Tips For Growing Small Business Loans ― And Managing The Risk

Four credit unions with deep experience in SBA lending weigh in on building an effective program that frees up capital and minimizes risk.

 
 

Credit Union SBA Loans By The Numbers

  • 355 – credit unions with SBA loans
  • $1.89B – total outstanding balances
  • 16 – average number of loans
  • $340,858 – average loan balance

Source: Callahan & Associates, May 2019

Fueled by the strong economy, America’s small businesses need capital, and U.S. Small Business Administration (SBA) loans have been a mainstay of this sector since the SBA made its first loan in 1954. 

In fact, during the 35-day 2018-19 federal government shutdown, the SBA’s flagship 7(a) loan guaranty program, which backs business loans ranging from $50,000 to $5 million, became a political talking point, with small businesses missing out on an estimated $110 million in capital and 245 loans for each day of the shutdown.

Loans by credit unions account for about 10% of the 60,000-plus loans approved by the SBA in FY2018. Callahan & Associates data shows that 355 credit unions have SBA loans, with an average loan balance of $340,858. 

Mountain America Credit Union ($8.9B, Sandy, UT) has the largest SBA portfolio with 393 loans totaling $182.21M. Its average loan amount is $463,641, with an average overall SBA guarantee of 54%. However, one-third of those credit unions are down to one to three loans and may no longer be active in the SBA program.

To spur interest in SBA loans, the NCUA and SBA recently announced a three-year collaborative program to sign up more credit unions through a series of webinars, training events, and media outreach.

TOP 10 CREDIT UNION SBA LEADERS

FOR U.S. CREDIT UNIONS | DATA AS OF 12.31.18
© Callahan & Associates | CreditUnions.com
Rank Credit Union State # Of SBA Loans Outstanding Outstanding Balance Of SBA Loans Guaranteed Portion Of SBA Loans # Of SBA Loans Growth Outstanding SBA Loan Growth Average SBA Loan % Of SBA Loan Guaranteed
1 Mountain America UT 393 $182,211,028 $98,685,813 12.29% 22.42% $463,641 54.16%
2 Redwood CA 280 $162,914,292 $48,242,441 12.45% 21.69% $581,837 29.61%
3 Apple VA 70 $78,477,164 $78,477,164 40.00% 18.93% $1,121,102 100%
4 Members Choice TX 70 $57,481,431 $34,763,516 -16.67% -13.33% $821,163 60.48%
5 Alaska USA AK 64 $44,874,915 $1,214,052 -5.88% 4.13% $701,171 2.71%
6 Kinecta CA 64 $33,175,844 $24,848,564 -4.48% -12.08% $518,373 74.90%
7 Patelco CA 92 $32,385,383 $32,385,383 -20.69% -27.98% $352,015 100%
8 Randolph-Brooks TX 194 $31,772,378 $23,090,858 -7.62% 17.69% $163,775 72.68%
9 Arizona AZ 33 $31,392,398 N/A N/A N/A $951,285 N/A
10 Credit Union Of Colorado CO 37 $31,311,963 $31,311,963 117.65% 150.67% $846,269 100%

Loan balances for the top 10 credit unions accounted for nearly half of all outstanding SBA loan debt. SBA guarantees ranged from 2.73% to 100% of the outstanding loan amounts.

Investing In The SBA Program

Credit unions already participating in the SBA program say it’s a valuable resource for members who might not otherwise qualify for loans, but it also takes effort to get started in SBA lending and train resources to ensure compliance. SBA loan fees, shorter 7- to 10-year terms, and increasing competition for SBA loan dollars also pose obstacles to potential borrowers. 

“With SBA lending, you have to make the investment, you have to hire experts, especially during the beginning,” advises Derrick Bailey, head of commercial lending at Telhio Credit Union ($848.2M, Columbus, OH). “You might get a slight sticker shock depending on where you are in the country, but if you don’t put the program together in the right way, you’ll see more losses. Once you have that talent, you can train people and have the right foundation for doing SBA loans.”

Credit unions are making SBA loans in a wide range of sizes and risks, with the maximum loan raised from $2 million to $5 million by Congress in 2018. A 2017 study found that one in six SBA 7(a) loan loans (17.4%) went into default, with 85% guaranteed by the SBA, which also offers smaller loans with a 50% SBA guarantee. 

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Smaller organizations, such as Opportunities Credit Union ($40.34M, Winooski, VT), have 64 loans with an average loan value of $81,786, but an average SBA guarantee of 72%. Opportunities also taps in to the Vermont Economic Development Authority and private funds to help guarantee most of the remaining amount.

