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Are small business loans fixed or variable? It depends on what you choose — after all, it’s up to you. Small business owners who take out a loan have a choice of whether they want a fixed or variable interest rate loan. Knowing this, your next question may be which is better? And the answer is: Once again, it depends. Each business has unique needs, so the type of loan that is best depends on your business and monthly cash flow. Small business loans, variable or fixed, are ultimately similar in everything but interest rates, which can make for a difficult choice.
What Are Small Business Loans?
A small business loan is money that is borrowed from a bank, credit union or lender. The owner intends to use the money for his or her business. The loan funds are typically used for things like:
Working capital
Real estate
Inventory
Business acquisitions
Renovations
Asset acquisition
There are various small business loans on the market that owners can choose from. The main thing that needs to be considered is the type of interest you want, meaning fixed or variable. Loans typically aren’t separated into variable and fixed rate options. When shopping, you choose which type of interest you want after you’ve been approved. When deciding if it’s better for you if a small business loan is fixed or variable, it should come as little surprise that each comes with its own set of pros and cons.
What Fixed Interest Rate Loans Are
Pros of a Fixed Interest Rate Loan
Cons of a Fixed Rate Interest Loan
Predictable monthly payment
Fixed rate small business loans typically have higher interest rates than variable interest rate loans
Easy to budget for
If rates go down, borrowers must refinance to access the lower interest rates
Not affected by market changes
A fixed interest rate loan comes with interest that does not change. Once the loan is processed, monthly payments are the same for the life of the loan. This means borrowers can easily budget for a fixed rate loan because they know exactly how much each payment is going to be. They also know how much they are going to pay for the loan overall. The downside to a fixed rate loan is that if the market changes and banks start loaning at lower interest rates, borrowers with a fixed rate loan won’t see any changes. While their peers will be borrowing at lower rates, they will continue with the same interest. However, the flip side of this is that if rates go up, fixed rate borrowers are protected against big market swings.
Fixed Interest Rate Loan Example
Let’s assume you borrow $50,000 to purchase an additional asset for your company. The repayment period is five years and the interest rate is 6%. Your monthly payment would be $966.64 for the life of the loan, and you would pay $7,998.40 in interest. The total cost of the loan would be $57,998.40 (not including any fees).
What Variable Interest Rate Loans Are
Pros of a Variable Interest Rate Loan
Cons of a Variable Interest Rate Loan
When rates go down, borrowers who took out a variable interest rate loan typically see lower rates
When rates go up, monthly payments go up
Rates are usually lower than fixed interest rate loans
Can make budgeting difficult
When variable interest rate loans fluctuate, they mirror market changes, which means a loan with this type of interest may have different monthly payments one month to the next. However, the payment amounts aren’t usually that much different from one another in a stable economy.There are a few downsides to choosing a variable interest rate loan. The big one is that when rates go up, your payments increase. If your business’s cash flow is tight, this can make budgeting very difficult. Plus, with a variable-interest model, you never know what the total cost of your loan is until you’re done making payments. With a fixed interest rate, you always know exactly what you're paying month-to-month and in the overall grand scheme of things.
Types of Variable Business Loans
Small business loans come with variable interest as an option. Therefore, you can get the following types of loans with a variable interest rate:
Invoice financing loan
SBA loan
Merchant cash advance
Equipment loan
Microloan
Borrowers don’t need to search for small business loan fixed or variable rate options. Most loans come with a choice of both.
Variable Interest Rate Loan Example
The previous fixed-rate loan example saw the borrower take out a $50,000 loan with a five-year repayment period and a 6% interest rate. Overall, that borrower paid $7,998.40 in interest. If the borrower were to choose a variable rate interest loan instead, he or she might be offered a 5% interest rate, which could go up or down throughout the repayment period. Therefore, while this borrower might save money on the loan, it is not a guarantee.
How to Choose Which Type of Loan Is Best for Your Business
When choosing whether to go with a fixed or variable interest, you have to decide how much of a risk you’re willing to take. Most businesses want predictable monthly expenses and are willing to miss out on “historic lows” because they don’t like the idea of being vulnerable to market fluctuations. Because of this, many business owners often choose a loan with a fixed rate. On the other hand, businesses that have some breathing room in their monthly budgets and can take on a little risk may not like the idea of missing out on low rates. By choosing a variable interest rate loan, these owners could potentially save money in interest. They may not know exactly how much they’ll spend month to month, but their budget allows for some fluctuations.It often boils down to how risk averse you are as a small business. No matter which one you choose, however, it’s always a good idea to study up on business loan interest rate averages so you know what you’re getting into.
Small Business Loans With Lantern
So the question is: small business loan, fixed or variable? Each has advantages and disadvantages. Knowing your budget, financial goals and risk comfort will help guide you. When applying for a small business loan, you can use Lantern to obtain offers from multiple lenders. From there, you may choose the lender offering the optimal loan terms. Whether you choose a loan with a fixed or variable rate is entirely up to you. When exploring small business loans, lenders may offer everything from refinancing business loans to business debt consolidation loans.
Frequently Asked Questions
Is it faster to get a fixed or variable rate business loan?
Which is easier to get between variable and fixed interest small business loans?
Are fixed or variable interest rate business loans typically cheaper?
Photo credit: iStock/Talaj
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About the Author
Lauren Ward
Lauren Ward is a personal finance expert with nearly a decade of experience writing online content. Her work has appeared on websites such as MSN, Time, and Bankrate. Lauren writes on a variety of personal finance topics for SoFi, including credit and banking.
