LIBOR: changes to interest rates

Important technical changes to interest rates likely to impact real businesses – action required!

We’ve all heard of LIBOR, and you may even have heard it is changing. The issue is this could seriously impact real businesses in our local community and therefore needs some action now.

We’ve all heard of LIBOR, and you may even have heard it is changing. The issue is this could seriously impact real businesses in our local community and therefore needs some action now.

The change relates to how interest rates on loans for businesses are likely to be calculated. While the change does not finally come into play until 2021 – and that might seem a long way off – time flies in reality and some issues will require care to resolve so an early review is advised.

LIBOR is the London inter bank offered rate and originally it was the interest rate at which banks were meant to lend money to each other.

However over the years LIBOR became a reference rate used to set the interest rate on many day-to-day financial transactions. For instance, corporate loan facilities which have their interest rate calculated as a margin over the prevailing LIBOR rate.

In the financial crisis it became apparent that LIBOR was not always a true rate and that it was being manipulated to the advantage of market participants.

So LIBOR is being abolished at the end of 2021 – but unhelpfully, it is not yet clear what will replace it.

Many of our customers will have medium term facilities which span the abolishment of LIBOR – so what do you do if you have a LIBOR related loan that is envisaged to last beyond 2021?

In some loan documents there are default clauses that set out what happens if a LIBOR rate is not available. However, often the default clause is that the loan will be priced at a margin over the cost to the bank of providing that particular loan (and not a basket of loans) so if this were invoked, the default position might be quite painful to the borrower.

To explain in theory LIBOR looks at the total costs of loans in the market – across very large to very small borrowers and good to bad credit – so it is an average rate.

LIBOR interest rates changes

If you happen to be a borrower active in a market that the bank perceives as higher risk, or if you are borrowing at a higher level (e.g. loan to value) – or if you’ve had a “credit accident” along the way – the cost to the bank of funding that particular loan is likely to be much higher than their average cost of funding loans – so your interest rate will go up. Further, what power will you have to challenge any interest rate determined by your bank (i.e. if they tell you “well in these circumstances, for this loan, we’ve calculated our cost of capital as being…”). How in reality can you challenge this?

What to consider:

  1. Have you got any LIBOR linked loans that run beyond 2021
  2. If so, talk to the bank – how does the bank propose to price the loan if LIBOR is not available?
  3. Review with us your options – if the pricing is likely to be problematic, or if the bank doesn’t know, or if the loan agreement is silent on the way ahead

Why does this affect me?

Did you know that the UK’s largest independent provider of SME invoice finance (factoring and discounting) typically prices its facilities at a margin over LIBOR? This change will impact many owner managed businesses, so we’d recommend you check your borrowing agreements sooner rather than later.

For more information

If you have any questions, please contact :
Robert Coyle, or call us on:

01483 416232