How Business Loan Rates Are Determined

Business loan rates are determined based on your financial history, your business history and the type of loan you elect. Personal loan rates and business loan rates both share a reliance on financial history and the type of loan elected. However, business loans add that third criteria of the business itself including its profits, financial strength and business plan. Understanding the complete picture will allow you to elect the best loan options for your business.

Personal Financial History

The personal financial history of the business owner will come into play most for an initial loan request. Before the business has developed itself as a separate entity, your business will largely be an extension of your own finances. This means your credit score, assets and down payment will be large factors in the business loan rate you are quoted. If you want to secure the loan against an asset, you will have to personally place the collateral to do so.

As the business grows, you should begin to separate yourself from it financially. This means legally incorporating the business as a legal entity in your state and removing some personal liability through the legal structure. It also means you should stop putting any personal funds into the business once it is on its feet in order to limit your exposures in the future.

Business Financial History

Once a business is established and making a profit, the financial status of that business will come into play on future loan requests. The business credit score will become more important than your personal credit score in loan rates in the future. Making all of your payments on time as a business is just as important as making payments on time in your household. The credit of your business will be evaluated on the same criteria as personal credit.

Your business plan will also come into play when you seek financing. A business plan should show financial projections, exact expenses, insurance costs, licensing costs and other factors. Without a business plan cohesive of the necessary elements of success, your business will not be an attractive borrower to any bank. When it comes time to expand, your business plan will need to show exactly how much additional profit you can capture through that expansion.

Type of Loan

The type of loan you are seeking will have a large effect on your business loan rates. Just a few factors affecting your interest rate include:

  • Secured or unsecured loan: Securing a loan against an asset removes some risk from the lender. Secured loans tend to have lower interest rates.

  • Installment or revolving loan: An installment loan is a lump sum loan paid off with monthly payments. A revolving loan allows you the flexibility to determine how much money to take out each month and how much to repay, like a credit card. Revolving loans tend to have higher interest rates because they offer the borrower more flexibility.

  • Short or long term: Long loans tend to have higher interest rates, partially to compensate for the cost of inflation. If you elect a shorter loan, you can typically save money on the financing.