Interest rate sensitivity is back on the priority list after eight years of relatively stable, low interest rates. The U.S. Federal Reserve purposely maintained low short-term interest rates as a means of stimulating the economy after the great recession of 2008. In essence, the Federal Reserve’s action created the “wealth effect” in real estate as well as stock and equity markets. In other words, research has found that every dollar increase in stocks and equity leads to a $0.04 increase in consumption. In regard to real estate, a $1 increase in value results in a $0.09 bump in consumption. Simply, the psychological boost causes people to feel better and able to spend. 

With the economy picking up speed and the new Administration positioning for growth, one must carefully monitor the economy for interest rate increases. The choice of fixed and variable rates is an individual business decision.

The first step in monitoring interest rate sensitivity for your business is to develop a projected cash flow. Include revenue and expenses, family living and, of course, debt service with both principal and interest. For 2017, borrowed monies on variable interest rates should be tested for an increase of 25, 50 and 75 basis points, or 0.25 to 0.75 percent. Determine the impact these changes will bear on margins and on overall cash flows.

Next, divide out term debt, intermediate and long-term, as well as operating money. On long-term debt, determine the options on fixed versus variable rates and the cost of borrowing over the amortization period of the loan. The Federal Reserve is positioning to drive rates back toward the normal prime rate of 6 to 6.5 percent. How would this increase influence the viability of your business? Of course, operating monies are most likely to be offered on variable rates and very few options may exist to fix these rates.

The bottom line is that those involved with the business must be comfortable with the interest rate structure. If the current decision causes stress or worry, then the right decision has become obvious. Be consistent with your principles and goals. However, once the business is not sensitive to interest rate hikes and impacted individuals are comfortable, you may want to forgo the fixed rate option. 

P.S. Your lender will not and cannot make decisions on fixed or variable rates because that would be lender liability. They can offer options, but it will be your choice.