procure loans at reduced business loan interest rates by comparison of loan options and to make an informed choice.

Q. How to get an unsecured business loan?

An unsecured business loan does not require any security or guarantor backup. Proprietors and business firms with good credit history can easily procure unsecured loans at lower business loan interest rates.

Q. How to shop for business loans?

The online loan aggregator portal is equipped with tools that enable easy registration of details, comparison of loan products, and retrieval of quotes.

Amit Kumar
Author: Amit Kumar

Amit is the founder of YoursNews. This is a next generation blog, proved that blogging is an art; focus on valuable ideas and genuine stories, rest everything will fall into place.

Amit Kumar

Amit is the founder of YoursNews. This is a next generation blog, proved that blogging is an art; focus on valuable ideas and genuine stories, rest everything will fall into place.

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