Understanding the Key Factors that Affect Your Business Loan Interest Rate

When applying for a business loan, the most important factor is the SME loan interest rate as it significantly impacts your monthly payments and overall borrowing costs. Understanding the factors that determine your interest rate can help you make informed decisions and negotiate better terms. Let's understand the factors that affect your secured business loan.

Key components of Interest Rates

The interest rate you pay on a business loan is more than just a random number. It’s a calculation involving various components, all of which contribute to the final figure you see. Let’s take a look at the key elements involved.

• The Prime Lending Rate (PLR)

  It acts as the foundation upon which most business loan interest rates are built. PLR is the base rate that banks and financial institutions charge their most creditworthy customers. If you have a stellar credit score and a solid financial track record, your interest rate will likely be closer to this base rate. However, for the majority of borrowers, the final rate is higher as additional factors are added on top of the PLR.

• Base Rate and Benchmark Rates

  A business loan with low interest rate is always exciting. But that is not what happens often. Banks often use base rates or benchmark rates to determine the minimum rate at which they can lend. These rates are set by regulatory bodies like the Reserve Bank of India (RBI). Changes in these benchmark rates directly impact the interest rate on business loans. When the RBI adjusts the repo rate, for instance, it influences the cost of borrowing across the banking sector.

• Spread

  The spread is the difference between the small business loan rates and the interest rate you're charged. It accounts for the lender's profit margin and operating costs. If your business is deemed high-risk, the lender will increase the spread to cover their risk, leading to a higher interest rate.

The Influence of your creditworthiness

Your creditworthiness is a significant factor that lenders consider when determining your interest rate. The minimum CIBIL score for business loans is 700-750. A higher credit score generally translates into low-interest business loans.

• The Impact of Your Credit Score

  A high credit score signals to lenders that you're financially responsible, which means you’re less of a risk. The result? A lower interest rate. Conversely, a low score raises red flags, leading to a higher rate as lenders try to offset the increased risk.

• Factors Affecting Your Credit Score

  Your minimum CIBIL score for business loans is influenced by various factors, including:

  • Payment History: Timely payments on existing loans and credit cards.
  • Credit Utilisation: The amount of credit you're using compared to your available credit limit.
  • Credit Inquiries: Frequent credit inquiries can temporarily lower your credit score.
  • Length of Credit History: A longer credit history can positively impact your score.
• Improving Your Credit

  If your credit score is less than ideal, take steps to improve it by paying bills on time, reducing debt, and monitoring your credit report regularly.

The effect of a Business Profile on Interest Rates

Your business profile also plays a role in determining your interest rate. Lenders assess factors such as:

• Business Age and Stability: Established businesses with a proven track record tend to get better interest rates.
• Industry and Sector: The industry your business operates in can influence the perceived risk associated with your loan.

  

• Financial Performance: Your business's financial health, including revenue, profitability, and debt-to-equity ratio, is a key consideration.

The Impact of Loan Terms and Conditions

The terms and conditions of your loan for small business can also impact the interest rate:

• Loan Amount: Larger loan amounts might attract higher interest rates.
• Loan Tenure: Longer loan tenures can lead to higher interest rates due to increased risk for the lender.
• Collateral: Secured loans (with collateral) typically have lower interest rates compared to unsecured loans.
• Loan Purpose: The purpose of the loan can also influence the interest rate. Loans for capital expenditure might have different rates compared to working capital loans.

  

Wrapping Up

Understanding the factors that affect your business loan interest rate is crucial for any business owner looking to secure funding. From your credit score and business profile to the loan terms and broader economic conditions, every element plays a role. By being informed and taking steps to improve your creditworthiness and financial stability, you can significantly reduce the cost of borrowing and ensure that your business gets the funding it needs on favorable terms.

If you're looking for a secured business loan with competitive interest rates, IIFL Home Loans offers tailored loan options that meet your unique business needs. Get in touch today to explore your options.