Small Business Loan Industry: 2024 Insights & Trends
Introduction
Small businesses are key to the US economy, employing millions and driving innovation. Yet, getting credit is tough for them. Lenders often see small business loans as riskier than those for big companies. This is because new and small businesses often fail.
The Federal Reserve says lending to small businesses is riskier due to their high failure rates, especially early on. Despite these hurdles, small businesses keep looking for funding for things like growth and daily costs. This article looks at the current state of small business lending, recent trends, and what the future might hold.
Historically, lenders have been cautious about lending to small businesses. The Federal Reserve points out that small businesses, especially new ones, have a high failure rate compared to big companies. This risk makes lenders wary of lending to small businesses, seeing them as less stable.
Yet, small businesses are vital to the economy. They help create jobs and drive growth. Despite the funding challenges, they often need loans to start, grow, or cover costs. It’s important for lenders and borrowers to understand these needs and risks.
Recent data shows the current state of small business lending. In 2020, 15% of businesses applied for new credit, excluding pandemic-related loans. This shows a continued need for funding among small businesses.
In the US, there are about 33.2 million small businesses, employing over 61.5 million people. But only 42% of these businesses have all their financing needs met. This gap offers opportunities for lenders who can manage the risks and meet the diverse needs of small businesses.
The average small business loan is around $663,000, according to the Federal Reserve. However, only 34% of small businesses applied for loans in 2021, down from 43% in 2019. This drop suggests a shift towards alternative financing options like crowdfunding and fintech platforms.
Among those who applied, only 31% got the full amount they requested. This low approval rate shows the challenges small businesses face in getting the funding they need.
Small business owners apply for loans for various reasons. The main reasons include:
- Meeting Operating Expenses: Many small businesses seek loans to cover daily costs.
- Expanding the Business: Loans are often used to pursue new opportunities or buy business assets.
- Replacing or Repairing Capital Assets: Loans are needed for maintaining or upgrading equipment and facilities.
- Refinancing or Paying Down Debt: Many businesses use loans to manage existing debt.
- Other Reasons: This includes business franchising, startup costs, payroll financing, and inventory purchases.
The purpose of a loan request can affect whether a business gets financing. For example, businesses applying for loans to cover operating expenses often face more difficulty getting the full amount. Female-owned and Black- and African American–owned businesses are more likely to seek credit for operating expenses.
Approval rates for small business loans vary by lender type. As of March 2024, alternative lenders have the highest approval rates, accepting over 28% of loan applications. In contrast, large banks have the lowest acceptance rates. Loan approval rates also vary by industry, with the hospitality industry getting the largest share of SBA 7(a) loans in 2022.
Emerging trends in small business lending show a shift towards alternative financing options. This shift reflects the growing need for tailored loan programs in various sectors.
Several trends are shaping the small business lending landscape in 2024 and beyond. The COVID-19 pandemic has increased the demand for goods and services. This has put more financial pressure on small businesses.
Inflation hit 8.5% in 2022, the highest since the early 1980s. The Federal Reserve has raised interest rates. Now, small business bank loan interest rates range from 5.75% to 11.91%.
Banks have made it harder to get loans due to economic uncertainty and credit quality concerns. This trend is expected to continue in 2024, making it tough for small businesses to get traditional bank loans.
Government programs like the Paycheck Protection Program helped small businesses during the pandemic. But these programs are now closed. This has led to a greater need for loans from private lenders.
Mitigating Risk in Small Business Lending
Lenders must adapt to manage risk as the lending landscape changes. Two key regulatory changes will impact small business lending:
- SBA Loan Program Updates: In August 2024, the SBA updated its loan programs to help more small businesses, especially in underserved communities. These updates include allowing new lenders to offer SBA 7(a) loans and simplifying the loan process for small loans.
- CFPB Demographic Data Rule: The CFPB finalized a rule in April 2024 requiring lenders to collect demographic data on small business loan applicants. This data includes ethnicity, race, sex, and business ownership status. The goal is to identify gaps in capital access.
Companies like CRS are developing tools to help lenders assess small business loan applications. CRS offers credit reports and data analysis tools. Their credit data API provides access to various credit scores and reports, helping lenders evaluate risks and ensure compliance.
Conclusion
The small business lending landscape has both challenges and opportunities. Small businesses face difficulties getting traditional loans due to high failure rates and economic conditions. However, there’s potential for lenders who can manage risk and adapt to trends.
Recent regulatory changes and advancements in data analysis tools are expected to improve capital access for small businesses. By staying informed and using new technologies, lenders can better serve small businesses. This can help them grow and succeed.