Interest rate is the amount of interest payable per period as a portion of the borrowed amount. Financial Institutes are generally free to determine the interest rate they will be paying for deposits and charging for loans. However, they have to consider the base rate fixed by the Reserve Bank of India(RBI) as well as the competition and market rates prevailing.
But have you ever noticed that interest rates can even vary from borrower to borrower. Various internal and external factors can influence the interest rate a lender charges from you. Read along to discover the factors affecting Business loan interest rates.
External factors affecting interest rates are:
- Current Inflation Rate: High inflation rates indicate rise in the price of products and services while the purchasing power of consumers reduce. Increased inflation rates also indicate reduced value of money as a result of which interest rates tend to increase. Hence, it is advisable to avail loans when inflation rates are comparatively lower.
- Monetary Policy: RBI regulates the monetary policy by managing Repo rates, Cash Reserve Ratio(CRR), Statutory Liquidity ratio(SLR), etc. in order to control inflation. Monetary policies can control the amount of cash available with banks. If RBI wishes to increase liquidity in the market, the business loan interest rate reduces. Whereas, if RBI adopts a strict monetary policy, the interest rate increases.
- Demand and Supply factor: Like any marketplace if there is a lower demand for credit, than its supply the interest rates tend to fall. But if there is a higher demand for loans during low supply of cash, financial institutes demand higher interest rates.
- Economic Uncertainty: If future economic growth is uncertain, financial institutes tend to cut down on lending activities or charge higher interest rates. So, in times of volatility interest rates tend to increase.
Internal factors influencing rates are:
- Credit Score: Financial institutes tend to regulate interest rates based on the risks associated with the borrower. Lenders tend to consider your past borrowing records by evaluating credit score and credit rating. Borrowers with good credit rating are expected to be better equipped at repaying loans and are thus offered affordable interest rates.
- Maturity of Business: A business goes through a life cycle, going through inception, growth, maturity and decline. You might choose to apply for a loan at any stage of your business but firms with longer operational maturity are better equipped for availing loans. Lenders consider businesses with three years or more maturity to be less risky investment.
- Profitability: Maturity of business is not the only factor to be considered. Lenders prefer businesses with better debt to income ratio, as they have a regular cashflow enabling them to repay the funds. Most financial institutions review previous financial documents to decide upon interest rates. Profitable businesses are at a better position to negotiate terms of a Business Loan.
Above mentioned are some the factors affecting Business Loan interest rates. However, interest rates differ from lender to lender.