In response to the current low-growth economic environment, more and more community banks are pulling out all the stops in looking for ways to grow their loan portfolios. Many have found themselves awash in liquidity with deposit balances and are looking for lending opportunities that will allow portfolio growth while keeping within regulatory guidelines.
One popular option is the U.S. Small Business Administration (SBA), which guarantees a portion of loans made to businesses that typically wouldn’t qualify for financing based on normal underwriting guidelines. SBA’s can be a vehicle for community banks to book new loans with less scrutiny from regulators due to the SBA guarantee. Another option is SBA 504 loans, which are tailor-made for small business owners and professional practices rethinking ownership of commercial real estate.
Lucrative Funding Vehicles
SBA loans are proving to be lucrative for many community banks today, offering healthy margins and the opportunity to earn additional fee income. This is true whether your bank holds onto the loans or sells them (either the entire loan or just the guaranteed portion) into the secondary market.
Selling SBA loans allows you to loan more money back out to other small businesses in your community, via either traditional or SBA loans. By holding onto SBA loans, you may be able to leverage capital and reduce portfolio risk, since the SBA-guaranteed portion of the loan features lower (20 percent) risk-based capital requirements. And while the volume of small SBA loans has been essentially flat since 2007, the SBA announced last year that fees on all SBA loans under $150,000 are being waived through September 30, 2014 in an effort to boost volume.
As simple and appealing as it sounds, very strict rules, regulations, and reporting requirements govern SBA loans. These rules and requirements must be followed to the letter to be able to claim the SBA guarantee if problems arise in the future with an SBA loan.
New SBA Loan SOPs
SBA rules and regulations are detailed in new SOPs (SOP 50 10 5[F]) that were released in September 2013 and became effective on January 1, 2014. In particular, these new SOPs contain the following significant changes to the SBA’s requirements on the part of banks making SBA loans:
- A debt service coverage of at least 1.15 on both a historical and projected basis is now required for SBA loans over $350,000.
- Principals are only required to pledge personally owned real estate as collateral when an SBA loan is not otherwise fully secured, and principals are no longer required to pledge securities and other non-real estate assets.
- Business valuations will no longer be required to refinance change of ownership transactions.
- All SBA loans under $350,000 will now be underwritten and processed utilizing the criteria for Small Loan Advantage (SLA) loans.
- Old SBA application forms (SBA Forms 4 and 4i) have been replaced with new SBA Forms 1919 and 1920SX.
- The use of SBA Forms 147 (Note), 148 (Unconditional Guarantee) and 148L (Unconditional Limited Guarantee) by lenders is now optional — lenders can use these forms or their own forms.
- Lenders can now value equipment at up to 80 percent of orderly liquidation value, and real estate at 85 percent of appraised value, for purposes of determining if an SBA loan is fully secured.
- Life insurance is only required for SBA loans to sole proprietors, single member LLCs or other businesses that depend on one owner’s active participation. Lenders must obtain life insurance in conformance with their internal policy for similarly sized non-SBA loans.
- Borrowers’ financial statements must be current within 180 days of application, instead of 120 days.
- Electronic processing through E-Tran is now mandatory for numerous changes and notices to the SBA.
Bank Infrastructure and Staff Expertise
Before starting SBA lending, you should make sure your bank has the right infrastructure and staff expertise to meet SBA requirements. If you don’t, you might consider partnering with an outsourced SBA loan services provider; third-party providers who help community banks expand their SBA lending efforts without having to internally develop infrastructure and staff experience.
Finally, while the SBA guarantees can help make up for some weaknesses in credit, it shouldn’t be used to justify booking a risky loan. Please use your bank’s normal lending guidelines when making any loan.
If you have any questions regarding SBA lending, please feel free to contact our professionals at (417) 881-0145 or visit www.whitlockco.com.