Higher default rate for SMEs equals higher interest rate

Shane Pepper has put his house up as security for his business loan, but is frustrated that his bank charges him a much higher interest rate than for a home mortgage.

Mr Pepper, the owner of Plum, which makes babywear and sleepwear for children, says he pays about 8.5 per cent for his residentially secured business loan, much higher than home mortgage rates, which can be as low as 5.5 per cent, even though the bank has the same security.

"I think a loan's a loan whether you want to put it towards building a shack at the back of your house or you want to put it towards your business," says the owner of the third-generation family business.

But NAB's Daryl Johnson says SME loans are riskier than residential loans.

Mr Pepper's experience is not uncommon. Small businesses are paying on average about 80 basis points more for their residentially secured loans than home loan customers, according to figures from Canstar, a research house that compares interest rates offered by banks and other providers.

Canstar Research manager Mitch Watson says that at the beginning of 2008, small businesses and home mortgage customers were paying roughly the same rates.

Since then banks began withholding more of the Reserve Bank cash rate cuts on all types of loans, arguing that they had to pay more for the money they lent customers. But small business received even less of the rate reductions. However, all the major banks passed on all of last month's 0.25-percentage-point rate cut to business customers.

Mr Watson notes that the rates he is quoting are benchmark rates, and individual businesses may pay more or less depending on their risk profiles. But overall they are paying more than home-loan customers.

Mr Johnson, who is executive general manager of nabbusiness, says the difference in price is because business loans are more risky than home loans.

"Business loans have a higher default rate than mortgages, so banks need to consider the greater risk when pricing business loans," he says. Mr Johnson notes that the banking regulator, the Australian Prudential Regulation Authority, requires banks to hold more capital against business loans than against mortgages, increasing their cost.

ANZ, Bendigo Bank, Commonwealth Bank and Westpac declined to comment for this story.

Tim Buckett, executive general manager of customer development at Suncorp, says business borrowers pay more than mortgage holders, even when they're offering the same security as home owners, because of the higher risk of default.

"Small businesses go into arrears and miss payments on loans more often than the average mortgage holder of residential property."