On December 16, 2015, the Federal Reserve announced that it would raise the Federal funds rate by 25 basis points, increasing the rate range to 0.25% to 0.50%. (For the past seven years, the rate range was 0% to 0.25%).
Though the news was mostly expected, the rate increase—slight as it may be—may have an impact on small business owners moving forward. Here’s what the experts advise entrepreneurs should prepare for, and take advantage of, in our new rising interest rate environment.
Focus on building your business credit history
When your business has its own positive business credit history, you minimize risk. Aside from the inherent safeguards that come with keeping personal assets unrelated to your business, having an established business credit history means options: You can choose the lenders, creditors, and vendors with whom you do business and exercise more control over accounts payable and cash flow.
However, similar to your personal credit score and history, establishing a business credit history takes patience, planning, and proactivity on your part. Regardless, tax accountant Michael Eckstein says that business credit history becomes increasingly important in a rising interest rate environment, particularly for business owners who rely on credit lines or have plans to finance expansion.
If you haven’t already, establish a legal business structure (like an LLC), apply for an Employer Identification Number (EIN), and open a business banking account. If you don’t yet have a major credit card in your business’ name (not related to your personal credit), apply for one, even if you don’t intend to use it often. If your business credit isn’t established enough to secure a major business credit card, apply for business credit accounts through vendors you consistently use (like office supply stores or suppliers) and confirm that they report account activity to at least one major business credit bureau (like Dun & Bradstreet, or Experian). Over time, you’ll build a positive business credit history. Should you need financing for your business in the future, you’ll likely have more access to a variety of competitive financing options—even if interest rates continue to rise.
Revisit profitability forecasts for expansion
The interest rate environment for the past seven years made profitability more accessible for many small business owners, thanks to low borrowing costs. However, as interest rates go up, business owners planning future expansion might want to revisit forecasts and growth plans to ensure they remain attractive in a higher rate environment. “Even a 1% difference in interest rate can add up to thousands of dollars, and may drastically change the value of an expansion project,” explains Eckstein. Conversely, if you’ve been on the fence about financing expansion, now may be the time to act (before rates rise further).
Don’t fear an immediate drop in demand
Despite the fact that rising interest rates mean consumers could theoretically pay more for credit card balances and see increases in monthly payments for variable rate auto, student, and home loans, Epstein doesn’t expect that overall consumer spending will be impacted dramatically in most sectors. Still, Joshua D. Duvall, CFP and financial advisor at Cordasco Financial Network does note one caveat: Business owners who supply goods or services to areas of the market that are particularly interest rate-sensitive—such as home construction—should plan for a slight decrease in demand as those sectors adjust to the change.
Review the terms of your lines of credit/loans
Assuming the economy continues to perform in an upward trajectory, slight but consistent interest rate increases will likely become the new normal. Review all of your business loans and lines of credit to ensure you know which have the potential to rise so you can plan your future financial strategy accordingly. “Business owners who use rolling credit or lines of equity that are adjustable should start looking to build cash reserves and limit the use of adjustable rate loans to protect profit,” says Duvall.