The Small Business Administration (SBA) has recently taken significant steps to address the obstacles faced by community banks in extending credit through the SBA's credit enhancement program. Through revisiting their Standard Operating Procedures (SOP) and incorporating feedback from SBA lenders, the SBA aims to streamline requirements and facilitate small business growth.
The primary objective is to reduce the notional size of new money loans and promote wider adoption of the government's program, fostering small business expansion. Over the past decade, the average loan size of SBA products has steadily increased, nearing the $1 million mark. Consequently, a substantial funding gap for small businesses has emerged.
This trend can be attributed to the economics and profitability of larger deals, as lenders seek to establish more lucrative banking relationships through larger deposits and increased fees. For community banks and credit unions, however, underwriting small-dollar loans has proven challenging due to onerous regulations and a lack of streamlined technology. Consequently, many small businesses have turned to non-bank lenders for their funding needs, which is far from ideal. Non-bank lenders often lack the necessary expertise and comprehensive product offerings to adequately support small businesses. Furthermore, this practice increases risk for financial institutions by fragmenting the client relationship.
We commend the SBA for its efforts to tackle these issues head-on. In turn, we challenge financial institutions to reevaluate their strategies regarding small business lending. By doing so, we can collectively ensure that small-dollar loans remain within federally regulated financial institutions, avoiding reliance on non-bank lenders.
Here are some key takeaways, solutions, and challenges for financial institutions resulting from the recent SBA SOP changes:
Takeaway #1: Consistent Increase in SBA Loans
The notional loan amount for SBA products has continued to rise over the years. Recognizing the need to fund "small-dollar" loans below the $500,000 threshold, the SBA has implemented changes.
The revised SOP now allows financial institutions to employ a creditworthiness scoring system, expediting the underwriting process and accelerating the flow of funds.
Implement a commercial score-based lending policy. While this approach may not be suitable for all commercial loans, there is likely a notional value (sub $500,000, in line with the SOP) where the utilization of scores can be deemed acceptable. Such scores can guide decision-making regarding loan sizing and pricing.
Takeaway #2: SBA Deal Structure(s):
Previously, the language used in SBA lending hindered business owners from structuring buy-outs, leading to many businesses shutting down due to a lack of succession planning.
The new SOP language enables small business owners to accept payments or structure deals that facilitate their continued involvement in the business, ensuring a smoother transition of ownership. SBA structured loans now offer opportunities for financing that benefit all parties involved.
Break down the barriers between conventional and SBA lending within your financial institution. Why do we segregate these business lines? We encourage institutions to rethink how these areas interact. Our Loan Origination Software can establish a unified "front door" for all prospects or borrowers, allowing technology to determine whether a conventional or credit-enhanced product is the best fit for the bank and borrower.
In conclusion, as an industry, we must continue to innovate to prevent non-bank lenders from seizing the low-hanging fruit. By adopting the right strategies, financial institutions can drive loan growth, generate non-interest income, and better serve their communities. After all, no one knows your customers better than you do. Let's make conducting business easier.
If you would like to discuss these points or require any assistance, please don't hesitate to contact us.
Will Fountain - WFountain@LendersCooperative.com