Small businesses that have trouble nailing down financing through traditional lenders have long sought federally backed loans to get the cash they need to grow. But bankers and business owners alike say a long and tedious process of applying for government guaranteed financing too often scares them away from the option.
The Small Business Administration is rolling out a number of changes in late April it says are aimed at making it easier for small businesses to access cash through its two largest loan programs.
Michael Ricks, the SBA district director in Louisiana, said the new rules are
intended to cut down on paperwork and give banks and business owners more flexibility in how they structure a loan deal.
Ricks said one key change will widen the type of collateral that banks are allowed to take in order to make sure a borrower repays a loan. Until now, banks have only been allowed to use real estate as collateral on federally backed loans, Ricks said.
“Basically, we want to get out of the business of dictating to lenders how they should shape their business model,” Ricks said.
The changes center on the SBA’s two main loan initiatives: the 7(a) and 504 programs.
The 7(a) program is the agency’s basic business loan program. Small business owners work with a bank to secure financing and the SBA guarantees a certain percentage depending on the type of loan.
A 504 loan, on the other hand, is limited to $5 million and has three partners: the borrower, a bank and another regulated lender known as a Certified Development Company, or CDC.
The borrower typically pitches in 10 percent of the cost of the project. The bank then lends 50 percent of the cost and the CDC lends the rest. Funds for the loan are raised through a monthly auction of federally guaranteed bonds.
Most small businesses use 504 loans to buy real estate or machinery.
Here is a rundown of some of the key changes that take effect April 21.
Business owners can offer more, different types of collateral
As noted earlier, the SBA is opening up the types of collateral banks can take to secure a loan through its 504 loan program.
In the past banks have been limited to taking the real estate they were financing as collateral, similar to a traditional home mortgage. If a small business owner were purchasing a new warehouse, that warehouse was the only collateral allowed on the deal, for example.
Ricks said the purpose was to avoid risky lending, but the result has been tighter terms and higher interest rates for borrowers in some cases.
He said borrowers will be able to pledge other collateral such as equipment or accounts receivable on a 504 loan on April 21. That could lead to better interest rates for some, he said.
Ricks said the decision on how much risk to bear should be up to small business owners and banks.
“We want to give that option to the small business owners,” Ricks said. “We want to treat them like grown-ups.”
Lenders no longer have to scour applicants’ personal investments
The SBA currently requires small business owners to submit information on personal assets they own such as cash, savings accounts and marketable securities.
The goal of the so-called personal resources test is to determine whether a business owner has excess cash he or she could invest in the business or use to attract private financing instead of an SBA loan.
More recently SBA officials have noted that even businesses with well-heeled owners have had trouble finding loans on reasonable terms.
The personal resources test will be eliminated on April 21.
Ricks said very few loans in the New Orleans area have been rejected because of the personal resources rule.
But he said removing the test will take out a big chunk of paperwork that often slowed the process down for eligible borrowers.
He noted banks usually do their homework on a borrower’s personal assets before lending anyway.
“If the lender is comfortable making the loan then we should be,” Ricks said.
Building projects that utilize tax credits may have easier access to funding
Small business owners who tap a 504 loan to build or renovate a facility can only get financing on money spent in the nine-months leading up to when the SBA receives their completed application. Any building costs incurred outside of that window are not included in the loan.
After April 21, that rule goes away, allowing business owners to include any expense in the loan package as long as it’s tied directly to the project.
Rick said the change gives borrowers a longer timeframe to organize and get started on a project.
He noted small business owners often take advantage of Historic Tax Credits and other tax credit programs when building new buildings in the New Orleans area. It can take months, if not years, to get those credits assembled before starting a project, he said.
Ricks said eliminating the nine-month rule could open SBA financing to more of those types of projects.
April 3, 2014