It’s important for a small business owner to research interest rates carefully before applying for a business loan. Your loan’s interest rate will determine the amount of money required to repay the loan, which can have a big impact on your business’s cash flow and chances for growth and success.
Because interest rates are so important to the health of your business, Accion created a four-part series to walk you through the ins-and-outs of small business interest rates. In this first part, we will introduce you to interest rate basics.
The Basics of Small Business Interest Rates
Interest is the cost of borrowing money. When you borrow money to fund your business’s expenses, you’ll have to pay the money back, plus extra to compensate the lender for both the risk they incur and for the expense of lending capital.
An interest rate is expressed as a percentage of the amount of money you’re borrowing. A higher interest rate means the loan is more expensive, while a lower interest rate means a loan comes at a lower cost to the borrower.
Interest rates are determined by lenders based on the perceived level of risk of that borrower. Higher risk means a higher interest rate.
How does a lender determine the risk that you as a borrower pose? When a business owner applies for a loan, a lender will look at several factors to determine that risk, including:
- The borrower’s credit history
- The level of equity invested in the business
- The business’s capacity to turn a profit
- The business’s cashflow, and whether it’s enough to pay back the loan with interest
- The value and quality of the collateral used to secure the loan
- The creditworthiness of any co-signers on the loan
- Other secondary sources of repayment
These factors, plus others, will help the lender to decide what interest rate to charge you.
How Can I Qualify for a Cheaper Interest Rate?
In order to qualify for a lower interest rate and therefore a cheaper loan, it’s possible to take steps to improve your appearance in the eyes of a lender. You can work on improving your credit score, strengthening your business’s cash flow, and creating a sound business plan. All of these things will make you more attractive to a lender and could help you secure a loan at a lower interest rate.
As we continue with this series, we will delve further into important facts about interest rates, including how to take the right actions to keep your business safe and growing in the right direction.