As you prepare to purchase machinery, vehicles, or specialized tools for expansion, the decision of which type of equipment to buy has just as much effect on your company’s success as does financing. A major aspect of financing is the type of interest that you’ll incur over the life of your loan. In addition, understanding how the equipment loan rates are determined can help you make an informed choice and minimize the impact on your cash flow. For example, many borrowers must decide between fixed-rate loans and variable-rate loans.
Fixed Equipment Loan Rates Explained
Fixed financing, where your interest rate doesn’t change for your entire loan term. Neither will your monthly payment. With fixed equipment loan rates, you will enjoy predictability. This is because from the moment you pay until the end of your payment terms, your loan payment will remain constant. This will surely be helpful, especially for small businesses that depend on predictable cash flow.
Benefits of Fixed-Rate Loans:
- Payment stability: No surprises month to month.
- More clarity on budgets: Cash-flow projections will be more straightforward.
- Risk protection: Shields your business from increasing interest rates in the marketplace.
But the catch is that fixed rates will usually cost you more than starting variable rates. You will pay a premium for the peace of mind. But if you expect interest rates in the future to rise, you might be better off locking in equipment loan rates now.
Understanding Variable Equipment Loan Rates
Variable rates change depending on changes in benchmark interest rates, such as the prime rate. Your installments may change to a higher or lower amount at any time during the loan term. In the case of variable equipment loan rates, borrowers usually benefit from a lower rate at the start, thus their first payments are more affordable. This can be of great help in the short term as it allows the business to use the money saved for operational needs.
Benefits of Variable Rates:
- Lower initial costs: Enables you to save money on your monthly installments at the beginning.
- Market opportunity: There is a chance to pay less in total if rates go down.
- Short-term flexibility: The best option if you have a plan to repay the loan within a short period of time.
Nonetheless, higher interest rates lead to increased payments and thus can cause your finances to be under pressure. Businesses that operate with low margins or have unpredictable income might be in a situation where they cannot cope with an increase in variable equipment loan rates.
What is the Best Option for Your Business?
There is not one single ultimate option for all businesses; rather, the appropriate options depend on each company’s individual circumstances. Listed below are several examples of how to select the right type of equipment loan rates for your business.
Select fixed-rate loans for:
- A need for predictable budgeting
- A business that has seasonal income
- A dislike of financial uncertainty
- A locking in of finance due to low-interest rate conditions
For each of these scenarios listed, having the security of a stable equipment loan rate will give you peace of mind and protect your profit margin.
Select variable-rate loans if:
- You have consistent and strong cash flow.
- You anticipate an ongoing decline or stability of equipment loan rates.
- You intend to pay off your loan early.
- You are looking for lower initial costs.
In situations where your business can manage potential increases in equipment loan rates, variable-rate financing may result in a lower overall cost.
Important Factors Influencing Your Loan Rates
Whether you will use fixed or variable, equipment lenders use the following considerations in determining equipment loan rates:
- Credit Profile: Having good personal and business credit scores will qualify you for a better rate.
- Time in Business: Well-established companies will qualify for more favorable equipment loan rates than start-ups.
- Equipment Type: Items that will hold their value well, such as cars or heavy machinery, will always qualify for better interest rates than custom-made equipment.
- Loan Term Length: Typically, shorter terms of payment mean lower rates. Longer payment terms increase the lender’s risk.
- Down Payment Amount: With a higher down payment, your credit risk will be reduced.
Fixed vs. Variable: Real Cost Comparison
Take, for example, a $100,000 borrowing scenario:
- Fixed option: Fixed rate of 7% with fixed monthly payments. You will know exactly what your monthly payment will be for five years.
- Variable option: Initial rate of 5%. Payment rates may begin low but may escalate towards 8% or higher, depending on interest rates.
In a constant market rate scenario, the resultant variable equipment loan rates may save you thousands of dollars. However, if rates escalate, your cumulative interest costs may escalate beyond the fixed rate.
Conclusion
Your budget stability and risk tolerance will determine whether you select a fixed or variable rate when purchasing equipment through business equipment loans. Comparing rates carefully between both types of equipment loan rates means that you have a financing plan that supports your business’s long-term growth and ongoing cash flow stability.