“If we didn’t have those types of guarantees in place, we wouldn’t be able to do a lot of loans,” says Cheryl Fatnassi, CEO at Opportunities. “Typically, there’s not enough collateral to secure the loan. It has helped us do a lot of loans to small businesses considered high risk, such as a restaurants and retail. 

“We’ve also done long-haul truckers, dance studios, salons, cafes, jewelry businesses, upholsterers, sweet potato farmers, wildflower farmers, caterers and quite a few bakers ― and, of course, we have to test each of their products.”

Ensure Support From The Top Down 

Based on lessons learned from years of experience with the program, credit unions participating in SBA lending have a number of suggestions for growing a successful program:

For starters, support for SBA lending needs to happen at the board level. Telhio’s SBA program began in 2010 at the behest of several board members, starting with $50,000 microloans and hovering under $1 million in total SBA loans. As Telhio expanded its program to larger, more complex loans in 2013, its portfolio has grown to $7 million with an average loan value of about $225,000.

“That’s our sweet spot for SBA lending,” Bailey says. “These loans are perfect for credit unions. They have a huge community impact. You can tap your existing membership base, and with the secondary market available for SBA, you can definitely leverage your liquidity.” 

Growing the program meant working more closely with SBA district offices and Small Business Development Centers, using data mining and digital marketing to engage self-employed members in need of loans, and working closely with the branch network to help identify opportunities.

“You’ve got to let them know about the program and develop business champions in the branches,” he adds. “Make sure you get everyone’s buy in.”

Follow The SBA’s Standard Operating Procedures

Failing to follow the SBA’s SOPs can result in the loss of loan guarantees and greater exposure to losses. The SBA enforces a full range of requirements related to creditworthiness, underwriting, collateral, assignment of leases, real estate appraisals, environmental policies, loan authorization, loan closing, and disbursement.

“Take the time to train key employees in the production and servicing of the loans to maintain the guarantees,” advises Gregory Hansen, senior vice president for business services and retail lending at Numerica Credit Union ($2.32B, Spokane Valley, WA). “Utilize the resources available from the SBA lenders liaison, National Association of Government Guaranteed Lenders, and the SBA to stay current with the program’s policy changes, ensuring that the credit union is adequately protecting the loan portfolio.”

Numerica originated 24 SBA loans totaling more than $7.5 million in 2018 and was already up to $4 million by April 30 this year. Hansen notes that a growing number of businesses are changing hands, and those loan changes also require adherence to SBA procedures. “We have seen an increase in the number of ownership changes compared to earlier years,” Hansen adds. “This is likely due to baby boomers retiring and selling their businesses.”

SBA Loan Requirements

Applicants must be creditworthy and able to reasonably assure repayment. Lenders should consider the strength of the business and the applicant’s

  • Character, reputation, and credit history
  • Experience and depth of management
  • Past earnings, projected cash flow, and future prospects
  • Ability to repay the loan with earnings from the business
  • Sufficient invested equity to operate on a sound financial basis
  • Potential for long-term success
  • Nature and value of collateral (although inadequate collateral will not be the sole reason for denial of a loan request)
  • Affiliates’ effect on the applicant’s repayment ability

Consider Joining The SBA’s Preferred Lenders Program

Experienced lenders can become designated as PLP lenders with delegated authority to process, close, service, and liquidate most SBA guaranteed loans without prior SBA review. Guaranteed loans are subject to only a brief eligibility review and assignment of a loan number by the agency. 

“If you don’t have the PLP designation, the process takes longer because you normally would have to send in your documentation to the SBA to review it versus just doing it yourself,” said Dave Kahlhamer, government-guaranteed loan program manager at Central Minnesota Credit Union ($1.1B, Melrose, MN). “If you’re a PLP lender, you can close the loan right there. There’s usually a timeline involved, so the sooner you can get it done, the better.”

To qualify for PLP certification, credit unions must have disbursed at least five SBA loans within the past 24 months and meet the SBAs requirements for delegated authority. PLP lenders are expected to handle servicing and liquidation of all of SBA loans with limited involvement by the SBA itself.

Central Minnesota’s SBA loan portfolio has grown six fold in the three years, from $3.54 million  in June 2016 to $21.6M in March 2019, with an average loan value of $450,200. Kahlhamer said the growth has been part of a concerted effort to become a PLP, commit new resources, and promote SBA loans across its branches.

“It broadens our customer base, builds loyalty and gives us cross-sell opportunities,” he adds. “It’s been good for us.”

On the other hand, Telhio looked at the PLP program and decided to continue as a participating lender, according to chief lender Bailey there. “We don’t want to move too fast. Right now, we want to have that second set of eyes,” he says.

