How do you calculate a breakeven interest rate on a loan?

Take the cash the business has available to pay its lenders over a year, subtract the principal it must repay in that year, and divide what is left by the debt that carries interest. The result is the all-in rate at which debt service cover would be exactly 1.0 times. Subtract the loan margin to find the equivalent benchmark rate. If part of the debt is hedged, deduct the fixed interest on that part first and divide the remainder by the floating debt alone.

What happens when a business's DSCR falls below 1.0?

The business is not generating enough cash in the period to pay its interest and scheduled repayments, so it meets the gap from cash reserves, an undrawn facility or new money from its owners, or it falls behind. A single quarter below 1.0 can be a timing effect. A sustained shortfall usually leads to a conversation about repayment holidays, equity, asset sales or a restructure. Where the facility has a cover covenant set above 1.0, the breach arrives before the cash runs out.

Does an interest rate swap change the breakeven rate?

Yes, while it lasts. Debt fixed under a swap does not reprice, so a rise in floating rates falls only on the unhedged part, and the breakeven on that part is higher. An interest rate cap protects in a similar way, but only above its strike rate. The protection ends when the hedge does, so a lender reads two breakevens: one for the hedged years and one for the years after, when the whole loan floats at whatever rates and earnings are then.

Do banks stress test business loans for rising interest rates?

Banks commonly do, though the method sits in each bank's credit policy. In Australia, APRA's credit risk standard requires a bank assessing a business borrower to consider, where relevant, its capacity to repay under scenarios such as an increase in interest rates; the 3-point minimum buffer in the same standard is for home loans. New Zealand and UK banks generally set their own stress levels for business lending. A breakeven rate is one way to present the result, read beside cover at a chosen stressed rate and the cover that remains if earnings fall at the same time.

// WORKED EXAMPLETHE ARITHMETIC A DECISION RESTS ON

Breakeven Interest Rate: a Worked Example

Fix the cover at one, then solve for the rate.

BY MICHAEL SHANG · SIXTEEN YEARS IN COMMERCIAL BANKING · UPDATED 2026-11-07 · 7 MIN READ

// THE SHORT ANSWER

A credit paper that says a business can absorb higher rates should say how much higher. The breakeven interest rate answers that: it is the all-in rate at which the cash a business has for its lenders would pay the interest and the scheduled repayments and leave nothing over. The lender sets it beside today's rate and the market's forward rates, and the gap is the distance a rate rise must travel before the business has to pay its lenders from reserves, an undrawn line or its owners' money. A hedge moves the breakeven, and so does a fall in cash.

BASIS Practitioner judgment from sixteen years in commercial banking, set out in How Bankers Think (Highbank Press, 2026). Every borrower on this site is a composite constructed for teaching, not a client. The market is mid-market commercial lending as practised in New Zealand and Australia; where a convention differs elsewhere, the page says so.

// WORK THE SUM

Every Groundwork file that is a number to work out — cash conversion, debt service cover, expected loss, risk-weighted assets, the margin on a bank's own book — with the working shown in the senior read. One minute each, no signup.

Open The Number →

PART OF Credit Analysis for Beginners

// 01 — WHY A LENDER TURNS A RATE INTO A DISTANCE

A cover ratio at today's rate says how many times this year's cash pays this year's debt service. For a borrower on a floating rate, that is half the question. The other half is what happens if the benchmark rises by two or three points before the loan is repaid. A lender can run a table of rate shocks and read a cover figure off each line. The breakeven turns the table round: instead of choosing a rate and reading the cover, it fixes cover at 1.0 times and solves for the rate.

The result is one number a credit committee can hold against the market. A business that breaks even at 11% and pays 7% today needs rates to rise four points before its cash runs short. In Australia, APRA's credit risk standard requires a bank's assessment of a business borrower to consider, where relevant, its repayment capacity under scenarios such as a rise in interest rates; the minimum serviceability buffer in the same standard applies to home lending, not to business loans. In New Zealand and the UK the depth of a business-lending rate stress is generally left to each bank's credit policy. Whoever sets the test, the breakeven is a plain way to report it.

