Is It All About The Base Rate?

When it comes to purchasing a practice, my advice is simple – cover every aspect, do your research and don’t underestimate the effects of the economical climate. With changes widely predicted in interest rates, do you know how this could affect your loan, acquisition and financial future?

 As it stands, the UK Base Rate remains at 0.5%, with the US just behind at 0.25%. With these interest rates linked intrinsically to the overall state of the economy, it is no surprise that this rate has remained the same since 2009. It is, in fact, the lowest on record, following an all time high only 20 years previous on 6th October 1989, when it stood at 14.8750%.[i]

 Now that the country is beginning to experience an upturn, it is likely that the Base Rate will increase – possibly as early as the end of the year.

 In regards to what current rates from the US tell us – which the UK historically tends to mirror – recent announcements suggest that the change is not, however, imminent. Indeed the US Federal Reserve System (FED) believes that for now, its Federal Funds Rate remains appropriate.[ii]

 When the changes do occur, it is likely that the rise in interest rates will be relatively small with the increases made over a period of time. As changes to the UK Base Rate are discussed and decided by the Monetary Policy Committee once a month, it is thought that they will increment them in 0.25% intervals, possibly starting with an initial increase to 0.75%. In the end, the normalised Base Rate could be somewhere around 4%.

 While it is impossible to predict exactly when the Base Rate will rise or what the time intervals between the increases will be, we know this has to be balanced against inflation and economical growth. Although the changes may mean good news for savings rates, both mortgages and loan repayments are set to become more expensive.

 Say for instance you took out a £500,000 ten-year loan to acquire a practice; over the term of the loan this would cost an additional £21,100 if the Base Rate rose just 0.5%. This would mean an additional interest charge of circa £2,413 in the first year alone. Even if you are an incorporated business – which most acquisitions now tend to be – this could be a considerable dent in your take home profit!

 Ultimately, as Base Rates increase, it will be single-practitioner practice owners and prospective buyers that will be hit the hardest. If you were to buy a practice worth £600,000 and you take on a £500,000 loan, by the time you’ve paid back what you borrowed, considered the opportunity costs that you have invested yourself and taken on the extra hassle of running a practice, you could be earning less than when you were an associate. Additionally, if the Base Rate suddenly rose to 3% and above, owning a practice could put you in a position where you are considerably worse off.

 To ensure that a prospective buyer could cope with potential changes to the Base Rate, most banks will do what they call a ‘stress test for loan’ when lending money. Calculated on a basis that the Bank of England Base Rate loans are 4%, a theoretical level, the bank decides whether or not you could repay the loan if you were earning a basic income of £60,000.

 When Base Rates do start to increase, it is likely that banks will re-evaluate loans and stress test on a slightly higher figure, which could make lending tighter. While the current loan rate is anywhere from 1.98% to 4% plus the 0.5% Base Rate, loan offers will change if the Base Rate increases. Alternatively, banks may choose to loan against the London Interbank Offered Rate (LIBOR), which is the rate at which banks loan money to each other and is higher than the Base Rate.

 Although these changes won’t necessarily bring the prices of practices on the market down, long-term considerations may impact on any offers made.

 All in all, this can be a lot of information to take on in an already stressful process. Offering expert advice and a dedicated customer service, Dental Elite can help you with your acquisition from the loan and liaising with the banks right through to getting you the best deal on the market. Be in the know – contact Dental Elite today.

[i] Statistical Interactive Database – official Bank Rate history. Bank of England. Accessed online October 2015 www.bankofengland.co.uk/boeapps/iadb/Repo.asp

[ii] Press Release. Board of Governors of the Federal Reserve System. Accessed online October 2015 www.federalreserve.gov/newsevents/press/monetary/20150917a.htm

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