The results of a survey commissioned by small business lender Lendio suggests the way loan terms are presented affects how many people accept the terms.
A random sample of 1,000 small business representatives were presented with a scenario where they could increase monthly revenue by $5,000 by taking out a $20,000 loan. The loan’s cost was presented in three randomized ways – as an APR, factor rate ($1.XX for every dollar borrowed), and as a total payback amount.
Two thirds of respondents chose the total payback amount as the easiest to understand, while 17.4 selected APR and 15.3 factor rate.
“The fact that small business owners overwhelmingly said ‘total payback amount’ was the easiest metric for them to understand suggests that as an industry we should be cautious about pushing a one-size-fits-all format onto the small business owner,” Lendio CEO and Co-Founder Brock Blake said.
“Depending on the type of loan product and length of term, the presentation of the cost of capital that allows borrowers to best comprehend the true cost associated with their lending option may differ.”
Respondents were also asked if they would take the loan but not told the cost of capital was equivalent in all three circumstances. The validity was tested at APRs pf 12, 36 and 100-plus percent.
“Not surprisingly, the higher the APR, the less likely businesses were to take the loan,” Mr. Blake noted. “But, what was most striking is that at all price points businesses were less likely to take the loan when it was expressed as an APR. While most people are familiar with APR, loan structures differ and when they do, APR may not be the most accurate way to represent the true cost of a loan, particularly for loans with terms shorter than a year.”
With small businesses accounting for such a large part of the economy, lenders have a responsibility to present the true cost of loans in as simple of a way as possible, Mr. Blake said.
“With small businesses accounting for 64 percent of new jobs and more than half of our gross domestic product, we should be working to help them fully understand the true cost of their capital options so that they can make informed decisions that will aid in their growth and stability.”