How to Keep the SBA Loan Guarantee

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Financial institutions that participate in Small Business Administration (SBA) lending know that the program provides added opportunities to expand their lending activity, generate additional revenue and potentially meet their Community Reinvestment Act (CRA) objectives. It’s exciting when an SBA loan gets to the finish line, closes and funds.

The SBA’s guarantee covering 75% or more of the loan is a big benefit to banks; it significantly reduces the risk and the guaranteed portion doesn’t count against the bank’s legal lending limit. Banks that sell the guaranteed portion of the loan into the secondary market can book the gain on sale as additional income immediately.

But it’s important for bankers to keep in mind that just because the loan secured an SBA guarantee at the time of origination doesn’t mean that it will be there if you need it — that is, if the borrower defaults on the loan for any unfortunate reason. If your institution requests the SBA to honor the guarantee, SBA will review the loan file to make sure the bank properly closed, documented, funded and serviced the loan according to the bank’s approved credit memo and the SBA Loan Authorization. They will review it with a higher level of scrutiny when it is considered an early default, or a loan that defaults within the first 18 months. If the loan file is not documented properly or the bank failed to meet any of the requirements, SBA will issues a repair — or worse, a full denial of the guarantee. For that reason, it is important that your bank has proper procedures in place which include a pre- and post-closing review process to ensure lenders don’t miss or overlook items.

As a lender service provider that provides loan file review services for SBA lenders nationwide, I can tell you that lenders are often surprised about the types of documentation deficiencies that we uncover during a review. The deficiencies typically come from a lack of proper procedures and checklists, lack of training, misinterpretation of the program rules and requirements, or just lacking the appropriate staff to properly conduct pre- and post-closing reviews and monitor important post-close items.

The top five material deficiencies leading to a repair or denial of SBA guarantees are:

  • Lien and collateral deficiencies.
  • Ineligible or unauthorized use of proceeds.
  • Debt refinance eligibility or documentation deficiencies related to debt refinance.
  • Not properly documenting the equity injection or source of equity funds.
  • Not properly documenting disbursement of loan proceeds.

The SBA will also review the loan file for any post-close servicing actions that may have occurred during the life of the loan. These include loan payment deferments, changes to the maturity date, assumption requests, release or exchange of collateral, changes to the ownership structure or release of a guarantor. The SBA expects your institution follow prudent lending standards and SBA program requirements when negotiating a feasible workout structure, considering an offer in compromise or liquidating an SBA loan.

It is imperative for institutions to properly document all service actions, conduct site visits as required and submit a written liquidation plan when appropriate. This is where lenders often seem to fall short and are taken off guard when the SBA comes back with a repair or denial of the SBA guarantee because of such documentation deficiencies.

The key takeaway is that it’s always important, but especially more so now in this economic environment, to properly monitor your institution’s existing SBA portfolio. Make sure your bank has properly trained staff, well thought-out procedures and checklists for all functions and proper staffing in each area. Engaging a third party that has a high level of SBA experience to occasionally review your bank’s files and provide feedback on how well processes are working is a good practice. A highly skilled SBA reviewer can help banks identify potential deficiencies and provide recommendations for best practices that will help them keep those loan guarantees.

3 Reasons to Add SBA Lending

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There were nearly 32 million small businesses in the United States at the end of the third quarter in 2020, according to the Small Business Administration.

That means 99% of all businesses in this country are small businesses, which is defined by the agency as 500 employees or fewer. They employ nearly 50% of all private sector employees and account for 65% of net new jobs between 2000 and 2019.

Many of the nation’s newest businesses are concentrated in industries like food and restaurant, retail, business services, healthy, beauty and fitness, and resident and commercial services. This is a potentially huge opportunity for your bank, if it’s ready and equipped for when these entrepreneurs come to you for financing. But if your bank is not prepared, it may be leaving serious money on the table that could otherwise provide a steady stream of valuable loan income.

That’s because these are the ideal customers for a SBA loan. If that’s not something your bank offers yet, here are three reasons to consider adding SBA lending to the loan portfolio this year.

1. New Avenue for Long-Term Customers
Small business customers often provide the longest-term value to their banks, both in terms of fee income generated and in dollars deposited. But not having the right loan solution to help new businesses launch or scale means missing out on a significant and lucrative wave of entrepreneurial activity. That’s where SBA lending comes in.