According to Numerica’s Hansen, the most common perception of the SBA program is that it is a paper-intensive program that slows the process. “The reality is that the SBA has improved the program significantly over the years to reduce the amount of paperwork needed to complete the loan process,” Hansen notes. “The time from start to finish certainly varies from loan to loan, but overall it is not much longer than a conventional loan.”

Support Market Expansion Such As Export Businesses

While the traditional SBA 7(a) program offers an 85% guarantee for small loans and 75% for large loans, the agency guarantees up to 90% for export businesses. Telhio was able to originate a large commercial loan for 70-year-old manufacturing company that produces stamped good for multiple industries including automotive and heating and air suppliers.

“This company builds parts that are shipped overseas, and it was being affected by foreign markets,” Bailey says. “They qualified for a 90% guarantee, and five years later, the company is still in business.”

Companies that qualify for the higher guarantee can be involved in both direct and indirect exporting, including goods exported by Canada and Mexico. Telhio hopes to work with trade associations to identify loans that can be used by small businesses to open up new export markets, using SBA guarantees to offset the risk.

“We think exports is a great area to be in that is currently underserved,” he says. 

Get To Know The Business And Use Available Resources

According to the SBA, 20% of all startup businesses fail within the first year and up to 51% fail within the first five years.  But there are a number of programs borrowers can tap into through the credit union, the SBA’s Small Business Development Centers and SCORE, a nonprofit organization that provides free business mentoring services from active and retired business executives and entrepreneurs. 

“It really depends on what level they’re at when they come in, but these resources can help with the business plan, their projections, insurance, and other factors that affect the success of a startup,” says Kahlhamer at Central Minnesota.

At the two-branch Opportunities, the credit union’s business lender spends most of the time on the road in Vermont, meeting with borrowers at the business or at new locations planned by startups. 

“We want to make sure everyone has a good business plan, their numbers are thought out and that they have the resources to help them,” says CEO Fatnassi, who says the delinquency rate for her’s program is less than 1%, with negligible charge-offs. “It’s not an excuse to make a bad loan or to say if I made a bad decision, at least the SBA will pay out. It should never be used for that.”

Push For Expansion In SBA Lending For Credit Unions

Hansen at Numerica says he’s seeing a growing trend in demand for SBA loans nationally, making it more difficult for borrowers to access loans.

“SBA loan applications have increased significantly year after year,” he says. “This creates a more competitive environment for the lenders who are vying for SBA funding.”

Hansen adds that the SBA could have a greater impact on the economy by lowering the guarantee fee for smaller loans under $350,000. “The SBA has adjusted the fees from time to time, and it seems that the lower the guarantee fee, the greater the production of smaller loans,” Hansen says. “Moreover, it’s these smaller loans that really drive small businesses and keep the economy moving.”

Bailey at Telhio recommends raising the cap on commercial lending for credit unions could to spur participation in the SBA program. Federal law limits federally insured credit unions’ member business loans to the lesser of 12.25% of assets or 1.75 times net worth, unless the credit union qualifies for a statutory exemption such as Community Development Financial Institution status or is a Low Income Designated Credit Union with the NCUA

“If a credit union has been doing investment real estate loans and they’re very successful at it, why would they allocate much of their dollars toward the SBA program when they’re probably already at their cap or approaching their cap?” Bailey says. “If something came out like removing the cap or raising the cap for the portion of SBA loans that are not guaranteed, then I think you would definitely see more credit unions participating in SBA lending.”

Congress would have to enact any changes, which must be signed into law by the president. In his testimony before the Senate Banking Committee and the House Financial Services Committee in May, NCUA Board Chairman Rodney Hood says the restriction hits smaller credit unions the hardest, making it “very difficult or impossible to successfully build a sound member business lending program.”

“As a result, many credit unions are unable to deliver commercial lending services cost effectively, which denies small businesses in their communities access to an affordable source of credit and working capital,” Hood says. “These credit unions miss an opportunity to support the small business community and to provide a service alternative to the small business borrower. Any congressional action to provide additional flexibility under the member business lending cap would also be tremendously beneficial to the credit union industry and their small business members.”

The SBA sponsors an annual awards program to recognize successful loan recipients and lenders, and according to Hansen, the program creates a lot of goodwill in the community around Spokane Valley, WA. 

“Offering SBA loans allowed us to finance these businesses and business owners that otherwise could not qualify for conventional type loans,” Hansen says. “With the help of SBA loans, we are helping these businesses succeed and fulfilling our mission to enhance lives, fulfill dreams, and build communities.”

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