As a business professional, you know that inflation has been on a runaway train. As a result, the Federal Reserve is now likely to hike interest rates to hold it at bay. They’ll be starting with raising the short-term interest rates, which will be great for savers but not for businesses needing various types of loans. These changes may seem minuscule compared to the overall economy, but they could cause significant disruptions for small businesses trying to qualify for or pay for current business loans.
Read on to see what might be in store for you and your business.
Business Loans Will be Affected by Interest Rate Hikes
With the Fed likely to raise rates in March, businesses in all industries should brace for the lending changes that are sure to follow the hike. You may be wondering what this means for small and medium-sized businesses applying for loans.
Currently, there’s still plenty of uncertainty as to the specifics of what an interest rate hike would look like, so it’s hard to predict the exact effects it may have on lending. However, most business loans are variable in that the rate can fluctuate every quarter. Most are based on the prime rate plus a certain spread.
The federal reserve is likely to increase the prime rate next month either ¼ or ½ percent which will mean all these variable loans will go up as well ¼ to ½ point. This will mean that you will be paying more right away for your current loan if it is a variable rate based on the prime rate.
Cash Flow Requirements Will Change
First, borrowers can expect to be required to have greater cash flow than previously needed to handle the new debt. The combination of higher interest rates and market volatility will continue to push lenders to qualify borrowers more carefully. It is pretty logical. When you raise interest rates which is a business cost, more income is needed to make up for that rising cost. If the business does not have a way to raise income levels, the bottom line will be affected adversely.
The reality is you will have to show more income to compensate for that hike in interest rate cost. Companies who were affected negatively by the pandemic who need the loans the most may see their chances of qualifying dissolve. Those in industries where margins are tight or supply chain issues have impacted may also struggle with new loan requirements.
Many Businesses Will No Longer Qualify
The takeaway from requirement changes is that if you barely qualified or were on the line of qualifying before, most likely, you won’t qualify as the Federal Reserve will raise the bar on borrowing with these interest hikes. The Fed is trying to slow down the economy to catch up with inflation, which is the greater long-term evil for the economy as a whole. The lesser of two evils is raising rates.
In the short term, while we all wait for the economy to normalize and inflation to slow down, loan approval odds will be reduced for the small to mid-sized business. Vital loans for business revitalization, equipment purchases, and supply purchases will be in danger. With changes in cash flow and other loan requirements, business purchases will also be in jeopardy.
Cost of Borrowing Will Increase
One thing is absolutely certain. If interest rates are raised, then the cost of borrowing will increase. Hiked interest rates inevitably means it costs more to pay back a loan. If you were easily able to pay back loans previously, it might be a little tougher or at least hurt more after the hikes. Margins and increased revenue will be top of mind for you as you work to obtain loans.
Capital and Revenue Affected
Business revenue is affected by inflation, and rising interest rates encourage people to take advantage by saving their money. In turn, many companies will have less capital than previously, making it even harder to satisfy new qualifying terms. Certainly, business planning will be affected by changing interest rates and potential economic shocks.
Selling a Business Will Get Harder
With interest rates on the rise, those plans to sell your business may be put on hold. Your business will be pushed to demonstrate a higher than expected cash flow to be attractive to buyers and lenders alike. You’ll really feel the stress of optimizing every part of your business.
Businesses Should Boost Their Investments
The news isn’t all bad, though. Businesses big and small can improve their situation by taking advantage of hiked interest rates. To increase their cash, they can put more money away in bonds, high-interest accounts, and other investments. New loan requirements may encourage you to think more creatively about how to increase your cash. In the long term, you’ll benefit from making an effort to save more and learning how to diversify your income streams.