SBA loans provide the right solution to small businesses, at the right time. It’s an ideal conversation starter and tool for your bank team to turn to again and again and a way to kick off relationships with businesses that, in the long run, could bring your bank big returns. It’s also a great option to provide to current small business customers who may only have a deposit relationship.

2. Fee Income With Little Hassle
In addition to deeper relationships with your customers, SBA lending is an avenue to grow fee income through the opportunity for businesses to refinance their existing SBA loans with your bank. It broadens your portfolio with very little hassle.

And when banks choose to outsource their SBA lending, they not only get the benefit of fee income, but incur no overhead, start up or staffing costs. The SBA lender service provider acts as the go-between for the bank and the SBA, and they handle closing and servicing.

3. Add Value, Subtract Risk
SBA loans can add value to any bank, both in income and in relationship building. In addition, the SBA guarantees 75% to 85% of each loan, which can then be sold on the secondary market for additional revenue.

As with any product addition, your bank is probably conscientious of the risks. But when you offer the option to refinance SBA loans, your bank quickly reduces exposure to any one borrower. With the government’s guarantee of a significant portion, banks have lots to gain but little to lose.

Five Ways PPP Accelerates Commercial Lending Digitization

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The Small Business Administration’s Paycheck Protection Program challenged over 5,000 U.S. banks to serve commercial loan clients remotely with extremely quick turnaround time: three to 10 days from application to funding. Many banks turned to the internet to accept and process the tsunami of applications received, with a number of banks standing up online loan applications in just several days. In fact, PPP banks processed 25 times more loan applications in 10 days than the SBA had processed in all of 2019. In this first phase of PPP, spanning April 3 to 16, banks approved 1.6 million applications and distributed $342 billion of loan proceeds.

At banks that stood up an online platform quickly, client needs drove innovation. As institutions continue down this innovation track, there are five key technology areas demonstrated by PPP that can provide immediate value to a commercial lending business.

Document Management: Speed, Security, Decreased Risk
PPP online applications typically provided a secure document upload feature for clients to submit the required payroll documentation. This feature provided speed and security to clients, as well as organization for lenders. Digitized documents in a centrally located repository allowed appropriate bank staff easy access with automatic archival. Ultimately, such an online document management “vault” populated by the client will continue to improve bank efficiency while decreasing risk.

Electronic Signatures: Speed, Organization, Audit Trail
Without the ability to do in-person closings or wait for “wet signature” documents to be delivered, PPP applications leveraged electronic signature services like DocuSign or AdobeSign. These services provided speed and security as well as a detailed audit trail. Fairly inexpensive relative to the value provided, the electronic signature movement has hit all industries working remotely during COVID-19 and is clearly here to stay.

Covenant Tickler Management: Organization, Efficiency, Compliance
Tracking covenants for commercial loans has always been a balance between managing an existing book of business while also generating loan growth. Once banks digitize borrower information, however, it becomes much easier to create ticklers and automate tracking management. Automation can allow banker administrative time to be turned toward more client-focused activities, especially when integrated with a document management system and electronic signatures. While many banks have already pursued covenant tickler systems, PPP’s forgiveness period is pushing banks into more technology-enabled loan monitoring overall.

Straight-Through Processing: Efficiency, Accuracy, Cost Saves
Banks can gain significant efficiencies from straight-through processing, when data is captured digitally at application. Full straight-through processing is certainly not a standard in commercial lending; however, PPP showed lenders that small components of automation can provide major efficiency gains. Banks that built APIs or used “bots” to connect to SBA’s eTran system for PPP loan approval processed at a much greater volume overall. In traditional commercial lending, it is possible for data elements to flow from an online application through underwriting to final entry in the core system. Such straight-through processing is becoming easier through open banking, spelling the future in terms of efficiency and cost savings.

Process Optimization: Efficiency, Cost Saves
PPP banks monitored applications and approvals on a daily and weekly basis. Having applications in a dynamic online system allowed for good internal and external reporting on the success of the high-profile program. However, such monitoring also highlighted problems and bottlenecks in a bank’s approval process — bandwidth, staffing, external vendors and even SBA systems were all potential limiters. Technology-enabled application and underwriting allows all elements of the loan approval process to be analyzed for efficiency. Going forward, a digitized process should allow a bank to examine its operations for the most client-friendly experience that is also the most cost and risk efficient.