// 02 — HOW THE RATE IS CALCULATED

Interest capacity = cash available for debt service − scheduled principal

Breakeven all-in rate = interest capacity ÷ debt bearing interest

Breakeven base rate = breakeven all-in rate − margin

Distance = breakeven rate − current (or forward) rate

Four choices move the answer. The cash figure is usually the same cash available for debt service the credit paper or the cover covenant uses, so that the breakeven and the cover agree. The debt can be the opening balance, which is simplest, or the average over the year, which for an amortising loan gives a slightly higher rate. The margin has to come off if the breakeven is to be compared with benchmark rates the market quotes. And debt that is fixed by a swap does not reprice, so the rise falls only on the floating part.

Tax pulls the other way, slightly. Interest is deductible, so a business paying more interest pays less tax and keeps a little more cash. A simple calculation ignores that, which makes its breakeven a little lower than the true one, an error on the lender's side of the line.

// 03 — THE EXAMPLE

A commercial plant nursery growing for landscapers and garden centres, constructed for this page like every figure in it, has a term loan of US$24m repaid at US$1.2m a year. Its cash available for debt service for the latest year is US$3.9m. It pays a floating benchmark of 4.6% plus a margin of 2.2%, an all-in rate of 6.8%. These levels belong to the example and are not offered as a market norm.

Today, unhedged

Interest 24 × 6.8% = 1.632

Debt service 1.632 + 1.2 = 2.832

Cover 3.9 ÷ 2.832 = 1.38×

Breakeven, unhedged

Interest capacity 3.9 − 1.2 = 2.7

All-in rate 2.7 ÷ 24 = 11.25%

Base rate 11.25% − 2.2% = 9.05%

Distance 11.25% − 6.8% = 4.45 points

On average debt 2.7 ÷ 23.4 = 11.54%

Unhedged, the benchmark could roughly double before the nursery's cash ran out. Now add the hedge its bank asked for at drawdown: 60% of the loan, US$14.4m, swapped to a fixed benchmark of 4.2%, so that part costs 6.4% all-in whatever floating rates do.

Hedged interest 14.4 × 6.4% = 0.922

Capacity left 2.7 − 0.922 = 1.778

Breakeven, floating 1.778 ÷ 9.6 = 18.52% all-in

Cash falls 15%, to 3.315

Capacity left 3.315 − 1.2 − 0.922 = 1.193

Breakeven, floating 1.193 ÷ 9.6 = 12.43% all-in

The swap pushes the breakeven on the floating US$9.6m above 18%, a distance that looks remote. Two things bring it back. A 15% fall in cash takes it to 12.43%, because a rate stress and an earnings stress compound. And the swap has its own end date: once it expires, the whole loan floats and the breakeven returns towards the unhedged 11.25%, lower still if cash has fallen by then. A lender reads one breakeven for the years the hedge covers and another for the years after.

// 04 — THE TWO DISTANCES A LENDER READS TOGETHER

The breakeven rate measures distance along one axis and holds cash still. Its partner holds the rate still and asks how far cash can fall before cover reaches 1.0 times. On the nursery's hedged position today, debt service is US$2.775m (0.922 fixed, 0.653 floating, 1.2 principal) against cash of US$3.9m, so cash can fall by about 29%. A business can be a long way from its breakeven rate and close to its breakeven cash, and the scenario that hurts most is often a rate rise that arrives with weaker trading.

The comparison rate matters as much as the breakeven. Today's rate is the wrong yardstick for a loan that reprices for five more years. The forward rates the market prices for each year of the loan, and the rate expected when the hedge expires, are the honest comparison, because a 4.45-point distance from today can be a much shorter distance from the forward curve.

