Several community-based lenders have criticized a proposed Small Business Administration rule change — even though it would open the door for them to participate in the agency's flagship 7(a) loan guarantee program, long the preserve of banks and credit unions.
The nondepository lenders, all of whom cater to women, minorities, veterans and other underserved small-business borrowers, say they prefer working through the SBA's existing Community Advantage program, despite the agency's claim that the 11-year-old pilot hasn't been especially effective at delivering capital to disadvantaged groups.
The SBA
Under 7(a), the SBA provides guarantees of up to 85% on loans made by participating borrowers. The loans, which are capped at $5 million, must go to qualified small businesses. With the economy showing increasing signs of stress, 7(a) is attracting closer attention from lenders, who appear to be shifting loans — which might be made conventionally in better times — to the SBA to take advantage of the guarantee. Through the first 10 weeks of the fiscal year, 7(a) loan volume was up 62% from the same period in fiscal 2022, totaling $5.9 billion.
For-profit SBLCs would be added gradually, allowing the SBA to build oversight capacity. Initially, the agency plans to admit just three for-profit SBLCs to the 7(a) program's ranks. By contrast, mission-based lenders with a focus on underserved borrowers would receive more favorable treatment, with the SBA creating a new mission-based SBLC designation for them. The SBA expects the job of supervising mission-based SBLCs will be more manageable since it is familiar with many prospective designees through their participation in the 11-year-old Community Advantage pilot program.
Yet several mission-based lenders have stated a preference for improving the existing Community Advantage framework over the wholesale changes outlined in the proposed rule. Participants in that program — all of whom must be certified development companies, microlenders or nondepository community development financial institutions — are permitted to make 7(a) loans of up to $350,000 if 60% of their production is allocated to underserved markets or borrowers.
Community Advantage also has strong support in Congress, where Sen. Ben Cardin, D-Md., chairman of the Senate Small Business Committee and a longtime advocate of the program, introduced legislation in November that would end its pilot status and make it a permanent part of SBA. Cardin, who will return as committee chairman, included Community Advantage as a part of a wider plan to reauthorize key SBA programs, so achieving permanency will remain a priority when the new Congress convenes in January.
Comments reveal preference for Community Advantage
After making the text of its proposed regulation public on Nov. 7, the SBA opened a comment period that runs through Jan. 6. So far, the comments the agency has received have manifested a surprising level of support for Community Advantage, with commenters claiming the program would get more use if there was more certainty about its future. The Community Advantage pilot is scheduled to sunset Sept. 30, 2024.
For its part, the SBA proposed ending the SBLC moratorium and creating the new class of mission-based SBLCs to boost lending to minorities and other underserved borrowers — one of Administrator Isabella Casillas Guzman's top priorities. The agency labeled Community Advantage an "unviable alternative" in the proposed rule due to historically low lending volume and its absence of any loan activity in some rural and underserved geographic areas.
In a Dec. 15 comment letter, Amanda Peterson, compliance director at Denver-based B:Side Capital, which lends under the Community Advantage pilot and the SBA's 504 program, noted an earlier rule change containing several upgrades to Community Advantage
Peterson linked Community Advantage's relatively low lending volume to the SBA's unwillingness to extend its life for a longer period. "Had SBA paired its [earlier] program reforms with a longer extension of the pilot, lenders would have more certainty to justify the investment in a program to deliver much-needed capital to underserved communities," Peterson wrote.
Peterson suggested extending Community Advantage's life another 10 years through Sept. 30, 2034.
In April, the SBA raised the maximum Community Advantage loan size by $100,000, to $350,000, lifted a separate moratorium on new lenders and extended the pilot program's life, though for just two years — far short of the 10-year extension the agency has the authority to implement. The changes proved effective enough to spark a 40% year-over-year increase in Community Advantage lending, but the program remains a small subset of overall 7(a) activity. Through Dec. 16, Community Advantage loan volume totaled $27.2 million, compared with $5.9 billion for all of 7(a).
In a Dec. 16 comment letter, Matt Davis, president of Southland Economic Development Corp., a Santa Ana, California-based certified development company, wrote that his group has contemplated participating in Community Advantage, "but given its relatively short shelf life we have elected to pass on being an actual lender."
Davis also highlighted that the SBA intends to charge new 7(a) SBLCs, including mission-based SBLCs, a $10,000 fee for their initial safety-and-soundness exam. Costs for additional examinations during each succeeding two-year period could reach $150,000, the agency noted in the proposed rule. That's a heavy lift for small, community-based lenders that often struggle to obtain capital to lend to their clients, Davis said.
"Upfront costs combined with little to no clarity around review costs means we will likely remain on the sidelines if the proposed rule comes to pass," Davis said.
In a Dec. 15 comment letter, Stephen Ursich, executive director of the Northeastern Pennsylvania Alliance Business Finance Corp. in Pittston, wrote that his group favored extending Community Advantage to 2034, adding that "without such certainty, new lenders are reluctant to invest in the program."
NEPA recently applied to join Community Advantage, citing an underserved market in its Pennsylvania footprint, Ursich said.
So far, one mission-based lender, Accion Opportunity Fund, a community development financial institution in San Jose, California, has submitted a comment letter supporting SBA's proposed rule, although Accion raised concerns about the agency's ability to supervise new 7(a) SBLCs.
"SBA must be aware of its limited personnel resources," Joshua Miller, Accion's vice president of research and policy, wrote. "Without the appropriate personnel, AOF is concerned that SBA will not have the capacity to provide proper lender oversight."
Banks, credit unions stand in opposition
Banks and credit unions have been largely silent about Community Advantage, but they have registered strong opposition to the idea of ending SBA's moratorium on additional 7(a) participation by for-profit SBLCs, fearing it would create a path to participation by fintech lenders, an idea the Biden administration endorsed in its Spring Regulatory Agenda.
In recent weeks, banks and credit unions, along with some lawmakers, have argued that fintech lenders were responsible for a
"Fintechs and their partners demonstrated through the Paycheck Protection Program that they failed to adhere to know-your-customer and other fraud prevention mechanisms employed by federally regulated banks," Mark Abell, senior vice president at the $7.9 billion-asset NBH Bank in Greenwood Village, Colorado, wrote in a Nov. 15 comment letter. "As such they may have originated as much as 75% of the fraudulent loans."
Most of the for-profit SBLCs that want to participate in 7(a) "are fintechs, which have proven to be haphazard in their management of their loan process," Gary Henderson, executive director of government guaranteed lending at the $6.7 billion-asset Allegiance Bank in Houston wrote in a Dec. 1 comment letter. "This weakness in internal oversight led to a high level of fraud in the PPP loan program for the Fintech lenders."
"This level of fraud cannot be tolerated in the regular program, as it can damage the reputation of the SBA loan program," Henderson added.
The SBA "may make edits to the final rule based on questions and comments received," and there's no specific timetable for issuing the final rule, an SBA official said Thursday.
