When looking for the best banks for small business loans, Bank of America and Wells Fargo may come to mind.
However, big banks aren’t always the best choice to serve your funding needs, especially if you have a small business or a start up.
Here are 5 crucial details your bank is conveniently leaving out of the conversation:
1. Big Banks Not Lending Money To Small Business Is Intentional
After the financial crisis of 2008, banks are reluctant to loosen loan terms for small businesses, making it harder than ever for small companies to secure financing from traditional financial institutions.
Big Banks Often Consider Small Business Loans Too Risky
Because small businesses tend to be more sensitive to fluctuations in the economy and have fewer assets to provide as collateral, lending to small businesses are seen as risky.
And according to a working paper by the Harvard Business Review, access to bank credit for small business was already in steady decline prior to the Recession.
ROI On Small Business Loans Is Low
What’s more, most lenders see small business loans as just plain unprofitable–
This is the driving reason why banks don’t lend to small businesses even today.
In fact, the Small Business Association (SBA) estimates that 80 percent of small business loan applications are rejected.
2. Small Business Classification Varies Widely
A small business loan is used to a start or expand a small business, but the definition of what exactly makes a small business small is ambiguous.
For instance, according to the FDIC, a business has a loan balance of $1 million or less is considered a small business, while big banks usually define a small business based on revenue of $20 million or less.
If a bank is unclear on what exactly constitutes a small business, or if they lump all small businesses together, you have a problem.
It’s really hard to serve the financial needs of a mom-and-pop store that only earns a few hundred thousand dollars a year when you’re using the same underwriting criteria as you use for a business that generates, say, 40 to 50 million dollars a year in revenue,.
And in the big banks’ defense, it can be difficult to determine a fair way to assess small businesses across different industries.
3. High Transaction Costs & Search Costs Make Small Business Loans Unprofitable
Lest we forget, banks are businesses too.
The search costs are high for both borrowers and lenders:
Lenders would have to spend precious marketing dollars to find qualified borrowers for small business loans, which we already established are unprofitable investments for them anyway.
Meanwhile, it’s estimated that small business owners spend almost 25 hours on paperwork while applying for a loan at multiple banks.
Marketplace lending platforms like LendGenius are growing in popularity precisely because borrowers can compare business loans from multiple lenders with one easy application.
Add to the that transaction costs are the same for small loans as they are for larger ones, and it’s not hard to see why banks may be reluctant to offer loans to small businesses.
4. Big Banks Don’t Really Care For Qualitative Measures of Creditworthiness
When evaluating a loan application by the book, a bank will generally take the 5 C’s of Credit into consideration.
What are The Five Cs of Credit?
The Five Cs of Credit look at:
- Capital – like a down payment
- Capacity – like debt-to-income ratio & time in business
- Collateral – like real estate, equipment, or inventory
- Conditions – like the current economic climate
- & Character – like credit reports & personal reputations of upper management
Leveraging your character as a long-time customer at a credit union might earn you some favor, but this ‘soft’ underwriting criteria holds little weight with major banking institutions focused on the bottom line.
So if you’re just starting up with no capital and no collateral to your name, you’re going to have a really tough time getting a loan from a big bank.
5. You Don’t Actually Have to Use Your Bank’s Preferred Merchant Services Provider
While the bank might benefit from referring you to their credit card processing partner, you can actually use any merchant service provider you want.
That means you can compare credit card processors to identify one with the setup, tools, features, and fees that are in step with your business’ needs and budget.
Entrepreneurs: What Have We Learned?
Big banks aren’t out to squash you and your small business, but they’re not particularly invested in you either.
Frankly, the best banks for small business loans may not be banks at all.
To make sure you are making the best decision for your business’s needs, you’ll have to shop around for your small business loan.
And that doesn’t have to mean 25 hours of paperwork–
You can ditch the banker and find the best small business loan in a matter of minutes with an online loan matching platform.