Finally, these five technology value propositions highlight that the client experience is paramount. PPP online applications were driven by the necessity for the client to have remote and speedy access to emergency funding. That theme should carry through to commercial banking in the next decade. Anything that drives a better client experience while still providing a safe and sound operating bank should win the day. These five key value propositions do exactly that — and should continue to drive banking in the future.

The CARES Act: What Banks Need to Know

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Banks will play a critical role in providing capital and liquidity to American businesses and consumers, and the Coronavirus Aid, Relief, and Economic Security Act (CARES Act) includes several provisions that benefit depository institutions. The implications for bank directors and officers are significant; they may need to make major decisions quickly.

Expanded SBA Lending
The CARES Act appropriates $349 billion for “paycheck protection loans” to be made primarily by banks that will be 100% guaranteed by the Small Business Administration (SBA) through its 7(a) Loan Guaranty Program. The SBA issued an interim final rule on the program on April 2 and has issued additional formal and informal guidance since that date. Application submissions began on April 3. Banks and borrowers will want to move quickly, due to the limited funds available for the program.

Provisions Benefitting Depository Institutions Directly

Troubled Debt Restructuring Relief. A financial institution may elect to suspend the requirements under generally accepted accounting principles and federal banking regulations to treat loan modifications related to the COVID-19 pandemic as troubled debt restructurings. The relief runs through the earlier of Dec. 31 or 60 days after the termination date of the national emergency, and does not apply to any adverse impact on the credit of a borrower that is not related to the COVID-19 pandemic.

CECL Delay. Financial institutions are not required to comply with the current expected credit losses methodology (CECL) until the earlier of the end of the national emergency or Dec. 31.

Reduction of the Community Bank Leverage Ratio. Currently, a qualifying community banking organization that opts into the community bank leverage ratio framework and maintains a leverage ratio of greater than 9% will be considered to have met all regulatory capital requirements. The CARES Act reduces the community bank leverage ratio from 9% to 8% until the earlier of the end of the national emergency or Dec. 31. In response to the CARES Act, federal banking regulators set the community bank leverage ratio at 8% for the remainder of 2020, 8.5% for 2021 and 9% thereafter.

Revival of Bank Debt Guarantee Program. The CARES Act provides the Federal Deposit Insurance Corp. with the authority to guarantee bank-issued debt and noninterest-bearing transaction accounts that exceed the existing $250,000 limit through Dec. 31. The FDIC will determine whether and how to exercise this authority.

Removal of Limits on Lending to Nonbank Financial Firms. The Comptroller of the Currency is authorized to exempt transactions between a national bank or federal savings association and nonbank financial companies from limits on loans or other extensions of credit — commonly referred to as “loan-to-one borrower” limits — upon a finding by the Comptroller that such exemption is in the public interest.

Provisions Related to Mortgage Forbearance and Credit Reporting

The CARES Act codifies in part recent guidance from state and federal regulators and government-sponsored enterprises, including the 60-day suspension of foreclosures on federally-backed mortgages and requirements that servicers grant forbearance to borrowers affected by COVID-19.

Foreclosure and Forbearance on Residential Mortgages. Companies servicing loans insured or guaranteed by a federal government agency, or purchased or securitized by Fannie Mae or Freddie Mac, must grant up to 180 days of forbearance to borrowers who request and affirm financial hardship due to COVID-19 through the period ending on the later of July 25, or the end of the national emergency.

Servicers are not required to document the borrower’s hardship. The initial 180-day forbearance period must be extended up to an additional 180 days at the borrower’s request., Servicers of federally backed mortgage loans may not assess fees, penalties, or interest beyond the amounts scheduled or calculated during this forbearance period, as if the borrower made all contractual payments on time and in full under the terms of the mortgage contract. The law also imposes a foreclosure moratorium on federally backed mortgage loans of at least 60 days, beginning on March 18.

Forbearance on Multi-Family Mortgages. Multifamily borrowers with a federally backed multifamily mortgage loan that was current on its payments on Feb. 1, may request forbearance for a 30-day period with up to two 30-day extensions, during the covered period. Servicers are required to document borrower’s hardship. Borrowers must provide tenant protections, including prohibitions on evictions for non-payment and late payment fees, in order to qualify for the forbearance, and servicers are required to document the borrower’s hardship.

