LENDING RULES FOR SMALL BUSINESS
SBA and CFPB each issued new regulations to expand funding
The U.S. Small Business Administration and Consumer Financial Protection Bureau each issued new rules earlier this year that aim to expand funding access for small-business owners, especially those in underserved communities.
As of Aug. 1, 2023, updates to the SBA’s rules allow for new, nonbank lenders to offer SBA 7(a) loans, as well as update restrictive lending criteria. And starting in 2024, the CFPB will begin requiring lenders to provide the public with transparent data on small-business owner loan applications. Here’s what this means for business owners.
Additional nonbank SBA lenders
Small business lending companies, or SBLCs, are nonbank institutions — such as financial technology companies and alternative lenders — that are authorized to fund SBA loans. SBLC licenses have been limited to 14 since the early 1980s, but the SBA has now added three additional licenses.
The goal of this change is to encourage more lenders to offer
SBA-backed loans and thereby reach more small-business owners. However, there are concerns that the SBA doesn’t have the capacity to properly regulate additional institutions, which may allow predatory lenders to enter the market, according to Ann Marie Mehlum, co-chair of the Bipartisan Policy Center’s Task Force on the Future of SBA and former associate administrator for capital access at the SBA.
This could mean additional risks for small-business owners if predatory lenders are able to provide unfair or expensive loan products under the emblem of the SBA, says Joshua Miller, vice president of research and policy at Accion Opportunity Fund, a nonprofit community development financial institution based in California.
He recommends borrowers be “leery” of working with any small-business lender that won’t provide an annual percentage rate, as predatory lenders often try to hide the true cost of borrowing behind something like a factor rate.
The SBA will also issue a new type of license called the Community Advantage SBLC to participants in the pilot Community Advantage program, as well as new nonprofit organizations. These licenses will represent a permanent continuation of the
CA program, which has backed nondepository, mission-based lenders that target underserved communities, and that was previously set to expire in September.
Updated lending criteria
In addition to issuing new licenses, the SBA also updated its lending criteria. Instead of the previous nine factors used to determine creditworthiness, lenders can now use any one, or any combination, of three factors: the applicant’s credit score or credit history, earnings and cash flow, and equity or collateral.
Lenders will also be allowed to underwrite SBA loans using the methods they use for their own similarly sized, non-SBA business loans. This change, in theory, will allow lenders to apply criteria that are the best fit for their communities and expand the pool of creditworthy borrowers. Miller, who suspects that the SBA’s inflexible and lengthy lending criteria left many borrowers without access to capital, is hopeful that the update will do away with the “one-size-fits-all” approach to underwriting.
More applicant data
The CFPB’s finalized rule, which amends the Equal Credit Opportunity Act, will require financial institutions to begin reporting demographic data for all small-business credit applicants. This data includes ethnicity, race and sex, as well as minority-, woman- or LGBTQ+-owned business status.
The change is intended to expose gaps in capital access — particularly for underserved markets — and will apply to a range of lenders, including merchant cash advance companies, banks, credit unions and nondepository lending institutions. Part of the provision also states that underwriters cannot access this demographic data.
“We think that it’s going to be great for small-business owners because so many underserved small-business owners currently don’t have access to capital and they’re completely invisible to the market,” says Miller, who also sees this as a positive for lenders. By understanding where there are disparities, he says, lenders are better able to expand their market of eligible borrowers.
Lenders will also be required to collect data beyond demographics, including credit type, purpose and the amount applied for, as well as the business’s census tract, gross annual revenue, time in business, number of employees and number of owners. Some institutions will be required to collect data as soon as Oct. 1, 2024, depending on how many loans they originate.