On October 2, the Federal Reserve cut its key federal funds rate for the ninth consecutive time. At 2.5 percent, the rate is its lowest level in 39 years. In commercial banking, small-business rates tend to move in lockstep with the federal benchmark. Even if other economic conditions hinder growth today, consider refinancing existing debt.
If you qualify for lower interest rates, the next step is to calculate potential savings of refinancing with a simple cash-flow analysis, says Jeffrey Taylor, a Certified Public Accountant in Bountiful, Utah. The analysis involves comparing pre-payment penalties and closing costs for a new loan to interest savings. A “discounted cash flow analysis” is more complex, but it is the most accurate way to calculate the savings of refinancing a loan, Taylor says. You can locate a useful discounted cash flow spreadsheet on the Internet by using any search engine.
If you decide to refinance, your current lender may be the best place to start, Taylor says. He may decide to cut the prepayment fees rather than lose your business.
“Some businesses don’t realize that there are always three parties in a loan transaction,” Taylor says. “The lender also has a lender. The bank’s lender may allow the bank to negotiate a relief of the prepayment penalty if they know a new transaction is going to be done with them. If you try refinancing with a competitor, your bank is not going to be as generous.”
All debt is not equal. Due to trucking industry valuations and the volatility of used equipment values, don’t expect lenders to refinance your equipment loans, says Steve Parker, vice president of commercial lending at Transportation Alliance Bank in Ogden, Utah.
“Very few people owe less than the value of the truck,” Parker says. “We get calls all the time from people wanting to refinance, but they have a 90 percent failure rate.” Those numbers are skewed by owner-operators, however. A trucking company has a better chance to refinance equipment loans by pooling together equity from a group of trucks to secure a loan for lesser value. For example, you might secure a $500,000 equipment loan with lower interest rates – or bank line of credit – for $800,000 worth of equipment in collateral.
Lenders typically collect the bulk of their interest within the first half of the note, Taylor says. Especially with equipment loans, refinancing early on is the only way to save money, says Jerold Buchan, president of Buchan Trucking, a 20-truck carrier in East Troy, Wis. Buchan refinanced several tractor loans during the past year to get enough operating cash to survive.
“Refinancing is always a losing proposition unless you catch it within 12 to 18 months after beginning the note,” Buchan says. “It makes no sense after that from an interest rate standpoint.”
One area with both hot rates and much easier credit right now is accounts-receivable financing. Because lenders assume less risk with accounts-receivable financing, the lending rates are lowest in the trucking industry, says Tim Valdez, Transportation Alliance Bank’s assistant vice president of asset-based lending. Companies whose lenders tie interest rates to the prime rate are presently borrowing at 5.5 percent against their receivables, Valdez says.
Another area you may choose to refinance is real estate. If you secure a lower interest rate, consider borrowing more than your original loan balance to pay off other high interest debt. You may also consider investing in stocks or equity in another business with higher profit margins than your borrowing rate, Taylor says.
All types of refinancing probably have one thing in common: the longer you wait, the less you will save.