Small business lending is a huge topic, with many moving parts. Lenders must know this information in order to make calculated decisions when underwriting loans to small businesses.
In this article, we’ll look at:
- What a small business loan is
- Who qualifies for one
- Small business lenders
- How it all works
Banks and credit unions can’t afford to ignore the small business lending market. In fact, it’s one of the fastest-growing markets for these financial institutions.
Small businesses represent a huge portion of the U.S. economy, accounting for more than 60% of all jobs in the country, according to data from the Small Business Administration (SBA). That’s why it’s important for banks and credit unions to understand how they can best serve this growing segment of their customer base.
What is a small business loan?
In the simplest terms, a small business loan is a loan made to a small business. Small businesses are typically defined as those with less than $5 million in annual revenue, and they often have higher credit risk than larger companies due to the difficulty of predicting their future success. Small businesses will often use these loans for working capital purposes or expansion, but they can also be used for other things like buying equipment or paying off debts owed to suppliers.
Small business lending is one of the most lucrative and reliable types of lending. Small businesses are more likely to repay loans than large companies, and they are much easier to track than individuals. However, banks and credit unions must be aware of certain trends and patterns that they need to keep in mind when offering small business loans.
Small business loans are typically smaller than regular business loans because the lender does not expect them to generate as much interest income over time—and thus they have lower interest rates too (as low as 3% APR). They usually carry shorter terms (3–5 years) and do not require collateral backing if you have enough personal assets that could serve as collateral (such as equity in your home).
Who qualifies for a small business loan?
Small business lending can be a bit complicated. There are many different types of loans available, but they all have different requirements and restrictions. For banks, it’s important to understand the ins and outs of small business lending so they can best serve their customers.
A Business loan applicant must be at least 18 years old, with an established business that has been operating for at least one year (two years if it is a new business). The applicant must have personal assets that equal or exceed the amount of the loan requested, which typically ranges from $35,000 to $300,000. Smaller loans are usually unsecured; larger ones may require collateral, such as real estate or equipment.
Small businesses come in all shapes and sizes, but there are some common characteristics that most share. First, they have fewer than 500 employees or annual revenues under $25 million (depending on the lender). Second, they operate independently and have some form of legal structure (corporation, LLC or partnership). Lastly, they must be able to repay their debt.
This last point is the most important, since it’s what separates a loan from a grant. Lenders want to ensure their money will be repaid, so they often include covenants that state how the business must grow over time. As an example, a typical SBA 7(a) loan has an annual report due every year for five years after the loan closes. The report must show that the business is making money and growing. If it’s not, the lender may call in their loan.
Who is lending to small businesses?
Banks and credit unions are the backbone of small business lending in America. In fact, according to the Small Business Administration (SBA), banks and credit unions provide more than half of all small business loans in the country.
Banks and credit unions have been offering small business loans for decades, but the market has changed dramatically since then. Nowadays, there are many more options available to small businesses looking to get funding. While some borrowers may still choose a traditional bank or credit union over a peer-to-peer lender or alternative lender, most borrowers will take advantage of all options before deciding which one is best for them.
This means banks and credit unions must remain competitive when it comes to providing loans at competitive rates. They must also offer customer service that goes above and beyond what other lenders offer, in order to stand out from the crowd.
How does small business lending work?
Small business lending is an essential part of the economy. It’s how businesses get started and grow. Small businesses have unique needs, which is why banks and credit unions offer a variety of products. Here are some of the most common types:
The U.S. Small Business Administration makes these loans, which offers a range of options for funding various types of small businesses. The SBA also guarantees the loans, which means that if the borrower doesn’t pay back what they owe, the government will take over paying off the loan instead.
These are short-term loans that allow businesses to borrow money from their bank or credit union whenever they need it. They’re usually cheaper than other forms of financing because they don’t require much paperwork or approval time ahead of time. However, they also have higher interest rates than other types of financing because they’re riskier for lenders (if your business can’t pay back what it borrows).
Term loans.
Term loans are like commercial lines of credit but with stricter terms — you must repay them by a certain date (or at least make a payment). This makes them more predictable for lenders, and they have lower interest rates than commercial lines of credit. They’re also more restrictive because you can only borrow a certain amount of money at a time.
Asset-based lending.
If you have valuable assets that can be used as collateral for a loan, this type of financing may be right for you. Asset-based lenders will lend against your business’s equipment, inventory, real estate and other assets — but they usually require you to put up a percentage of those items as collateral.
Small business lending is a big business. The Small Business Administration (SBA) estimates that there are 28 million small businesses in the U.S., with over half employing fewer than five people. These businesses create two out of every three new jobs, and they’re responsible for more than half of all private sector investment each year.
At the end of the day, banks and credit unions can benefit from increased awareness of small business lending. This will allow them to look at the available options for their clients, as well as open up new possibilities for prospective customers. However, it goes without saying that banks and credit unions should always fully examine each applicant’s situation before determining whether they qualify.
Otherwise, mistakes could be made due to a failure to meet certain qualifications or comprehensive information being left out. At the same time, this greater awareness will go a long way toward helping small businesses get the financial support they need to grow and thrive in today’s economy. Ongoing education from Bankershub ensures that lenders are properly versed in small business lending.
