Small Business Administration guaranteed lending appears to be collapsing, and the agency is loosening the rules on the interest rates banks can charge in order to induce more lending.
According to figures provided by the agency, the total number of loans funded in the 7(a) program dropped by 30 percent in fiscal year 2008. Meanwhile, the total amount of money approved fell 11 percent, to $12.7 billion. But because these are full-year figures, they mask the more dire immediate trend. In the first five weeks of fiscal year 2009, which began October 1, dollars loaned with 7(a) guarantees have plummeted nearly 40 percent, and the number of loans approved has fallen by more than half.
Though all SBA lending is suffering in the downtown, the biggest casualty, as Inc.com reported earlier this year, has been the 7(a) loan program known as SBAExpress. In exchange for a smaller guaranty, banks are able to use their own application forms and credit scoring models to make Express loans, and can approve them immediately. A borrower who doesn't qualify for a conventional loan may receive an Express loan, often without even realizing he's applied for one. SBAExpress loans are down 61 percent.
Yesterday, the SBA effectively allowed banks to raise the interest rates on variable-rate guaranteed loans. Previously, banks had to tie the interest rate on a 7(a) loan either to the Prime rate or an "SBA optional peg rate," which averages interest rates paid by the federal government. (The rate banks could charge was capped at Prime or Peg plus 2.25 to 2.75 percent, depending on the maturity of the loan.) The problem is that most banks borrow money not at the Prime rate but at the London Inter-bank Offered Rate, or LIBOR, and in recent months LIBOR has risen while Prime has fallen -- LIBOR has even briefly exceeded Prime. Thus, banks can't afford to make these loans -- and according to Tony Wilkinson of the National Association of Government Guaranteed Lenders, variable-rate loans account for about 90 percent of all 7(a) loans. So the SBA, in an "interim final rule", is immediately changing federal regulations to permit banks to charge up to three percentage points over the one-month LIBOR on these loans.
Another culprit in the decline of 7(a) lending is the collapse of the secondary market. Between 35 and 45 percent of these loans have historically been pooled by banks and sold to investors, Wilkinson says. But that market all but collapsed in October with the rise in LIBOR, according to an analysis by industry consultant Government Loan Solutions. The SBA's move ought to help grease the cogs of the secondary market, but for good measure, the agency is also allowing lenders additional flexibility, by allowing them to pool loans with different interest rates.
The upshot for borrowers is that they'll have to pay more. But in the SBA's view, that's OK. "The challenge small businesses face today is not the cost of capital, it is access to capital," Acting SBA Administrator Sandy K. Baruah said in a press release. "Interest rates are at historically low levels meaning money is inexpensive, yet lenders aren't lending and borrowers aren't borrowing. This indicates markets are frozen due to liquidity concerns."
Not surprisingly, the downturn seems to have had a greater impact on start-ups, though only slightly so: their share of total SBA loan dollars has fallen a few points, while existing firms' share has grown. Oddly, however, this isn't the case in the SBA's 504 program, which uses non-profit development companies to fund guaranteed loans through Wall Street to help small firms purchase real estate or heavy machinery. Start-up firms' share of 504 borrowing jumped eight points to 23 percent. Still, total 504 loans, like 7(a) loans, is also down nearly 40 percent so far in fiscal year 2009.