Can a Loan Actually Pay You Back?

Ankur Patel, Vice President—Commercial Banking
Roger Schnorr, Senior Vice President—Commercial Banking

Roger Schnorr

Roger Schnorr

Did you know there is a commercial loan structure that may provide borrowers with an opportunity to do more than pay interest to their lender? It can actually help contain a company’s long-term borrowing expense, improve the predictability of cash flow and, potentially, produce a benefit upon repayment—especially in today’s interest rate environment.

The downside is mainly one of terminology. We’re about to drop the word “swap” into this posting.

Yes, Swaps May Be Good for Your Bottom Line
While the word “swap” can cause concern and flashbacks to 2008, the product can be beneficial when used prudently.

An interest rate swap is a hedge against the unpredictability of future interest rate moves. With rates likely to change directions and rise in the near future, incorporating a swap into a loan structure can be advantageous. Here’s why.

Ankur Patel

Ankur Patel

As a commercial borrower, the ideal time to borrow is when rates are low and the best way to borrow is to lock into a long-term, fixed-rate loan. The problem is that as beneficial as this is to a borrower, it is admittedly not such a great deal for the lender. It shifts the interest rate risk entirely to the bank. This is why, traditionally, when rates are low and expected to rise, fixed-rate loans tend to be offered with shorter maturities or the lender’s adjustable-rate products often end up priced more competitively.

However, a more efficient transaction can be created for both sides using an interest rate swap. The bank is happy to lend long term to its commercial borrowers on a floating-rate basis and then—in a separate swap contract—convert that floating-rate loan to a fixed rate. This enables the bank to isolate the interest rate risk of the longer-term loan and manage that risk on its own balance sheet, as it does in its normal course of operations.

As the borrower, this enables you to lock into a lower rate for a longer time period. That makes budgeting and planning much easier. If interest rates do the unexpected and fall, it will not change anything if the loan remains in place until it matures. Once repayment is made as agreed, and on maturity, the swap contract will expire and be worthless.

However, if interest rates rise more than expected during the term of the interest rate swap, the value of the swap could become an asset to the borrower.

A Large-Corporation Strategy for any Community Bank Client

Because Old Second is a community bank, your access to an interest rate swap is as straightforward as your access to any of our commercial loans. This is because all of our commercial clients are served through the same department.

The general qualifications for this type of borrowing also make it easily accessible to many of our commercial borrowers. However, the swap structure is only available for loan amounts greater than $1 million and where a borrowing entity’s net worth is in excess of $1 million (or individual owners have at least $5,000,000 in assets invested on a discretionary basis).

Because swaps can benefit corporate balance sheets, and facilitate cash flow, they represent a valuable alternative for established companies, especially those looking to fund growth.

For more information about whether or not an interest rate swap might be a good option for your company given today’s interest rate environment, give us call.

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