The basic formula
Divide your total yearly interest and fees by the total debt you hold. That gives a simple annual cost of debt.
Formula: cost of debt = yearly interest and fees / total debt. In an illustrative example, you owe $100,000 and pay $12,000 in interest and fees per year. Your cost of debt is 12 percent. With several loans, add each loan's yearly cost and divide by the combined balance for a blended rate.
Include fees, not just the rate
Origination, draw and maintenance fees raise the real cost. Measure against the cash you actually receive.
If a $50,000 loan carries a $2,000 origination fee taken from the proceeds, you receive $48,000 but repay on $50,000. That fee pushes the true cost above the stated rate. Our guides on APR and total cost of an offer show how to include them.
Converting a factor rate
A factor rate is a one-time multiplier. Subtract 1, apply it to the amount, then annualize based on how long you take to repay.
In an illustrative example, $40,000 at a 1.2 factor costs $8,000. If you repay it over 6 months, the cost is 20 percent of the amount for half a year. Because you pay down principal along the way, the effective annual rate is well above 40 percent. Compare using total dollars and payback period too. See what a 1.3 factor rate costs.
After-tax cost of debt
Business loan interest is often tax deductible, which lowers the after-tax cost. Multiply the rate by one minus your tax rate.
Formula: after-tax cost = rate x (1 - tax rate). In an illustrative example, a 12 percent rate with a 25 percent tax rate gives 9 percent. Your actual rate depends on your situation, and deductibility rules have limits, so confirm with your accountant. Read are business loans tax deductible.
Compare cost to what the money earns
Debt is worth taking when the return on the money exceeds its cost. Compare the two in dollars over the same period.
| Item | Amount |
|---|---|
| Funding received | $30,000 |
| Total repayment | $34,500 |
| Cost of funding | $4,500 |
| Profit the purchase adds | $11,000 |
| Net gain | $6,500 |
Use the loan ROI guide for your own numbers.
Mistakes that distort the number
Common errors include ignoring fees, using the wrong denominator and comparing a short-term product to a long-term one by rate alone.
Always use the cash you receive as the base, not the face amount. Include every fee. Convert short-term costs to a comparable period. And remember that a high-cost product used briefly can total fewer dollars than a low-rate loan held for years. Compare both the percentage and the dollars, then ask which one fits the time your money will be working.
Keep a debt schedule
One schedule listing every debt gives you control and makes calculations easy.
List the lender, balance, payment, frequency, rate or factor, fees and end date for each obligation. Add a column for monthly-equivalent payment and total remaining cost. Update it monthly. When a new offer arrives, you can see right away how it changes your overall load and whether the extra payment fits your cash flow.
Putting it to use
Calculate cost of debt for each offer, each existing loan and any refinance option, then act on the highest-cost items first.
List every loan with balance, payment and total remaining cost. If one carries a much higher cost than the rest, see whether refinancing makes sense; read when to refinance a business loan. For new funding, ROI Funder shows true cost, payback period and monthly-equivalent payments before you sign. It considers 500+ FICO, 6+ months in business and $20,000+ monthly revenue. Apply with a soft credit pull.
Frequently asked questions
What is a good cost of debt for a small business?
It depends on the product and your credit. The better test is whether the money earns more than it costs.
How do I calculate cost of debt with multiple loans?
Add each loan's yearly interest and fees, then divide by the total of all balances.
Is interest on business debt deductible?
Often, but limits apply. Confirm with your accountant.
Why is a factor rate hard to compare?
It is a fixed multiplier, not an annual rate, so you must convert it using the repayment period.