SOFR Floor
A SOFR floor is the minimum SOFR value that a credit agreement uses to calculate interest on a floating-rate loan, even when the applicable SOFR reference rate falls below that contractual minimum.
SOFR is the reference rate; the floor is contractual
The Federal Reserve Bank of New York describes SOFR as a broad measure of the cost of borrowing cash overnight collateralized by Treasury securities.
A loan agreement can use a Term SOFR or other SOFR-based benchmark and then impose a minimum value for that benchmark. The floor is therefore a feature of the loan contract, not a feature of SOFR itself.
The floor matters most when rates fall
With SOFR well above the floor, the borrower pays the actual benchmark plus margin. As SOFR falls through the floor, the lender stops giving the borrower the full benefit of further benchmark declines.
This gives floating-rate lenders a minimum base-rate component while preserving upside when market rates rise.
Floors can affect incremental-debt pricing tests
Current credit agreements often treat a higher SOFR floor on new incremental debt as part of the comparison of all-in yield between the new loan and existing term debt.
That prevents a borrower from claiming two loans have the same pricing merely because their margins match when the new loan has a more valuable floor.
A zero floor still has meaning
Many loans state a 0.00% floor. That prevents a negative benchmark from reducing the spread below the stated margin under the contractual formula.
Other loans use positive floors such as 0.50%, 1.00% or higher depending on market conditions and credit risk.
A floor changes the sensitivity of interest expense to falling rates
Consider two otherwise identical loans priced at SOFR plus 3.00%. Loan A has a 0.00% floor. Loan B has a 1.00% floor.
If SOFR is 4.00%, both loans cost about 7.00% before other adjustments. If SOFR falls to 0.25%, Loan A falls to about 3.25%, while Loan B remains near 4.00%.
The 1.00% floor therefore becomes increasingly valuable to the lender as market rates decline. For a highly leveraged borrower, that lost benefit from lower benchmark rates can be meaningful because interest expense may remain elevated even during an easing cycle.
A debt model should therefore apply the contractual floor explicitly rather than assuming interest expense always moves one-for-one with SOFR.
Common mistakes
Confusing the floor with the margin The floor applies to the reference-rate component.
Assuming the floor always increases current interest It matters only when the benchmark is below it.
Treating SOFR and Term SOFR as identical calculations Credit documents define the precise benchmark and tenor used.
Example
A $100 million loan has a 0.50% SOFR floor and a 2.75% margin. If applicable SOFR is 0.25%, the contractual rate is approximately 3.25% before other adjustments, not 3.00%. If SOFR is 4.00%, the rate is approximately 6.75%, so the floor is irrelevant.
Example
A $100 million loan has a 0.50% SOFR floor and a 2.75% margin. If applicable SOFR is 0.25%, the contractual rate is approximately 3.25% before other adjustments, not 3.00%. If SOFR is 4.00%, the rate is approximately 6.75%, so the floor is irrelevant.
Professional note
A floor has economic value only when the reference rate is below it. When comparing loans, include the floor in all-in yield analysis rather than focusing only on the quoted credit spread.
Related terms
- Term Loan
A term loan is debt advanced for a specified term and repaid according to the loan agreement through scheduled amortization, mandatory prepayments, a maturity payment or some combination of those mechanisms.
- Leveraged Loan
A leveraged loan is a corporate loan to a borrower whose leverage or credit profile places the financing within a lender’s or market participant’s leveraged-lending criteria, commonly in connection with buyouts, acquisitions, recapitalizations or highly leveraged companies.
- Original Issue Discount (OID)
Original Issue Discount, or OID, in a loan financing is the discount between a loan’s stated principal amount and the amount paid by lenders when the debt is originally issued.
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