Brett Simmons has spent the past three years coaxing banks and community development financial institutions to embrace his vision of creating a nationwide secondary market for microloans.
Simmons serves as managing director of the EBA Fund — EBA stands for Entrepreneur Backed Assets — which has sold $22.5 million of CDFI-originated microloans to banks. That's enough to demonstrate the concept's viability, Simmons said.
"We've proven it over the past 30 months. Moving it to the next level is the challenge," Simmons said.
Though CDFI microloans can be as large as $100,000, most are under $50,000, according to Simmons.
While EBA dates to April 2020, it really began hitting its stride over the past six months. The fund sold about 1,200 loans in December. In 2023, Simmons expects the dollar volume of its loan sales to reach between $27 million and $30 million. Simmons would like to see EBA push loan sales to around $100 million a year and outgrow the need for help from banks and foundations who continue to underwrite its operations.
"I'd like to see a self-sufficient model where we don't need philanthropic support," Simmons said. "If we need philanthropy forever, we haven't scaled. We haven't moved the needle."
The supply of CDFI microloans is limited, and banks prefer to purchase them in multiples, rather than a one-loan-at-a-time approach. Because of that, a secondary market requires an intermediary that can hold loans on a balance sheet while it works to arrange sales.
In basic terms, EBA acts as that intermediary. The fund acquires the loans from community-based lenders and offers them for sale to banks, who prize them for the Community Reinvestment Act credit they can generate.
EBA works with approximately 20 CDFI lenders and 18 banks, and to date, the fund has bought a total of $40 million of loans from CDFI lenders, Simmons said. To achieve the goals Simmons outlined without any assistance from Congress, it would have to boost those numbers to "40 to 50 banks and the same number of CDFIs," he said.
If EBA can succeed in scaling that model, it would represent a major step forward for banks, who often find it challenging to purchase microloans directly from the CDFIs who originate them, said Alberto Paracchini, president of the $7.5 billion-asset Byline Bancorp in Chicago.
CDFIs are independent lenders that serve different market niches and use their own highly individualized underwriting processes, so the deals they originate produce "non-standardized, bespoke small loans," said Paracchini, who also serves on EBA's board. Thus, as valuable as microloans are to banks, they often can't justify the time it takes to perform the required due diligence to execute a directly negotiated purchase agreement.
"It's a ton of work," Paracchini said. "We're not talking about millions of dollars of loans. We're talking about thousands of dollars."
An initiative like EBA represents an obvious shortcut for banks interested in adding microloans to their balance sheets. EBA performs due diligence when it purchases a loan, then packages it into a product that allows for streamlined decision-making by a potential buyer. "When this idea came along, we were intrigued," Paracchini said. "We knew how hard it was to do a transaction with a CDFI, much less with multiple CDFIs." Byline bought its first microloan from EBA in 2020 and has been a partner ever since, Paracchini added.
EBA and the broader CDFI community could get a boost with a proposed bill that was introduced on Thursday by Sen. Mark Warner, D-Va., and Sen. Mike Crapo, R-Idaho. The legislation, called the Scaling Community Lenders Act, would provide the CDFI Fund with $100 million to fund six pilot programs chosen on a competitive basis with the aim to develop secondary markets for CDFI products.
Simmons was quick to endorse the Warner-Crapo bill, calling it "a critical step to leverage the CDFI Fund and drive innovation." It faces a highly uncertain future, however. Warner introduced identical legislation in 2022 that failed to advance out of the Senate Banking Committee. If the 2023 version is signed into law, EBA is likely to seek funding, Simmons said.
Ken Thomas, president of Community Development Fund Advisors, said he "applauds any effort to expand credit, especially to low- and moderate-income borrowers." Nevertheless, Thomas said he favored banks working directly with CDFIs, regardless of the effort involved.
"We encourage banks to go directly to CDFIs," Thomas said. "Access to [bankers'] financial expertise is very valuable. That was the intent of the Community Reinvestment Act, for banks to spend time and sweat equity in the community."
For CDFI microlenders, EBA loan sales are still impactful. They allow mission-based lenders to recycle capital, reset their balance sheet and, ultimately, make more microloans to their borrowers — a disproportionate number of whom are women and minority entrepreneurs.
EBA "has been quite a boon for us," said Michael Rapaport, president and chief operating officer of the Accion Opportunity Fund in San Francisco. Accion has sold about 323 loans to EBA over the past 18 months.
"In the past, we would have to find banks to buy our loans. EBA is doing a lot of the heavy lifting now and we're getting a nice premium."
As part of EBA's business model, CDFIs continue servicing the loans, an arrangement that works for both buyer and seller, Paracchini and Rapaport said.
"We've always worked closely with CDFIs," Paracchini said. "They're the better-equipped financial institutions to offer, originate and service microlenders."
For CDFI microlenders, retaining servicing means they can "retain empathy and help [borrowers] through any difficulties," Rapaport said.
While Rapaport called Accion's decision to do business with EBA a "no brainer," both he and Simmons acknowledged some CDFIs have been hesitant to buy into the idea of selling their loans. "They're saying, `We've worked really hard to make these loans, now you're telling us we should sell them,'' Simmons said.
EBA will have to "change the mindset that you're making loans and keeping them on the books for years and years," Rapaport added.
