Boss Lady

Why banks don’t advance loans to small businesses


It’s always been hard for small businesses to access finance. Small business owners are well aware that banks refuse loan advances to small and medium enterprises (SMEs). The Small Business Association has estimated that up to 80% of small business loans are rejected. However, this is a paradoxical situation because it is the small businesses that have the most urgent need for loans. Besides, they have such a crucial role to play in the economy as we are so often told.

Alas, banks are motivated by profits and not the welfare of small businesses or need for maintenance of the local economy’s health.

Back in the day, you could easily cultivate a friendship with the bank manager from your neighborhood and based on mutual trust and understanding, you could easily obtain a loan from the community bank. This scenario is now history.

Enter the brave new world of megabanks that are far too big to take mom-and-pop businesses seriously. The personal touch of warmth and friendship is long gone, replaced instead with a stone cold veneer of corporate efficiency. Banks are only interested in how big you are and for how long you have been established. Ironically, the current banking model is to advance loans to those who need it the least.

Here are a few reasons why:

  • To mitigate risks

Since you are an SME, you are a high-risk prospect. After the 2008 financial debacle, stringent regulations were implemented to minimize risks and banks are legally obliged to comply. In fact, a Harvard study points to the decline in lending to small businesses prior to the recession.

  • Small loans mean small profits

Understandably, it does not make much sense to lend to small businesses. It is far more profitable, not to mention safer, to lend to the big corporations.

  • No collateral

Small businesses have few assets which prove to be insufficient for loan security. Banks prize security above everything else. These are the hard lessons learned from the banking catastrophe that ensued following profuse high-risk lending.

  • Short credit history

Banks like to see a long and reliable credit history so that they can be fully assured about having a credit worthy prospect. Most SMEs are quite young. Therefore, banks are quite paranoid since they don’t know the financial habits of the entity requesting the loan. Statistically, it makes sense to refuse loans to unknown businesses.

  • The diminishing role of community banking

Community banks fostered friendly relations with small local clients and were quite approachable. This is now in stark contrast to international banks that have a callous demeanor towards SMEs. Big banks are almost wholly preoccupied with wooing major corporations. For them, small businesses are small fry and high risk.

  • High marketing costs and low rewards makes lending unprofitable

Banks too are businesses at the end of the day. Even they have to employ a marketing campaign to find the right customers. But there is low return on the given investment, not to mention the high risk of bad debts. The significant risk of bad debts eventually transpires if the bank gives away too many loans to SMEs.

Owing to these drawbacks, alternate avenues have now been developed to make it easy to lend to SMEs. New platforms have been designed that offer handsome loans at short notice with lenient terms and conditions.

Did you know that SME owners have to spend upwards of 25 hours on onerous paperwork to get their loan? As you can imagine this is bound to create demand for alternative lending platforms.

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