Moratorium on Negative Credit Reporting. Any furnisher of credit information that agrees to defer payments, forbear on any delinquent credit or account, or provide any other relief to consumers affected by the COVID-19 pandemic must report the credit obligation or account as current if the credit obligation or account was current before the accommodation.

Banks Brace for Exploding SBA Loan Demand

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It’s hard to run a small business in the best of times. Right now, it’s all but impossible.

“It took me 11 years to get comfortable and make enough money to create a cushion so I didn’t have to worry if the pub had a slow period,” wrote Natasha Hendrix in a recent Facebook post. Hendrix owns McCreary’s Irish Pub & Eatery in Franklin, Tennessee; she’s also my sister-in-law. Business was doing so well that she closed the restaurant to remodel its bathrooms in advance of St. Patrick’s Day — the Super Bowl for Irish pubs.

The complete evaporation of revenue for a small business like McCreary’s is mind-boggling. In 2016, a JPMorgan Chase & Co. study found that the median small business can survive without cash flow for a little less than a month; a quarter of them can make it just two weeks.

Small business owners are left questioning whether they can survive this severe and sudden downturn. “Everyone in this position has to START OVER. Build again,” wrote Hendrix. “Sure, people CAN do it but the real question I have for myself is … do I WANT to?”

“It’s a time for banks to be heroes,” said Curt Queyrouze, CEO of $827 million TAB Bank Holdings, during a recent digital conference hosted by MX.

A number of banks have announced deferrals on loan payments and are offering additional loans; Queyrouze tells me loan growth for term loans to small and mid-sized businesses had already tripled by late March at Ogden, Utah-based TAB, mostly to bridge expenses to weather the crisis.

But a lot of the relief — up to $349 billion — promises to come through the “Paycheck Protection Program,” a special Small Business Administration loan created through the Coronavirus Aid, Relief, and Economic Security (CARES) Act.

Small businesses can access PPP loans through existing SBA lenders and other participating financial institutions effective April 3; independent contractors and self-employed people can take advantage of the program beginning April 10. The terms are the same for all borrowers — two-year terms at 0.5% interest — and loan payments are deferred for six months. Use of the loans are restricted to payroll costs, including benefits; rent or interest on mortgage obligations; and utilities. The U.S. Treasury has supplied an information sheet for borrowers. (In a late press conference on April 2, Treasury Secretary Steve Mnuchin announced the interest rate on these loans would be raised, to a still-low 1%. The SBA then released an interim final rule with more information.)

Demand promises to be strong for these new SBA loans — many small businesses need cash now. But implementation is proving to be a challenge, and there’s a limited amount of time for small businesses to apply; June 30 is the deadline for the PPP loans. Additionally, there’s concern that the $349 billion in available funds won’t be enough.

At $239 million Farmers State Bank, Small Business Lending President Chris Healy has put in long hours to stay abreast of these changes and get information out to the small businesses in his markets, using email marketing, the bank’s website and videos on its social media channels.

The bank, based in Alto Pass, Illinois, is already an SBA lender and is familiar with the intricacies of the agency’s process. It has also shifted its technology to prioritize these new loans. The process has been iterative, with Healy uploading and sharing new requirements with customers as information provided by the SBA and Treasury evolves. The entire process is digital; Farmers was able to pivot quickly because it already had the technology in place.

Healy tells me roughly 300 small business customers started applications before April 3. That’s 12 times the volume in a normal year — the bank typically closes around 25 SBA loans. However, some worry the industry won’t be able to meet this influx of demand.

In a statement released April 2, the Independent Community Bankers of America cited key barriers for financial institutions. The low interest rate means banks won’t be able to break even on the loans, the two-year terms are incredibly short, and the guidelines are restrictive.

The low interest rate and abbreviated term could limit the availability of these loans, said Chris Hurn, the CEO of Lake Mary, Florida-based Fountainhead Commercial Capital, a nonbank commercial lender, in a recent webinar. Secondary markets won’t be interested in purchasing the loans. The U.S. Treasury has indicated it will purchase them, but a mechanism for doing so hasn’t been made clear.

