Commercial Loan Rate

Business owners or purchasers often need commercial loans to finance their purchase or for working capital purposes. A commercial loan rate can be influenced by several factors that generally are linked to risk and term.

The Rate Environment

The current rate environment is the most significant factor that can influence a commercial loan rate. Banking and finance companies all have their own cost of funds, usually linked to LIBOR (London Interbank Offered Rate) rates. Deposit costs at banks are usually fairly similar to the rates at which banks borrow from each other. LIBOR rates are usually the base rate for banking and finance companies. A commercial loan rate is usually priced at a spread over LIBOR or a similar index rate. Longer-term rates are almost always higher than short-term rates.

Loan Risk and Commercial Loan Rates

A receivable loan backed by a federal government entity will usually be priced at a rate that is quite a bit lower than a term loan financing a start-up business. Banks and finance companies want to be compensated for their risk. This is part of the spread or rate percentage over LIBOR or other comparable index influencing a commercial loan rate. Subordinate debt, usually provided by a finance company is considered quite a bit more risky than a first position commercial loan. Banks often will not provide subordinate debt. Finance companies usually have a higher cost of funds, but are willing to take the risk of providing subordinate debt.

Economic Environment and Commercial Loan Rates

The financial crises of 2008-2009 exposed another factor that can influence a commercial loan rate. During the crisis, banks stopped trusting each other, which led to a spike in LIBOR, but also raised the risk premium on loans in general. The perceived risk affected both the banking cost of funds and the spreads that banks were charging to compensate for risk throughout the economy.

Conclusion

A commercial loan rate can be affected by economic conditions, perceived risk, and the underlying rate environment. Commercial rates are priced at a spread over a bank or finance company’s cost of funds.