What Will Happen to My Business Loan’s Interest Rate During a Recession?

Interest rates are typically slashed during a recession because central banks in many nations cut rates to stimulate lending and economic activity. Lower rates incentivize borrowing and spending by companies and consumers. Companies can take out more loans to help them grow and expand and consumers can buy big-ticket items that require lending.

If you have a variable interest rate on business financing during economic uncertainty, your loan rate will likely go down. If your rate is fixed, it will remain the same. So if you have a variable rate loan, you may benefit from potentially refinancing your loans at a lower rate.

Here’s what you need to know about recessions effect on interest rates.

What Exactly is a Recession?

When there are 2 consecutive quarters of negative gross domestic product (GDP) growth, the economy is said to be in a recession. This most recently happened in 2020 from the pandemic-related shutdowns, and in 2008 during the Great Financial Crisis.

The nonprofit National Bureau of Economic Research (NBER) is responsible for determining the beginning and ending dates of recessions in the United States. The NBER and economists take into account a variety of other indicators in addition to GDP figures, including income and unemployment rates.

What Kind of Effect Do Recessions Have on Interest Rates?

When the economy is experiencing a downturn, governments often take measures to stabilize the situation and boost growth, including interest rate cuts.

Low interest rates make it more affordable to borrow money while simultaneously making it less beneficial to save money. This is because businesses can get loans at a lower cost to make investments in their operations.

However, you may find it challenging to be approved for business loans during a recession. They could need a higher minimum credit score on your credit card, a larger down payment, or even stop issuing small business loans during a recession.

How Does A Recession Affect My Business Loan Interest Rate?

This largely depends on what happens to interest rates. If the economy enters stagflation, then the Federal Reserve will have to hike interest rates aggressively. This means business loans will follow suit, making business credit harder to access. Since small business lending is riskier than other forms of lending, these loans can become very costly.

This is one of the main reasons that businesses have to be careful about taking on variable interest rate business loans. With a variable interest rate, your rate can increase dramatically, leading to higher monthly payments in the short term.

Locking in a long-term rate for working capital can be safer. Plus, if rates fall, you can always refinance your loan.

What Types of Loans Have Variable Interest Rates?

There are a variety of small business loans that offer variable interest rates. That is why it’s vital to research which bank loan is right for you. Here are some common loans that can come with variable interest rates:

• SBA 7(a) loans – SBA 7(a) loans are a popular for small business owners. These are offered by the Small Business Administration to assist small businesses with their lending needs. SBA loans can have fixed or variable interest rates. If your SBA 7(a) loan has a variable interest rate, then economic conditions will impact the overall cost of your loan in the long run.
• Lines of Credit – Lines of credit are issued to small businesses to give them a pool of funds they can pull from as needed. These can be offered by credit unions, community banks, and alternative fintech lenders.
• Term loans - Term loans come with an agreed upon loan amount and payback period between a lender and entrepreneur. This can come with either a variable interest rate or fixed-rate.
• Credit Cards – Credit cards also have variable interest rates. Credit cards typically should be avoided for long-term financing as they can come with high interest rates.

Should I Refinance My Loans When the Economy Is in a Downturn?

When the economy turns south and interest rates drop, it can be a great opportunity to refinance a business term loan. But it ultimately comes down to your individual situation and the cost of refinancing. If you’re able to be approved for a new loan, refinancing your loans while interest rates are low might help you save money and reduce the amount you pay each month.

Bottom Line

During economic downturns, the Fed tries to reassure financial institutions that it will take measures to ease the strain on its member banks and the broader financial system. The actions they take have broad ramifications for all Americans, particularly small business owners.

Overall, recessions will tend to impact your business’s future borrowing capabilities as the interest rates change. However, if you have fixed rate loans, you won’t have to worry about the interest rates changing on them.

Instead, your first concern should be ensuring your business plan is in tact and your business will continue to cash flow. An economic recession isn’t ideal, but this is also a great time to ensure your cash reserve are where they should be. If you can recession-proof your business, it can have a profound impact for years to come.

FAQs About Business Loan Interest Rates In A Recession

1. What does the Federal Reserve do during a recession?

   The Federal Reserve takes several financial measures to ease monetary pressure, including lower interest rates and enact economic stimulus.

2. Is it good to get a loan during a recession?

   It can be a strategic move for small businesses and startups to try to get funding during a U.S. recession as interest rates will be deflated. However, it could prove to be difficult.

3. What happens to loan interest rates during a recession?

   Interest rates will likely slide downward as the Federal Reserve aims to stimulate spending and borrowing.

4. Is a recession a good time to buy a business?

   It could be as prices for assets could be sliding downward.

5. What is a good interest rate for a business loan?

   It depends on the economic circumstances and the lender, so be sure to shop around to find the most competitive interest rate at the time. To find the best business loan rates, reach out to several lenders to compare terms.