Without a doubt, the choice of loan type is one of the most important aspects of success in business.
In Australia, however, most businesses have serious problems matching their loan structures with their financial objectives and end up in an inefficient state.
To really save thousands for a business, just understanding the differences between fixed business loans, variable business loans, and split loans would suffice.
This blog gives a detailed explanation of these types of loans, their characteristics, advantages, and disadvantages, so you can make a well-informed choice for your business.
The Foundation – What Are These Loan Types?
Before proceeding to the particulars, it is worth noting that there are three basic types of interest arrangements for any business loan offered in Australia: fixed, variable, and split. The three are meant for different business purposes and each comes with its own strengths and weaknesses.
Fixed Business Loans – Stability and Predictability
Fixed business loans come with a constant interest rate during the entire tenure of the loan.
Key Features of Fixed Business Loans:
- Fixed repayments that remain constant throughout the loan period
- Insulation from the risk of increased interest rates
- Generally-high initial interest rates compared to variable loans
- Early repayment fees applicable
- Limited flexibility with respect to additional repayments
When Fixed Loans Work Best?
Fixed loans are best for businesses that:
- Need accurate forecasts of their cash flows.
- Have very tight budgets to comply with.
- Want consistent repayment schedules.
- Are acquiring or moving into a major new facility.
Advantages:
- Budget Certainty: Fixed monthly payments make budgeting easier, especially to companies with tight cash flows.
- Safe from Rate Hikes: Companies are saved from the pressure applied by increased market rates.
Disadvantages:
- Higher Initial Rates: Fixed rates have a bit higher interest than variable rates on fixed loans.
- Limited Flexibility: The borrower would incur a penalty for early repayment or refinancing.
Example Use Case:
A manufacturing business with predictable revenue can enjoy fixed repayments with no surprises in operating costs.
Variable Business Loans – Flexibility And Opportunity
Variable business loans have interest rates that change based on market conditions, usually following the Reserve Bank of Australia’s (RBA) cash rate movements. These loans generally start with lower interest rates than fixed loans but can change monthly.
Key Features of Variable Business Loans:
- Interest rates can increase or decrease
- Generally lower establishment fees
- More flexible repayment options
- Ability to make additional repayments without penalties
- Option to redraw extra payments in most cases
When Variable Loans Work Best?
Variable loans suit businesses that:
- Have a strong cash flow
- Can handle potential rate increases
- Want flexibility in repayment
- Might benefit from rate decreases
- Plan to pay off the loan early
Advantages:
- Lower Initial Rates: Often lower than fixed rates, leading to initial cost savings.
- Flexibility: Borrowers can make extra repayments or refinance without penalties.
Disadvantages:
- Unpredictable Costs: Rising rates can lead to increased repayment amounts, adding financial strain.
- Market Dependency: Businesses are exposed to economic volatility.
Example Use Case:
A tech start-up anticipating revenue growth can leverage lower initial rates and flexibility for early repayments.
Split Loans: The Best of Both Worlds
Split loans supply businesses with the opportunity to segment their loan into two different parts: one fixed rate and one variable rate part.
Key Features of Split Loans:
- Greater Protection from Interest Rises
- Flexibility for Additional Payments
- Partly Benefit from Interest Rises
- Alter change in split ratio at fixed rate renewal
- Balanced Risk Management Approach
When Split Loans Work Best:
Split loans are best suited to those businesses which:
- Want protection against market uncertainties
- Produce diverse income streams (some stable, other variable)
- Seek an equilibrium between security and flexibility
- Businesses that are adding loans that go beyond the norm
- Want a trial run on various loan structures before full commitment
- Have strong consistent revenue but experience drastic seasonal fluctuations in business
- Expanding an existing market while introducing another one.
Advantages:
- Risk Spread: Provides the fixed-rate comfort with the flexibility of a variable portion.
- Savings: Overall interest expense will likely decrease if the variable rate drops.
Disadvantages:
- Complexity: The dual repayments system is often not straightforward.
- Break Fees: The fixed portion might carry penalties on early repayment.
Example Use Case:
A retail chain with aspirations of attaining financial stability at par with flexibility may put fixed rates to 70 per cent and variable rates to 30 per cent regarding a loan.
Factors To Consider When Choosing A Loan
- The frequency of cash flow: Fixed ones would have been good for predictable cash flows while the variable options would be best where cash flows are fluctuating.
- Risk Appetite: A business has a little fringed risk appetite and then keeps fixed loans while a business is ready to wade into an environment where he’ll also take variable or pitfall loans.
- Loan Terms: A fixed term loan is adapted best with long-term financing, while variable loans are better suited for a shorter duration. Fixed loans are beneficial in a rising-rate environment but benefits are attached to variable loans during stable or falling rates.
Require Expert Help To Choose The Right Loan For Your Business?
Understanding the differences between fixed business loans, variable business loans, and split loans could be very challenging. Credit Hub is one of those companies with an experienced group of finance brokers in Melbourne that make the whole process easy for their clients by finding the best loan options for their needs.
Because you need stability and flexibility or a good mix of both, we are here for you from start to finish. Start your loan journey today—apply online or talk to our experts for personalised advice and ongoing support.
Disclaimer:
The information presented by staff or employees of Credit Hub and its associated companies is provided for general informational purposes only. We do not guarantee the accuracy, completeness, or timeliness of the data or views presented. Audience members should conduct their own research and verify any information before relying on it. Credit Hub and its associated companies are not liable for any errors or omissions, or for any actions taken based on the information presented.