Factors That Affect Business Loan Interest Rates

1. Factors That Affect Business Loan Interest Rates

2. The interest rates on business loans differ from one lender to another. A single lender also provides the same business loan product to individual borrowers at different interest rates.  There are a number of factors that affect the business loan interest rates. Some of these factors are external, whereas others are internal. A borrower must understand both external and internal factors affecting business interest rate to reduce overall cost of credit.

3. Extern Externa al l and In Inter terest est Ra and Intern Internal al F Factors Rate tes s actors Aff Affectin ecting g Bu Business siness Loan Loan Rate of Inflation Inflation rate increases the prices of products and services. But inflation reduces the value of currencies and purchasing power of people. The decline in value of currencies increases rate of interest on business loans. Hence, lenders provider credit at higher interest rates if the inflation rate is high and vice versa. A borrower must monitor fluctuations in inflation rate to decide the right time to apply for a business loan.

4. Monetary Policy The Reserve Bank of India (RBI) announces new monetary policies at regular intervals to maintain liquidity and control inflation rate. Sometimes the RBI increases liquidity in the money market by relaxing its monetary policy. The enhanced liquidity reduces interest rate on loans and makes business loans cheaper. On the other hand, the interest rates on business loans increase each time the RBI keeps the key rates unchanged.

5. Demand and Supply of Credit The business loan interest rate is also impacted by demand for and supply of credit. When the demand for credit increases, lenders charge higher interest rates. But the lenders reduce interest rates when the supply of credit exceeds the demand for credit. An entrepreneur can easily reduce the total cost of credit by applying for a business loan when the demand for credit is low or supply of credit is high.

6. Type of Business Loan Both banks and non-banking financial companies (NBFCs) basically provide two types of business loans – secured and unsecured. A borrower has to keep his assets as collateral to avail a secured business loan. On the other hand, he can avail an unsecured business loan without any collateral. The lenders charge lower interest rate on secured business loans than unsecured business loans. The additional interest rate helps the lender to cover risk of loan default or non-payment.

7. Type of Business While processing business loans, lenders assess credit risk based on the type of business. They consider certain businesses to be riskier than others. The even charge higher interest rate on business loans to cover the business risk. Some lenders even provide credit at a much higher interest rate to the borrowers from riskier sectors.

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