When the Federal Reserve raised interest rates after many years of rate stability, business owners wondered how to navigate a rising rate environment. For the time being, the Fed has tabled new increases. But the questions remain — especially when the markets remain volatile. How do you plan for growth?
First, note that the fundamentals of the U.S. economy are strong. Otherwise, the Fed wouldn’t have attempted to normalize rates with the last hike. Rising rates also have an upside: They give lenders more liquidity, making loans more available and driving rate competition. Rates on small business loans, lines of credit and credit cards will trend upward.
But borrowers need to be cautious. They have a choice between floating and fixed rates.
Floating-rate vs. Fixed?
Many small business loans come with a floating rate. Floating rates often give borrowers a lower entry point, and in a falling-rate climate, the opportunity to save on interest over time. If you’ve already taken out a floating-rate loan, you’ve no doubt seen your monthly payment rise—and you may again.
While available at a higher rate, a fixed-rate loan gives you the ability to plan with greater certainty. Your monthly payment won’t change.
With a loan backed by the U.S. Small Business Administration (SBA), you can choose a longer term for lower monthly payments that fit your budget or a shorter term with higher monthly payments, which means you’ll pay less interest in the long run.
You may consider a traditional fixed-rate term loan or an SBA loan; the federal guarantees behind SBA loans makes them more available to businesses. (The SBA doesn’t lend the money, but it guarantees that the lender will get repaid if the customer defaults.)
However, remember these two factors:
- The amortization period you choose will have a direct effect on the total cost of your loan; but the positive cash flow implications are compelling.
- Your business’ unique situation and the risks associated with your industry sector will also have bearing on the rate and terms of your loan.
If you need greater certainty, and have the ability to repay quickly, consider a five-year fixed-rate loan, with the stability you seek and a shorter time horizon. You are therefore not locked in long-term, and may have more room for a nimble response to changes down the road.
Some borrowers with floating-rate loans may consider converting them to a fixed rate, but bear in mind: The conversion rate is likely to be higher than newly originated fixed-rate loans. You may want to consult your financial advisor regarding your decision.
Timing is Everything
Do your plans require capital for business expansion, equipment investment, or acquisitions? If you’re worried about possible rate increases, the sooner you get positioned with your loans, the better.
Planning here becomes paramount: Should you have unanticipated cash shortfalls, you could end up with a patchwork of loans which, taken as a whole, could cost you more in the long run.
Naturally, business owners will shop for rates online. But they should remember that floating-rate loans from online (“fintech”) lenders are strictly transactional. You don’t have a relationship with the lender that can provide insight as your business grows and evolves. You don’t have access to work with a specialist who can help answer questions as they arise or help you adjust your plans as situations change. Fintech loans remain an obligation, but they don’t reflect a deeper understanding of your goals and business strategies.
For best practices and creative thinking — especially in the use of debt as a financial planning tool — it takes the experience and knowledge of a lender who shares your big picture. We often use the term “holistic” to describe this relationship; it’s another way of expressing the need for a financial partner who knows your business in depth and stays involved in achieving its success.
Cash Flow Red Flags Ahead
When interest rates and prices rise, customers and suppliers often tighten their belts. That foreshadows possible delays in receivables—and a potential cash flow crunch for your business. As a hedge, consider adding or increasing your line of credit. But be cognizant of the fact that, should you choose an alternative (non-bank or fintech) lender for your loan, they most likely will not offer lines of credit. In times of instability, having aggressive cash-flow management capabilities in place can make a substantial difference.
As Q1 begins, this is a good time to review your plans with your accountant, attorney and banker. Taking on debt today demands that holistic look at your business — but that should be Standard Operating Procedure for any economic climate.
The opinions and views in this blog post are those of the authors, and are not intended to provide specific advice or recommendations for any individual. All loans are subject to the normal credit approval process. SBA guaranteed products may also be subject to additional terms, conditions and fees. The Webster symbol is a registered trademark in the U.S. Webster Bank, N.A. Member FDIC.
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