The coronavirus pandemic showed lenders that there is a massive demand for small business loans, as the Paycheck Protection Program (PPP) loan program provided hundreds of billions of dollars in loans to small business owners – and there were many more borrowers who wanted loans but couldn’t be accommodated. With the economy recovering and a record 4.4 million new businesses being created in 2020, the demand for small business loans is not going away anytime soon.
Many lenders, including big banks, small banks, credit unions, and alternative lenders are looking to scale up their operations. Biz2Credit CEO Rohit Arora said, “Banks are looking to increase their SBA 7(a) loan-making, as they found out that the small business lending sector can be lucrative. Many lenders earned millions in processing fees for processing Paycheck Protection Program (PPP) loans in the past year.”
We are not only seeing a flood of small business loan applications but also rising loan approval rates.
Small Business Loan Approval Rates Rise for the Fifth Straight Month
According to the latest Biz2Cedit Small Business Lending Index, which analyzes 1,000 loan applications on the Biz2Credit website every month, September marked the fifth straight month that small business loan approval rates increased at traditional bank and non-bank lenders. Let’s look at the numbers by category:
- At big banks, loan approval rates increased from 13.9% in August 2021 to 14% in September 2021.
- Small banks saw approvals jump from 19.3% in August to 19.5% in September.
- In September, institutional lenders increased approvals to 24.5%, up from 24.3% in August.
- Credit union approval rates rose to 20.6% in September, up 0.1% from August.
- Alternative lenders recorded the highest loan approval rates at 25.4%, up from 25.2% in August.
A couple of months ago, Arora pointed out that “big banks remain comparatively stingy in their small business loan-making. This is opening up opportunities for smaller banks and alternative lenders to gain market share.”
Are alternative lenders a viable option for small business owners? We will answer that question in a bit. But first, let’s look at what’s causing the increasing loan approval rates.
Why are loan approval rates increasing for small business owners?
Here are three reasons why loan approval rates are increasing for small business owners:
- Lenders are getting better data on borrowers, allowing them to offer better small business financing options. In the past, lenders had a hard time creating a full profile of small business borrowers, which increased the risk of issuing loans to them. Since the onset of the pandemic, however, lenders have undergone a digital transformation, giving them the tools they need to meet loan requests with offers that make sense for both the lender and the borrower.
- As mentioned earlier, PPP loans showed lenders that small business lending could be a lucrative activity. Therefore, financial institutions have been looking for ways to scale up small business loans. In addition to PPP loans, lenders realized that other types of Small Business Administration (SBA) loans, term loans, equipment loans, and business lines of credit could make a big difference for their bottom line. Even though an individual small business loan is less profitable than a loan made to a large company, the number of small businesses dwarfs the number of large companies.
- The economy is improving, and many expect it to continue getting better. In the early days of the pandemic, many feared that the coronavirus would destroy the economy – but that hasn’t been the case. In fact, we’ve seen the opposite with companies unable to meet surging demand for goods and services. The stock market, which is a forward-looking indicator, has been notching record-highs, predicting good times ahead.
With loan approval rates high and expected to remain high, who should you borrow money from? While big banks and community banks remain a viable option, alternative lenders are a strong option for many small business owners – but they aren’t always the right choice for small business owners.
Should you use an alternative lender?
In recent years, alternative lenders have sprouted up across the world, providing small business owners with new ways to borrow money. These lenders have proliferated because they have been able to use technology to improve upon the processes used by many large financial institutions.
Whether or not you should use alternative lenders, sometimes referred to as fintech startups, depends on the state of your small business and your loan needs.
There are pros and cons to using an alternative lender.
The application process is streamlined: with some big banks, the loan application process is lengthy and inconvenient; it can take a long time to determine your eligibility for a small business loan. According to a McKinsey study, the average time to decision at traditional banks was between 3-5 weeks a mere three years ago. While many banks have cut that number down a lot over the last three years, some banks still have inefficiencies in their application processes. With alternative lenders, on the other hand, you can often complete your application in as little as a few minutes, putting you on the path to a fast approval.
You can get funded in 72 hours or less: the aforementioned McKinsey study also found that the “time to cash” was nearly three months at traditional banks in 2018. With a fintech startup, however, you can get funded in three days. For entrepreneurs who are struggling with cash flow, fast funding can be a game-changer.
You have a better chance of securing financing if you have a low credit score: according to Arora, “Non-bank lenders typically focus less on FICO scores and more on the financial health of the borrowers who are applying for funding.” This means that if you have low personal credit or business credit, but you still look like a good bet to repay your small business loan, you have a good chance of getting approved. With many big banks, if you don’t meet their (often stringent) requirements, you have little to no chance of qualifying for a small business loan.
You may have to pay a higher interest rate: alternative lenders typically provide small business owners with reasonable repayment terms, but in many cases, they offer higher interest rates than traditional lenders. Why do they have higher interest rates? Because the low number of requirements and faster review bring additional risk to them. In exchange for taking on that risk, they insist on a higher interest rate. That said, a startup or small business owner with a low credit score may not be able to get any type of loan from a big bank, so even if the interest rates are on the higher end, they can’t be compared to the average interest rate being offered by a large financial institution to small business owners.
Some alternative lenders won’t be around in 5-10 years: if you borrow money from a big bank, you can be reasonably certain that the bank will be around in 5-10 years, as many of them have been around for decades – and some have been around for more than a century. The majority of alternative lenders were founded within the last few years, which means they have no experience navigating financial crises. Obviously, you don’t want to get a 5+ year loan, and have to deal with the lender going out of business halfway through your repayment schedule, so how can you mitigate this risk? You should be selective with alternative lenders, only working with them if they are adequately capitalized, have an excellent track record, and don’t appear to be engaging in risky activity.
There may be shorter loan terms: the length of a small business term loan can be anywhere from 1 year to 25+ years in length, but you may have to go to a big bank to get a loan of that length. Through a given alternative lender, you may only be able to get shorter loan terms. With the Biz2Credit platform, however, you can get access to a variety of small business financing options, so if you are looking for longer-term financing, there is a good chance that you can find it. By getting a 10+ year loan, you get the flexibility to make long-term investments that may not pay off immediately.
Let’s look at an example that shows when it makes sense to use an alternative lender:
Bill has a restaurant in New York, and like many restauranteurs, has had his fair share of ups and downs since the onset of the pandemic. His credit score might be high enough to meet the requirements of a traditional lender, but it is borderline. But Bill just launched a marketing campaign that is receiving a very strong response. On top of that, he is optimistic because the worst of the pandemic appears to be behind us.
He wants to borrow money to hire seasonal staff, as he expects to welcome hundreds of new customers over the next few months.
In this case, it may make sense for Bill to use an alternative lender because he needs the money quickly, and even though he may be unable to meet a big bank’s requirements, his business seems healthy.
Biz2Credit Can Help You Secure a Small Business Loan
For some small business owners, bank loans are their best option. For others, going with an alternative lender is the best – and sometimes only – option. For either scenario, Biz2Credit can help you get a small business loan with attractive terms. We can arrange SBA loans, traditional bank loans, business lines of credit, equipment financing, business acquisition loans, commercial real estate loans, refinancing, and merchant cash advances.
You can apply in as little as four minutes, get a decision in 24 hours or less, get funded as fast as 72 hours, and receive anywhere from $25,000 to $6 million dollars in financing.
At Biz2Credit, we provide funding for just about any type of business, with small business loan options designed to fit your needs.