“We’re still awaiting the final rules of how to do this, but being an experienced SBA lender already, we’re familiar with following their intricate procedures and guidelines and so forth, and this is going to be a significantly stripped-down version of that,” Healy says. However, “the Treasury did shock us … with laying out the terms on the two-year basis and a 0.5% interest [rate].”

A key provision for small businesses is that these loans can be forgiven under certain conditions: if the proceeds are used as required, and employee and compensation levels are maintained over the eight-week period after the loan is made. The intent is to ensure Americans still have jobs after nearly 10 million have filed for unemployment in the past two weeks alone. (Small businesses employ 47% of working Americans, according to the SBA.)

However, guidance is needed on the documentation and calculations that will be required to determine loan forgiveness, said Hurn.

But without the new SBA program, Healy says Farmers wouldn’t be able to support small businesses to the degree necessitated by the crisis. He expects the government to ultimately buy these loans back. “If we do a $5 million loan to help a small business, that’s a big loan for us but we can sell it back to SBA immediately, and they’ll buy it from us at the principal value of the loan,” says Healy.

Small businesses need relief. Long after this crisis has passed, those that survive will remember how banks helped them through it.

The Top SBA Lenders Fuel Small Business

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SBA-loans-4-8-16.pngCalvin Coolidge once observed that “the business of America is business,” and if the 30th president of the United States were alive today, he would probably amend his statement to says “the business of America is small business.”

Indeed, small businesses—or companies with fewer than 500 employees—are the engine of the U.S. economy, accounting for 99.7 percent of all U.S. employee firms, 64 percent of net new private sector jobs and 49 percent of private company employment, according the the Small Business Administration’s Office of Advocacy. However, banking a small business can be an entirely different matter because as borrowers, they tend to fall into a high risk category. Only about half of all new businesses are still around after five years, according to the SBA, and only about a third survive 10 years or more. Most banks tend to be put off by markets where the likelihood of success or failure could be predicted by the flip of the coin.

Enter the SBA’s various loan guarantee programs, particularly its highly popular 7(a) program (named after a section of the Small Business Act passed by Congress in July 1953), which has been very successful in bringing much needed bank financing to the small business sector. In its 2015 fiscal year, which ran through September 30, the SBA approved 63,000 7(a) loans for a record $23.6 billion. In FY2014, the SBA approved 52,044 7(a) loans totaling $19.19 billion. While the 7(a) program’s annual loan totals are still well off their peak in 2007, when they approached 100,000, volume has been increasing since 2009, when demand dropped off sharply as the financial crisis and Great Recession caused many banks to pull back from most lending markets.

There are several SBA loan guarantee programs, including disaster recovery loans, microloans and financing loans for fixed assets like real estate and equipment. But the 7(a) program is the big daddy of them all, and can be used for a variety of purposes, including acquisitions, business expansion, working capital and debt refinancing. A regular 7(a) loan can be for as much as $5 million. Loans up to $150,000 can be guaranteed by the government up to 85 percent. For loans over $150,000, the guarantee limit is 75 percent. These are term loans with one monthly payment of principal and interest, with a maximum maturity of 10 years except for real estate. Real estate can be financed for a maximum term of 25 years.

The leading SBA 7(a) lender in FY2015 based on loan volume was San Francisco-based Wells Fargo & Co., which originated $1.9 billion in loans, followed by Live Oak Banking Co., U.S. Bancorp, JPMorgan Chase & Co. and Huntington Bancshares. Wells Fargo also originated the greatest number of loans in FY2015, at 7,254, followed somewhat surprisingly by Huntington, at 4,337. Wells Fargo—which is the third largest bank in the country with $1.78 trillion in assets—sources much of its 7(a) loan production through a coast-to-coast retail branch network, while $71 billion asset Huntington relies on a much smaller network of 750 branches in six upper Midwestern states, with additional loan production offices in Chicago, Wisconsin and Florida.

Top SBA Lenders in FY 2015
Lender State Approved Loans Approved Amount*
Wells Fargo & Co. CA 7,254 $1,918
Live Oak Banking Co. NC 966 $1,148
U.S. Bancorp MN 3,977 $776
JPMorgan Chase & Co. NY 4,040 $754
Huntington Bancshares OH 4,337 $673
Celtic Bank Corp. UT 1,586 $499
Ridgestone Bank WI 475 $474
SunTrust Banks GA 575 $365
Newtek Small Business Finance NY 391 $356
Seacoast Commerce Banc Holdings CA 325 $293
BBVA Compass AL 1,432 $269
Regions Financial Corp. AL 329 $247
BBCN Bank CA 315 $240
BankUnited Inc. FL 169 $207
Stearns Financial Services MN 490 $205

*Dollar amounts are in millions
Source: Small Business Administration

The top five 7(a) lenders in FY2015 carried their rankings through the first quarter of the SBA’s 2016 fiscal year as well, which ended December 31. Wells Fargo lead the group with 2,379 loans for total volume of $437 million.

