Small Business Loan Trade-offs - Choosing The Best Rate
Saturday, November 25, 2006
Most small business borrowers are understandably confused by
all of the different interest rates for commercial loans. How
does a small business borrower decide what is the "best" rate?
Is it the lowest rate or is it more complicated than that?
Commercial loan rates are indeed a source of confusion for most
business owners. There are MANY variables in determining these
rates, including the type of business, loan-to-value, length of
loan, credit scores, how long rates will be fixed, stated income
or tax returns used to qualify, assumable loan or not assumable,
and whether recall or balloon features are included/excluded.
If a small business borrower wants the lowest rate, this will
usually be found in a short-term commercial loan that has
recall/balloon terms and other generally undesirable features.
Although this type of loan might have the lowest rate, it will
not necessarily have the "best" rate. The lowest-rate loan
typically involves the worst terms, not the best terms, even
though the interest rate might look appealing. Here is a
suggested definition of what constitutes the best rate for a
business loan: the "best" rate is one which is associated with
business loan terms that are not detrimental to the long-term
financial health of the commercial borrower's business.
The concept of "trade-offs" will help small business borrowers
when they are confronted by the "lowest" rate versus "best"
rate decision. There are two primary definitions of "trade-off"
that are relevant to the points made below:
(1) Giving up one thing in return for another.
(2) Balancing of factors that cannot be maximized at the same
time.
It is easy to see the concept of "trade-offs" in commercial
real estate loan decisions every single day. The most common
application is when a lower interest rate is given up in return
for more favorable terms such as a longer business loan (25-30
years instead of 3-5 years). Because these trade-offs are by no
means obvious to the typical small business borrower, perhaps
the most important function that a business loan advisor
performs for their clients is a thorough analysis and
explanation of the various trade-offs involved in each
commercial real estate loan that they provide.
It is critical that this analysis involve more than just the
underlying interest rate for each commercial loan program. In
fact, one of the most important lessons to be learned from a
thorough analysis of "trade-offs" is that the lowest rate is
ALMOST NEVER associated with the best deal for the commercial
mortgage borrower. As you might imagine, this is extremely hard
for most commercial borrowers to understand and accept. Most
commercial lenders take the easy way out and sell the
lowest-rate loan to their commercial borrowers because it is an
easier transaction, but this approach rarely results in the
commercial borrower getting the business loan that they SHOULD
have. An experienced business loan advisor will take the more
difficult path which involves a more hands-on approach with
small business borrowers to ensure that they understand all of
the "trade-offs" associated with their business loan choices.
Most borrowers think that they NEED the lowest possible
interest rate without realizing what they are truly giving up
in order to get that rate. As stated above, the loan terms
given up in exchange for the lowest rate are usually much more
valuable to the commercial borrower than the lowest rate.
However, as critical as this particular issue is for the
commercial mortgage loan process, it is only one of several key
commercial financing problems discussed at
http://steve.bush.googlepages.com/home (which identifies 12
commercial real estate loan problems to avoid).
Copyright 2005-2006 AEX Commercial Financing Group, LLC. All
Rights Reserved.
About The Author: Stephen Bush provides commercial financing
assistance throughout the United States and is the publisher of
The Commercial Mortgage Loans Guide ( http://aexcfgllc.com ) and
The Credit Card Receivables Guide ( http://aexcfg.com ). Steve's
toll-free number is (888) 593-3951.
posted by Dennis Cheesman @ 7:12 PM,
2 Comments:
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At 11:08 AM,
Unknown said...
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Nice post. I'll keep it in mind because I plan on running a business soon. I've been thinking about it for a long time now, and I can use all the help and advice I can get. Anyway, lately I've been thinking about buying a business instead of starting one from scratch. Any suggestions? Advice? Thanks.
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At 9:23 AM,
Unknown said...
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@Karen - I would try BizTrader.com. It's an online global marketplace where you can buy or sell a business. It also has helpful tips and advice, and you can use it to find professional help, like a lender or broker.
Then there are always books you can read and local small business groups that can be very invaluable.
Good luck!