Who uses interest rates and who uses factor rates?

Most funding options, including SBA loans, term loans, and other traditional forms of financing use an interest rate or “annual percentage rate” (APR) to represent the total cost of your loan.

What is an interest rate?

An interest rate is the percentage of principal (i.e. total money loaned) charged by your lender to borrow money. It’s applied to your remaining balance each month and compounds (i.e. you are charged interest on your interest) as you pay off your loan.

What is a factor rate?

Like interest rates, factor rates also represent the cost of your funding. However, unlike an interest rate, factor rates are expressed as a decimal number and apply only to the original amount borrowed, meaning that your factor rate is built into your payment schedule and doesn’t compound monthly the way an interest rate does. Most factor rates fall between 1.1 and 1.5. Factor rates are used exclusively for business funding and are most often applied to merchant cash advances and other forms of alternative small business funding.

Are Factor Rates Always Higher Than Interest Rates?

It’s important to note that when you convert a factor rate into an annualized interest rate, it may appear higher than the interest rates offered by banks at first glance. However, your total loan costs may actually not be that much higher if you opt for a funding option that uses a factor rate.

Factor Rate or Interest Rate: What’s Better?

The truth is that one rate isn’t necessarily better than the other. The rate that is better for you ultimately depends on your business and the reason(s) you need funding.

Alfredo Rosing, Author at Smarter Loans

Alfredo Rosing

Alfredo Rosing is the Vice President of Marketing at Greenbox Capital®. With over 25 years of combined experience in marketing and financial services, Alfredo is an expert on innovative financial technologies with a passion for connecting consumers and businesses with socially responsible funding. Prior to joining the Greenbox Capital team, Alfredo launched an award-winning online lender that was recognized as the winner of the 2017 Fintech Awards US Firm of the Year for Lending Innovation Award. Alfredo is a graduate of Southern New Hampshire University with a BS in Marketing.

Articles by Alfredo Rosing

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