Small Business Finance: Federal-State Economic Development CollaborationsDecember 9, 2015
Small Business Finance
- Topic Overview
Access to capital is a lifeblood for small businesses – it helps businesses expand, hire new workers, build a new factory, or buy a piece of new equipment. Small business financing is a structural problem. While small businesses employ nearly half of Americans, they have difficulty accessing private capital markets. Since the Great Recession, that challenge has been even more pronounced as lenders tightened credit standards and equity investors lost capital assets. For businesses located in rural areas or operated by economically disadvantaged populations, the challenges have grown even greater.
- Federal Role & Priorities
Federally funded small business financing programs attempt to address these market failures by encouraging lenders to operate in rural areas, offsetting risks that result in the private sector offering high interest rates, or addressing the root causes of tightened credit standards. For instance, a loan guarantee program can reduce the risk to the lender if the borrower were unable to pay, but it does little to address collateral shortfalls resulting from de-valued real estate or equipment. While the targeted small business population may differ, most federal programs seek to address credit gaps that exists when bank standards are more stringent than a business’ balance sheet can afford. This may be due to low collateral values, inability to demonstrate sufficient cash flow, or the unaffordability of the cost of credit.
- Major Federal Programs & Activities
The Small Business Administration (SBA) programs are probably most widely known. SBA’s suite of loan programs including the 7(a) Loan Program, Microloan Program, CDC/504 Loan Program, and Disaster Loans. The programs are typically operated either through private lenders or through intermediary nonprofit organizations, including certified development corporations (CDCs) that have small business financing expertise.
Other federal programs operated by the U.S. Department of Agriculture’s Rural Development Administration (RDA) and the Economic Development Administration provide capital for rural businesses while the U.S. Department of Housing and Urban Development’s Community Development Block Grants offer some financing programs for owners from disadvantaged populations.
The US Department of Agriculture (USDA) has a suite of Rural Business and Cooperative Programs that address a variety of needs in rural communities. Business and Industry Loan Guarantees, Intermediary Relending Program Loans, and Rural Microentrepreneur Assistance Program each give loans or loan guarantees with favorable terms to rural businesses. Many of the SBA CDCs also help USDA operate its programs.
The Economic Development Administration (EDA) has long administered the Revolving Loan Fund, which provides capital to funds managed by local development organizations, frequently economic development districts. These funds are intended to support small loans for high-risk projects and provide local organizations with their primary source for capital. The Department of Housing and Urban Development (HUD) distributes funding through the Community Development Block Grant program that is eligible to be used to provide loans for economic development. These programs tend to focus on borrowers from low- and moderate-income areas, with different definitions depending on the administering agency.
Historically states operated their own lending programs independently of the Federal government. About half the states had created their own program before 2010, but those funds were depleted during the state fiscal crisis immediately before and during the Great Recession of 2008-2009. As part of the Small Business Jobs Act of 2010, Congress created two temporary programs, the Small Business Loan Fund (SBLF) and the State Small Business Credit Initiative (SSBCI). SBLF focused on re-capitalizing small banks and SSBCI focused on helping states. SSBCI helped states reinvigorate or create nearly 150 state lending or equity programs with a one-time grant of $1.5 billion to the states, delivered in three tranches since 2011. Most states have drawn down the first two of the tranches and some have already drawn down (and deployed) their SSBCI funds. SSBCI provided the first federal funds that provided resources for true business equity investments beyond program-specific grants.
- State Role
States play a variety of roles when partnering with the federal government. SSBCI gives states the greatest autonomy to meet state-specific small business capital needs. EDA delegates that authority to local development districts. USDA maintains final approval in Washington for loans made under its Business and Industry Program. Many of these programs, including SSBCI, CDBG, and the Revolving Loan Fund, involve the state contracting with an intermediary such as a nonprofit or community banking institution to provide direct loans to small businesses, with the state agency giving oversight.