How To Check Your Borrowing Rate
The rate at which you borrow funds from your invoice finance company should be defined in the agreement that regulates the arrangement and the way that it is calculated can be more complicated that a simple percentage. This article sets out some of the methods of calculations that you may come across when checking your borrowing rate.
Base Rate Falls But Will You Benefit?
There is wide expectation that the recent cuts in the borrowing base rate will filter through to benefit small and medium sized businesses and this will help kick start the economy. However, this may not be completely true. There are a number of ways that your finance company may structure the discount charge (similar to interest) that might mean that you don't automatically benefit from these cuts in bank base rate.
Types Of Discount Charge
The discount charge is a percentage above base rate (the agreement will normally define exactly which rate is to be used) that will be charged against any funds that you use. Hence it works in a similar way to interest on a loan. There are several different ways in which your discount charge can be calculated that may affect how much, if any, of the cuts in base rate you get:
- Minimum base rate - if the invoice finance company uses base rate you should benefit from custs in the rate. However, some invoice finance companies have a "minimum base rate" in their agreement that means that you will not benefit from cuts in base rate that cause base rate to fall below that level. So base rate could be 3% but you might still be paying 5 or 6% if there is a minimum of that level set.
- Minimum lending or discount rate - this works in a similar way to the minimum base rate but it is the minimum of the whole rate i.e. base plus the margin, rather than just for the base rate element. The effect can be very similar.
- LIBOR - The London Interbank Offered Rate and is the rate at which banks lend to each other. This rate is being increasingly used within the invoice finance market but it is different from bank base rate, normally slightly higher. Also the rate is set by supply and demand of funds rather than by the Bank of England (who set bank base rate). The other nuance with LIBOR is that the rate can be set over a given period e.g. 1 month or 3 months and each reflects the expected rate at that future point in time. Once again, the LIBOR rate to be used should be stated in your invoice finance agreement.
The important thing is to understand how your discount charges are going to be calculated and then to make an informed decision about whether that is right for your business. If you need help working out how your facility is structured just contact one of our advisers who will be happy to help.
