Microloans assist the smallest of small businesses

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September 26, 2017


Key Points

Government-sponsored microloans

  • Loan amounts: U.S. Small Business Administration and Department of Agriculture microloans can be for as much as $50,000, although the average SBA microloan amount is $13,000.
  • Eligible businesses: The SBA microloan program is designed for very small businesses, including home-based businesses and nonprofit child-care operations. USDA microloans are for rural businesses with fewer than 10 employees.
  • The process: Borrowers obtain funds through nonprofit intermediaries partially funded by the government.

Some U.S. Small Business Administration (SBA) borrowers stretch the idea of "small," given the agency’s size standards include companies that have up to 1,500 employees and $38 million in annual revenue. There are federally supported lending programs, however, that specialize in serving unquestionably small businesses — including one-person companies.

The SBA's microloan program serves very small businesses, such as freelance, online and home-based businesses, as well as some nonprofit child-care operations. The average amount lent under the program is $13,000, although the program can fund loans of up to $50,000.

Intermediaries make loans

As with most SBA programs, microloans are not issued directly by the federal agency, but in this case the loans are not handled by traditional banks or other private lenders, either. Instead, the lending decisions and administration of the microloans are overseen by nonprofit organizations, known as intermediary lenders.

The SBAs role is to lend money to the intermediaries. That money is then combined with the intermediaries own funds, which must equal 15 percent of any loan received from the SBA.

Microloans can be used for working capital and the acquisition of material, supplies, furniture, fixtures and equipment. Loans cannot be used to acquire land or property, however. To qualify for a microloan, borrowers need to show that they have tried to obtain financing from private lenders. In most cases, the intermediary lenders require some type of collateral, as well as personal financial guarantees from the business owners.

Although larger loans are authorized, the SBA says it discourages intermediaries from lending more than $10,000 at a time. Loans of more than $20,000 are prohibited unless the borrowers can show that they have been turned down elsewhere for comparable loans and that their ventures have a good chance of success.

An SBA formula establishes the interest rate for the loans. The intermediaries pay the SBA interest on loans provided to them at the five-year Treasury-bill rate. The intermediaries cannot charge borrowers more than 7.75 percent over their cost of funds for microloans of more than $10,000, or 8.5 percent for microloans of $10,000 or less.

Borrowers negotiate loan-payback periods with the intermediary lenders. Six years is the maximum loan term allowed in the microloan program, and the average loan term is a little over three years.

The intermediary lenders are community-based organizations that typically offer other types of non-SBA microloans, sometimes in conjunction with local credit unions. They also offer technical and business-management assistance — sometimes in conjunction with local educational institutions — and often require borrowers to take part in education programs as a requirement for microloans.

For those interested in the SBA microloans, the process starts with applying for funding at one of the intermediary lenders.

Rural microloans

The U.S. Department of Agriculture (USDA) spends about $16 million per year on similar microloans. The Rural Microentrepreneur Assistant Program (RMAP) makes loans of up to $50,000 to businesses in rural areas with 10 or fewer employees. The loans are originated and administered by nonprofit groups known as Microenterprise Development Organizations (MDOs), which receive grants and loans from the USDA to support their lending.

USDA state offices have information for borrowers about finding MDOs, and the department's website shows rural areas that are eligible for the RAMP program.

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