This article is excerpted from The Windsor Advantage Mid-Year Lending Report, a market outlook for government-guaranteed lenders.
Lenders that can adapt to processing higher quantities of smaller loans may be better prepared for the future landscape of SBA lending based on 2022 behavior and data.
A key initiative for the SBA in 2022 is increasing the number of approved small loans. Prompted by both criticism of the organization and current data, it appears that the Administration will continue to incentivize lenders to process more small loans.
SBA Loan Volume this Year
Last year was a record year for government-guaranteed lending, with more than $36 billion approved through the 7(a) program.
However, the number of “small loans”, defined as a loan of $350,000 or less, authorized has decreased by 40.9% since 2015 (47,758 loans in FY2015 v. 28,219 loans in FY2021), a trend that runs counter to the mission of the SBA.
With fewer small loans approved, average loan size by dollar volume increased by 40.3% from 2018 to 2021, reaching $704,581 in 2021.
10-12 lenders have historically dominated the larger loan market. It now appears that small volume lenders are processing larger deals, creating higher concentrations of approved 7(a) funds.
In fact, the largest loans approved for the 2021 fiscal year capped out at the program’s maximum limit of $5MM.
The SBA responded to the trendline by renewing their focus on small loans. Its efforts have already impacted SBA lending trends this year.
The average loan size in H1 FY 2022 decreased to $529,217, averaging roughly the same as 2020’s yearly average.
We expect the industry to maintain this trend for Q3 and Q4, largely due to market uncertainty, inflation’s impact on the costs of borrowing, and the SBA’s promotion of initiatives like the Community Advantage Pilot Program.
Lender Incentives for Small Loans
Small loans have always been an SBA initiative, but the Administration now motivates lenders more directly to participate in small loan programs. In 2020 the Administration directly incentivized lenders to process more small loans by waiving the guaranty fees on 7(a) loans under $350,000. The fee removal makes the loan more attractive for both parties: driving borrower demand while increasing potential yields for lenders trading on the secondary market.
The SBA also vocalized its support of a wider-spread dispersal of funding in response to criticism faced for recent lending practices. After falling under public scrutiny for the misappropriation of EIDL and PPP funds, the Administration expressed a commitment to re-examine how existing 7(a) funds should be utilized to better support small businesses.
The Community Advantage Program is one such program. Originally set to expire this year, the SBA extended the program to 2024 and made changes to drive both lender and borrower demand for the funds, namely, the following:
- Increased maximum loan amount from $250,000 to $350,000.
- Opened eligibility to individuals with criminal backgrounds.
- Simplified and streamlined the application process for borrowers.
- Enabled lenders to make loan modifications including revolvers and lines of credit, as well as interest-only periods.
Only Community Advantage-approved lenders (CA lenders) are eligible to offer these loans. To qualify, 60% of the loans must go to underserved markets.
Based on SBA action, lenders should assume Small Loans will continue to be a focus for the next few years.
The Lender’s Role
Borrower behavior will always be motivated to some degree by economic factors outside of lenders’ control. However, lenders will need to respond to the government-incentivized push for smaller loans with a strategy and execution plan that serves borrowers without compromising profit.
Lenders that have previously focused on large loans to maximize efficiency and returns should be prepared to pivot. Lenders that process small loans should be prepared to scale current operations. The key for both scenarios is a loan processing system that allows for increased packaging, closing, and underwriting capacity to balance smaller loan volumes.
Streamline Your Borrower Onboarding Process
Scaling loan production starts with scaling intake. Examine your current borrower onboarding process and reduce friction at these priority points in the process:
1.Prior to the loan application.
Set early expectations about application and funding timelines to avoid frustration from either party.
2. After the application is approved.
Communicate time-sensitive requests for document collection before deadlines begin to keep the process efficient.
3. Prior to Underwriting.
Provide your borrower with a checklist of documents needed for underwriting and answer any questions before the process begins.
Increase Internal Bandwidth
Processing higher volumes of SBA loans can strain departments without the resources or capacity to adapt to new loan strategies. Smaller internal teams that need to act quickly may consider working with a third-party partner to help springboard their loan processing department’s growth.
This could be a temporary solution to help you test the market before you commit to growth, or an outsource partner could become your permanent processing arm.
Your institution may benefit from outsourced teams specialized in small loans, like Windsor Advantage’s Accel Team, created specifically for processing sub $350,000 loans.
Organize for Scale
As you build a more robust lending department, prepare for efficient future growth by creating a documentation process that helps scale internal onboarding and training.
Prepare your team for sustainable growth by streamlining and standardizing what you can to help operations continue at maximum capacity even while new roles develop at your institution.