SBA Loan Programs Critical for Small Businesses, Still Many Lenders Are Not Ready

Dec. 14, 2010 - PRLog -- Small Business Administration (SBA) loan programs have become a critical source of funding for small and medium sized enterprises, which had difficulty in accessing to capital during the recession.  Many small, community-based financial institutions, however, are not prepared to respond back to the needs of small businesses by boosting their SBA lending operations, in spite of many benefits that SBA loan programs have for the lenders.

Many commercial lenders have tightened their underwriting criteria for their traditional commercial lending products as the economy slowed down, which, coupled with weak loan demand for capital spending, led to a substantial decrease in the commercial loan processing volume. But for the lenders actively participating in the SBA loan programs, their lending volume has been steady, or in some cases, somewhat grown especially because of the temporary 90% SBA guaranty on 7(a) loans and SBA guaranty fee waiver. Some national banks are reportedly expanding their SBA lending department, preparing for the growth in the coming years.

SBA loan programs can be ideal for small, community-based financial institutions primarily because of the SBA guaranty feature that can effectively mitigate potential credit risk of loans made to small businesses.  Under the Jobs Act of 2010, the recovery loan program currently offers 90% SBA guaranty on SBA 7(a) term loans (expires on 12/31/2010) and 50% on Express loans.  Moreover, a typical SBA 504 loan carries a Loan to Value ratio of 50% or less against the value of long lived assets offered as collateral for the lender funding the first mortgage and/or lien position. The Certified Development Company (CDC) funding the junior mortgage and/or lien position through a debenture, typically 30-40% of total value of assets being financed, is fully guaranteed by SBA.

The general profile of small businesses receiving SBA loan assistance is considered as more vulnerable to risk than that of other businesses qualified for obtaining traditional C&I loan funding.  The substantial coverage of risk exposure by the SBA guaranty, however, makes community-based lenders feel more comfortable to make SBA loans to borrowers having difficulty in finding credit elsewhere.  This fits to the mission of the community-based financial institutions to serve local business communities for their banking needs.

As the SBA loan programs were designed to assist small businesses in gaining access to capital with limited burden of carrying debt, they offer flexible loan terms as well. SBA 7(a) loans may have 10-year loan term for such purposes as financing accounts receivable, inventory purchase, leasehold improvement, and business acquisition or restructure, without prepayment penalty.  SBA 7(a) loans of which proceeds are used to acquire business-purpose real estate (must be over 50% owner-occupied) or fixed assets can generally go up to 25 years with prepayment penalties for the first three years. SBA 504 loans used to finance business-purpose real estate (existing real estate must be over 50% owner-occupied) and new construction (must be over 60% owner-occupied at inception) can go up to 20 years with prepayment penalties during the first half of the loan term.

These 10-year, 20-year, or 25-year term loans for business purposes are seldom offered to small businesses through traditional commercial lending programs. For small business owners, a longer loan term means lower monthly payments and better monthly cash flows over the period. Through SBA loan programs, lenders may serve the capital needs of underserved small businesses with flexible terms, in some cases without the requirement of hard collateral, which would improve the bottom line of the borrowers.

This is a great selling point for the community-based lenders as the SBA loan programs are used as a business development tool for the small business lending market, still an untapped niche but an indispensable economic force for the sustainable growth of U.S. economy.   At the same time, offering SBA loans to local small businesses will help community banks and credit unions improve their Community Reinvestment Act (CRA) ratings as well.

Another great incentive of SBA loan programs for small community banks is that they can fund loans larger than their regulatory lending limit, as the SBA guaranteed portion is excluded from the calculation of total risk exposure of loans. For example, a small FDIC insured community bank with a legal lending limit of five hundred thousand dollars can make an SBA 7(a) term loan of maximum two million dollars to eligible small businesses, with the guaranty of 75% of total loan exposure. In other words, community banks can technically make four times larger SBA 7(a) loans, with the 75% loan guaranty, than their legal lending limit, up to five million dollars which is the size limit of SBA 7(a) loans.

Perhaps the most lucrative aspect of SBA 7(a) loan program is that lenders can sell the guaranteed portion of SBA 7(a) loans to a very active secondary market. By selling the SBA guaranteed portion, lenders can not only immediately recapture the funds utilized to make loans (equal to the guaranteed portion of loans sold less fees paid), but also make substantial premium income right away, plus annual loan servicing fee of 100 basis points over the life of loans.    

Although SBA loan programs bring many benefits to the lenders as mentioned above, many small, locally-based financial institutions are not active in offering SBA loan products. In fact, while most of them are aware of such benefits, they are somewhat hesitant in expanding their SBA lending operations primarily because of the cost of getting the right human resources and infrastructure in place to serve the clients in a timely and effective manner.      

To start an SBA lending operation, a financial institution needs at least an experienced SBA lending officer, SBA underwriter, and closer. The cost of hiring and retaining experienced SBA lending officers, underwriters, and closers would be considered high for community-based financial institutions, but they can be valuable assets to the lenders in view of the potential contributions they can make over time.

Lenders can use their existing branch network and marketing channels to generate SBA lending leads, or they can utilize reputable referral sources. Some of the lending or credit functions can even be outsourced to improve efficiency in the overall credit process, such as prescreening and underwriting loan requests, legal documentation, regulatory loan reporting, training, and so on.  Or such tasks can be shared with traditional commercial lending and/or credit departments.

What is critically needed for a community-based financial institution to launch an SBA lending department is an experienced lending officer who has expertise in processing SBA loan requests, with the ability to develop and manage client relationships effectively. In addition to the required credit and relationship management skills, the lending officer must be able to determine whether a loan request is eligible for SBA loan funding or not. That is, the officer must be well versed with SBA Lending Standard Operating Procedures (SOP’s).

The consultants at Bizulo Inc. offer SBA loan prescreening, underwriting, and decision support services for community-based financial institutions, should there be needs for outsourcing such functions. As experts in commercial and SBA lending, and credit risk management, they possess the knowledge and expertise needed to help community-based lenders build a successful SBA lending team, underwrite loan requests in a timely and effective manner, and manage credit risk. Lenders interested in such services may visit http://www.bizulo.com or contact Bizulo Inc. at consulting@bizulo.com for more information.

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Bizulo.com is a NYC based consulting firm serving small business owners and real estate investors obtain the right funding for their business. We also offer commercial loan underwriting and credit risk management service for local community banks.