DEFINED IN ONE PARAGRAPH → · DSCR AND HOW BANKS USE IT → · THE HEDGE RATIO →

// 05 — WHERE IT DECIDES A FILE

The breakeven rate shapes three parts of a file. It informs how much of the loan the bank asks the borrower to hedge: a business with a short distance gains more from fixing part of its rate than one with a wide distance. It bears on the term of that hedge, because a swap that ends two years before the loan leaves the final years uncovered. And it feeds the size of the loan, since a lender that wants a given distance at a stressed level of cash can work back to the debt that allows it.

For the borrower it is a planning number. A finance director who knows the business breaks even at 11.25% on today's cash can decide how much rate risk to keep, and can read a bank's request for a hedge as an argument about distance rather than a product being sold.

FIXED VS FLOATING RATE → · THE ALL-IN RATE →

// SOURCES

The documents the statements on this page rest on. Each was opened and checked when cited.

Australian Prudential Regulation Authority, Prudential Standard APS 220 Credit Risk Management (September 2022, in force from 1 January 2023) — paragraphs 45(c) and 46, and Attachment C paragraph 4 — Requires an authorised deposit-taking institution's credit assessment to consider, where relevant, repayment capacity under scenarios such as an increase in interest rates or a move from fixed to floating, applies that to exposures other than to individuals, and confines the minimum 3-point serviceability buffer to residential mortgage lending — section 01.

// QUESTIONS PEOPLE ASK

How do you calculate a breakeven interest rate on a loan?: Take the cash the business has available to pay its lenders over a year, subtract the principal it must repay in that year, and divide what is left by the debt that carries interest. The result is the all-in rate at which debt service cover would be exactly 1.0 times. Subtract the loan margin to find the equivalent benchmark rate. If part of the debt is hedged, deduct the fixed interest on that part first and divide the remainder by the floating debt alone.
What happens when a business's DSCR falls below 1.0?: The business is not generating enough cash in the period to pay its interest and scheduled repayments, so it meets the gap from cash reserves, an undrawn facility or new money from its owners, or it falls behind. A single quarter below 1.0 can be a timing effect. A sustained shortfall usually leads to a conversation about repayment holidays, equity, asset sales or a restructure. Where the facility has a cover covenant set above 1.0, the breach arrives before the cash runs out.
Does an interest rate swap change the breakeven rate?: Yes, while it lasts. Debt fixed under a swap does not reprice, so a rise in floating rates falls only on the unhedged part, and the breakeven on that part is higher. An interest rate cap protects in a similar way, but only above its strike rate. The protection ends when the hedge does, so a lender reads two breakevens: one for the hedged years and one for the years after, when the whole loan floats at whatever rates and earnings are then.
Do banks stress test business loans for rising interest rates?: Banks commonly do, though the method sits in each bank's credit policy. In Australia, APRA's credit risk standard requires a bank assessing a business borrower to consider, where relevant, its capacity to repay under scenarios such as an increase in interest rates; the 3-point minimum buffer in the same standard is for home loans. New Zealand and UK banks generally set their own stress levels for business lending. A breakeven rate is one way to present the result, read beside cover at a chosen stressed rate and the cover that remains if earnings fall at the same time.

// NEXT TO IT

// ON WHOSE DESK

The seats that read this term in an ordinary week. Each page says what the seat is for, who arrives in it, and the shape of the round it runs.

Credit analystReads a borrower and writes the recommendation a decision-maker will act on.
Credit sanctionerHolds delegated authority and signs — or declines — the lending the front line brings.
Portfolio managerOwns the credit on a book after the money is out — reviews, covenants, ratings and early warning.

THE IN-TRAY · ONE MINUTE

Make the call on one file.

A short file on the ground this page covers. Every option opens with how far it sits from a senior banker’s read.

THE NUMBER · THE LOAN · CAPACITY

A US$2m machine is expected to save US$400k of cash a year. The borrower asks for a three-year loan to buy it.

How long does the machine take to pay for itself?

5 MORE ON THE LOAN · CAPACITY →WHERE DO YOU READ FROM? THE PLACEMENT →

THE READING ROOMIN ONE PARAGRAPHBreakeven interest rate What is a breakeven interest rate on a business loan?