Have you ever applied for a loan at your bank only to be declined after jumping through hoops and getting the run around for weeks on end?
As hard as it might be to accept, there are a lot of good reasons for the bank’s behavior. According to the Federal Reserve, banks decline 8,000 loan applications every day. One banker told me recently he believes the actual number is closer to 80,000 per day because bankers do everything possible to kill or withdraw an application they know will be declined, before they need to officially report it to the Regulators. This avoids a tremendous amount of additional paperwork and regulatory scrutiny.
Another reason banks don’t want to lend your small business money, is they can’t make a reasonable profit. A recent independent study performed for the Equipment Leasing & Finance Foundation showed that on an average $100,000 loan, a community or regional bank would earn from negative $600.00 to $150.00 net income. That’s not a typo. Most bank actually lose money on a $100,000.00 loan. By the way, this is also on an interest only loan where they accrue the highest possible interest charges. They put $100,000 at risk and the best they can do is earn $150.00. As a result, most banks need to pursue loans closer to $1 million before they can anticipate a reasonable profit for the risk. Keep in mind, the above assumes the loan is paid in one lump sum at the end of the term with no principal reduction. If the Borrower pays the loan in monthly or quarterly payments including principal reduction, the net income would be reduced even further as total interest charges would be even less.
In addition, the increased regulation from multiple federal & state agencies continues to drive costs for the banks upward. This results in higher costs to customers in both time and money. Even when you do receive the loan, the true costs when valuing your time and accounting staff, compensating balances, covenants and restrictions can be far greater than alternatives. Bank capital is surprisingly expensive in true costs.
With increasing regulatory pressure and unintended consequences of the new regulations, a wise business person will diversify its sources of capital. It’s always dangerous to have all your eggs in one basket. What may seem like a higher rate may actually be a lower cost in addition to a wise investment to diversify your capital availability.