LIBOR: Overview, definition, and example
What is LIBOR?
LIBOR (London Interbank Offered Rate) is a benchmark interest rate that was historically used to determine borrowing costs between major global banks and to set rates on a wide range of financial products, including loans, derivatives, and bonds. LIBOR was published in multiple currencies and maturities and was widely used as a reference rate in commercial agreements. As of recent years, LIBOR has been largely phased out and replaced by alternative rates due to concerns over reliability and manipulation.
Why is LIBOR important?
LIBOR was important because it served as a globally recognized benchmark that influenced trillions of dollars in financial contracts. Many commercial loan agreements, interest rate swaps, and structured products relied on LIBOR to determine interest payments. With its phaseout, businesses have had to transition to alternative reference rates like SOFR (Secured Overnight Financing Rate in the U.S.), making it critical to include fallback provisions in contracts to address what happens when LIBOR is no longer available.
Understanding LIBOR through an example
A credit agreement sets the interest rate as “LIBOR + 2.50%.” If LIBOR at the time is 1.75%, the borrower’s interest rate would be 4.25%. After LIBOR’s cessation, if the agreement includes a fallback clause, it may automatically switch to SOFR + a spread adjustment, preserving the economic intent of the original rate structure.
Example of how a LIBOR clause may appear in a contract
Here’s how a LIBOR clause may appear in a loan agreement:
"The Interest Rate applicable to each Loan shall be a rate per annum equal to LIBOR plus the Applicable Margin; provided that, upon the cessation of LIBOR, the Interest Rate shall be determined in accordance with the Alternative Reference Rate provisions set forth herein."
Conclusion
LIBOR was once the most widely used benchmark interest rate in global finance, but due to concerns over accuracy and manipulation, it has been replaced by more transparent alternatives. Contracts that once relied on LIBOR must now address its discontinuation through fallback language or amendments. Understanding how LIBOR worked—and how it's being replaced—is essential for managing interest rate risk in modern agreements.
This article contains general legal information and does not contain legal advice. Cobrief is not a law firm or a substitute for an attorney or law firm. The law is complex and changes often. For legal advice, please ask a lawyer.