Take the time to review your rates and stay well informed as the cost of borrowing begins to increase.
After years at rock bottom, interest rates are slowly creeping up.
They’re still comfortably low — making your borrowing cheap and your savings account stingy. But the Federal Reserve has already raised the federal funds rate to 1.25 percent in June, and another increase is “widely expected” in the coming months, says Neil Staeck, business development officer at Wisconsin-based Educators Credit Union.
“The amount of the increase and the time frame of course remain to be seen, but the likelihood increases as the economy continues to grow,” Staeck says.
So what does that mean for you and your business? Quite a lot, actually. The obvious impacts are what you’ll pay the next time you finance a major equipment, construction or real estate purchase. But it will also affect what you’re paying in revolving debt.
Short-term debt isn’t the only thing affected. “Long-term fixed rates on real estate secured loans will also creep higher over time, and adjustable-rate mortgages are probably headed towards a sizeable increase,” says Staeck.
So what do you do about it?
The first thing is to refresh yourself on where things stand for you right now.
“In a rising rate environment, it doesn’t hurt a business owner to take a look at the loans they currently have and just see how they’re structured,” says Joe Pieper, senior vice president of commercial banking at Westbury Bank, a Milwaukee-area community bank.
“It’s important for business owners to know the terms of their existing debt,” adds Staeck. As rates go up broadly, the interest rates on your credit cards and lines of credit will increase.
Even if you have a locked interest rate, “it’s still important to know how long that rate is locked in for,” Staeck points out. “By the time that note matures, rates may have increased and you’ll be renewing at a higher rate.”
Explore your options
After reviewing your paperwork, give your bank a call. If your line of credit has the usual floating rate, see if there’s an option to convert to a fixed rate, Pieper suggests. “Depending on how the loan is written, there may or may not be that option, but it’s certainly a conversation worth having with your banker.”
All of these questions become more urgent if you’re already in buying mode, whether for equipment or even real estate — perhaps a larger shop.
When equipment purchase is involved, ask your banker or accountant whether it’s a good idea to get a longer-term fixed rate to lower the monthly payments — “but that ties back to what your cash flow is,” he cautions. “If you’re debt-averse and you have good cash flow, and you’re looking to acquire a piece of equipment, it may still make sense to do something on the shorter term — maybe two or three years — to pay it off.”
The calculus is different with real estate, however. “If you’re talking about adding on to your building or buying a building for the first time, in a rising rate environment it’s certainly in your best interests to try and get a longer-term fixed rate,” Pieper says.
And you might need to shop around a bit. “Some banks will lock rates up to five years, some banks will lock rates up to 10 — it all depends on the bank and how they structure these types of loans,” he points out. “There isn’t a magic bullet, there isn’t a magic formula that all banks tend to subscribe to. It’s truly bank by bank based upon their appetite for new business loans or their risk appetite for certain types of industries.”
Pieper also suggests that interest rates alone aren’t the only criterion to consider when you borrow money for your business — and the criteria can shift depending on the size of the loan.
“If you’re borrowing $25,000 or $50,000 for equipment or a truck, at the end of the day the monthly payment is what’s important to you,” he says. Of course you want to negotiate a fair interest rate, but the term of the loan itself is probably a higher priority. You want “to make sure that it fits in your cash flow,” he explains — and in the overall cost, a slightly higher interest rate in return for easier payments is worth the reduced cash-flow pressure.
“Now if you’re borrowing a half a million or a million dollars for a building purchase, the interest rate is certainly a little more important,” he continues. Even there, however, “I would focus more on the availability of credit and the access to capital than the cost of capital.”
You can also benefit, at least modestly, from rate increases, Pieper observes — thanks to your business checking account.
Perhaps you have one of the small-business accounts with a low, fixed-fee structure that stays the same regardless of interest rates. On the other hand, he notes, it’s common for bigger business checking accounts to tie fees to interest rates. Under those circumstances, “as rates go up your fees inevitably should decrease a little bit because you’re getting more earnings credit for the deposits that you’re keeping in the bank,” he says.
The bottom line? “It’s not only good to talk to your banker about the liability side of your balance sheet — your loans and payments and your interest rate — but make sure your banker’s talking to you about cash management,” Pieper says. “Making sure that you’re in the right checking account, making sure you understand what you’re paying for: what services or products you’re getting from the bank and what they cost.”
This may be as good a time as ever to conduct a thorough review of your account with your banker, understanding exactly what products or services are offered that you might not know about. And when you do that, “make sure your banker is talking to you as much about the asset side of your balance sheet as they are about the liability side.
Two things to remember, though, as you ponder these questions.
First, don’t panic. “I wouldn’t advise anyone to rush into buying something because rates are rising,” says Staeck of Educators Credit Union. “Do what makes sense for your business, and if you’re unsure of what to do, talk with a business lender, accountant or financial adviser for advice.”
Second, you’re not alone. Your business “isn’t the only one dealing with these changes,” Staeck says. “So are the companies and consumers you work with on a daily basis. If you adjust your business practices to compensate for the higher cost of borrowed money, keep in mind that your customers, vendors and suppliers might be changing theirs as well.”
Boiling it down? Be informed. Talk to your banker. Consider your options. And breathe easy. The changing interest rate environment is something you need to pay attention to. But it’s just one of many concerns you’ll need to juggle as you keep building and running your business.