Huntington SBA Group Manager Margaret Ference is a big proponent of the agency’s various loan guaranty initiatives, particularly the 7(a) program. “It allows us to invest in our communities and say yes” to small business borrowers who otherwise might be deemed too risky for a conventional commercial loan, she says. Whether the problem is a collateral shortfall, too much leverage or the need for a longer loan term than Huntington would normally provide, the SBA’s backing makes it possible for many small business borrowers to qualify for bank funding who probably wouldn’t be approved for a conventional business loan. “The SBA guaranty is used to mitigate risk, not to make a risky loan,” Ference says.

The 7(a) program is in fact Huntington’s primary small business loan, and the bank views it as an entry level product. The ultimate goal is to engage the borrower in a broader relationship that would include commercial deposit accounts, merchant services and cash management services. “That’s the start of a relationship,” she says.

How to Safely Generate Bank Income Through SBA Loans

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sba-loans-8-19-15.pngSmall Business Administration (SBA) lending is one of the key lending activities that can quickly and dramatically improve the bottom line of a community bank. It is not that difficult for a bank to generate $20 million in SBA loans, which will earn the institution between $1.0 to $1.2 million in pretax net income, if the loan guarantees are sold. Some bankers get concerned because they have heard stories of the SBA denying loan guarantees and that the SBA loan process is too time consuming and complex.

Sourcing SBA Loans
The basic strategies that most successful SBA lenders use to source SBA loans are as follows:

  1. Hire an experienced SBA Business Development Officer (BDO), who can find loans that fit your credit parameters and geography.
  2. Source loans from brokers or businesses that specialize in finding SBA loans.
  3. Utilize a call center to target SBA borrowers.
  4. Train your existing staff to identify and market to SBA loan prospects.

I have put these in the order of which approach is likely to be the most successful. However, ultimately it is the speed of execution that enables one lender to beat out another in the SBA business. So if you want to hire that high producing SBA BDO, the bank needs to have a clear idea of the types of credits that they will approve and a process that can quickly get them approved.

This can create a catch 22 for the lender, since in order to justify hiring SBA underwriters and processing personnel, you have to make sure that you generate loans. But in order to recruit those top performing SBA BDOs, you will need to show them that you have a way of getting their loans closed quickly.

The most effective solution for solving these problems is to hire a quality SBA Lender Service Provider (LSP).  This is the quickest way to add an experienced SBA back shop that will warranty its work and handle the loan eligibility determination, underwriting, processing, closing, loan sale and servicing. This gives the bank a variable cost solution, and allows them to have personnel to process 100s of loans per year. While some of the better LSPs will help the lender with the underwriting of the loan, it is solely the bank that makes the credit approval decision. SBA outsourcing is very cost effective and allows a bank to begin participating and making money with these programs immediately, even if they only do a few loans.

Making a Profit
Let us look at the bank’s profits from a $1.0 million SBA 7(a) loan that is priced at prime plus 2.0 percent with a 25-year term.

Loan amount $1,000,000  
Guaranteed portion $ 750,000  
Unguaranteed portion $ 250,000  
Gain on the sale of the SBA guaranteed portion $ 90,000 (12% net 14% gross)
Net interest income(5.25%-0.75% COF = 4.5%) $ 11,250 (NII on $250,000)
Servicing Income ($750,000 X 1.0%) $ 7,500  
Total gross income $ 108,750  
     
Loan acquisition cost (assumed to be 2.5%) $25,000 (BDO comp, etc.)
Outsource cost (approximately 2.0%) $ 20,000 (per SBA guidelines)
Annual servicing cost (assumed to be 0.50%) $ 5,000  
Loan loss provision (2.0% of $250,000) $ 5,000  
Total expenses $ 55,000  
Net pretax income $ 53,750  
ROE ($53,750/$25,000 risk based capital) 215%  
ROA ($53,750/$250,000) 21.5%  

In this example the bank made a $1.0 million SBA loan and sold the $750,000 guaranteed piece and made a $90,000 gain on sale. The bank earned $11,250 of net interest income on the $250,000 unguaranteed piece of that loan that the bank retained. When an SBA guaranty is sold, the investor buys it at a 1.0 percent discount, so the lender earns a 1.0 percent  ongoing fee on the guaranteed piece of the loan for the life of the loan. This example  did not account for the amortization of the loan through the year.

