Bad calendar coordination can result in double interest for a day. Your banker can help, but sometimes you'll just be stuck
When loans are refinanced, it seems standard practice is to fund the new loan and then pay off the existing loan the next business day. So for one day (longer if God forbid you fund the new loan on a Friday), one is charged interest on the existing loan and the new loan. Is there any way around this day of double interest? Also, why does it take a month to generate refund checks on loan payoffs?
—S.R.R., Pacific Palisades, Calif.
Refinancing a loan is a complicated banking process that can involve dozens of people and multiple departments within a bank. If one loan is being refinanced to pay off another loan, perhaps at a different bank, the transaction becomes even more complex, says Hugh E. Conners, senior vice-president in community business banking at Comerica Bank's Western market unit.
"There can be multiple lenders, title companies, attorneys, and others that the loan officer or underwriter needs to coordinate" in a refinance, Conners says. "Given the number of moving parts involved, there might be a one-day lag in having the refinance funds move from the new loan to paying off the old loan. Some lenders will account for this day of interest lag and some will not."
Just because a business transaction is complicated, however, doesn't mean that you should have to pay extra. Ask your banker to coordinate the loan funding so that the double interest period is avoided. "Standard industry banking practice [does not] call for funding a loan on one day and paying off the refinanced loan on the next day," says Robert C. Seiwert, senior vice-president of the American Bankers Assn.'s Center for Commercial Lending & Business Banking. "If a borrower is dealing with the same bank that made the original loan for the refinanced loan, the day the new loan is funded should be the day that the old loan is paid off."
Two Banks Are Trickier Than One
Sometimes the lag time cannot be avoided, however, particularly if you're getting a loan from one bank to pay off a loan at another bank, Seiwert says. If you're using a check to pay off the original loan, the bank will wait until it receives confirmation that the check has cleared before it will apply the money to pay off your loan balance. You might be able to select a payment method, such as wire transfer, that will give the original bank immediately available funds to pay off the original loan. But unless you and your lender plan carefully, it's easy for the timing to be off, leaving you with a day or more where both loans are outstanding at once.
The same explanation—coordinating multiple moving parts—applies to why it can take several weeks to receive a check reimbursing a borrower for expenses, Conners says. "Usually these checks will come from a central accounts payable area that is outside the control of the people who actually made the loan," he says. "They may batch-process a large number of these checks only once every week or two to increase efficiencies. These accounts payable departments are often located in a different city or state—that can delay processing also." In fact, some lenders are no longer refunding loan expenses at all, so check on the policy ahead of time.
Interest Rates Aren't Everything
When refinancing a business loan, in fact, you should ask plenty of up-front questions so you're sure you understand what the lender expects from you and whether the terms of the loan are right for your company.
Find out what documentation will be required when you submit the loan application and what else might be requested before you sign the loan documents. Do not make a decision based on interest rates alone: Ask about ongoing reporting, financial covenants, and personal guarantees for business loans, Conners suggests. The terms and conditions of business loans are far more complex than consumer lending. "There are also fewer regulatory requirements, so they will be less standard than, say, a home equity line or auto loan," he adds.
Whether you're applying for a business loan, a personal loan, or a loan refinance, lenders will be looking at your FICO scores and reserves of cash or liquid assets that can be verified. "Pay particular attention to ensuring that [your company's] credit is paid timely and cash reserves are built up. Also, be willing to provide full disclosure on any and all information that may be requested by a lender," Conners says. "There's a much higher level of documentation and scrutiny required on even the best of borrowers in today's lending environment."