I believe that the expenses are self explanatory, but you can see if the bank made $20 million of SBA loans using these assumptions, they would earn $1.075 million in the first year.

Conclusion
As you can see, SBA lending can add a substantial additional income stream to your bank; however, you need a certain amount of loan production and a high quality staff, or you need an SBA outsource solution to underwrite and process the loans. As you can see, the ROE and ROA for SBA loans is much higher than conventional financing, which is why you see community banks that have an SBA focus generate higher returns.

How Banks Can Profit from SBA Lending

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4-7-14-SBA.pngAll community banks are looking for ways to leverage their staff, maximize profit, minimize expense and build flexibility into their loan portfolios.

One effective way to do this is to participate in SBA lending and to use an SBA outsource provider to provide your bank with a simple and cost effective way to offer this product.

The primary SBA lending program, the SBA 7(a) guaranty loan, allows the bank to make small business loans and receive a 75 percent guarantee from the U.S. government. The guaranteed portions of these loans can be sold in the secondary market, with current gain on sale premiums of 13.5 percent net to the bank. So if a bank makes a $1 million SBA loan and sells the $750,000 guaranteed portion, it will generate a premium or fee income of $101,250.

In addition, when the guaranteed portion of an SBA loan is sold, the investor buys the guaranty at a rate that is 1 percent less than the note rate. In this example, if you have a $1 million SBA loan at an interest rate of 6 percent and the bank sells the $750,000 guaranteed piece, the investor buys it at a 1 percent discount off the note rate and receives a yield of 5 percent. This means that the bank will earn 6 percent on the $250,000 portion that they retained and 1 percent on the $750,000 or $7,500 per year, not accounting for amortization of the loan. If you compare that $7,500 per year in servicing income to the $250,000 that the bank retains on its books, you can see that it represents an additional 3 percent yield on the retained portion. That 3 percent of servicing, plus the note rate of 6 percent, shows that the bank’s gross yield on the retained portion of the loan is now 9 percent. This additional yield is something to consider if your bank is competing for a loan with a larger bank that is trying to undercut your bank on pricing. The added servicing income will enable you to maintain your yield even on loans that have lower pricing.

While SBA lending can be very profitable, it should be viewed as more than just a profit center for your bank.

The SBA loan guarantee can be used to refinance existing loans to mitigate risk in your loan portfolio or to help retain clients who are close to the bank’s legal lending limits. Using SBA lending to refinance existing bank loans can be helpful in reducing real estate concentrations since properties like hotels, mini storage facilities and care facilities are included as investment properties by regulators. If a bank has these types of properties on their books, they can often refinance the loan and sell the guaranteed portion to reduce a concentration and free up capital. Using the SBA guaranty to make loans that fall into an investment property category is a good way of managing portfolio concentrations.

Why does SBA outsourcing make sense?
Outsourcing your SBA lending department eliminates the need to allocate resources and budget for an SBA department since there are no upfront or overhead costs associated with it. Outsourcing eliminates the risk of hiring an SBA team and then not generating sufficient loan volume to support the cost of that staff. SBA personnel costs are high, and it can be difficult to find qualified people. Also, without an experienced and dedicated SBA group, your loan officers will typically avoid handling SBA loan applications for fear of dealing with the complex SBA rules and process.

Outsourcing also enables a community bank to acquire, through the outsource provider, an experienced staff, which in turn enables it to provide an accurate and efficient process to its SBA borrowers. An SBA outsource provider can efficiently process, document, close, sell to the secondary market and service your loans. Typically these services charge between 0.6 percent to 2 percent of the loan amount.

Conclusion
In today’s competitive market, the SBA program offers too many profit enhancement and risk mitigation opportunities to simply ignore its value. In order to maximize success, bankers need to have every tool available to them.