Banks Are Overlooking Small Companies That Want Credit, Fed Report Says

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Banks that lend to small businesses may have overlooked thousands of qualified loan applicants, according to a report released Monday by the New York Fed.

Three out of four small businesses received only "some" or "none" of the credit they applied for in 2010 -- and half of small business loan applicants were flat out rejected.

Meanwhile, small business demand for credit was considerably stronger than it's been in previous years as 59 percent of small business owners applied for a loan in the first half of this year, compared with about 55 percent in 2009 and 40 percent in the pre-recession period, according to the New York Fed's data.

The 2010 data, drawn from the Fed's survey of 426 companies with less than 500 employees, challenges a common claim by banks that they're not lending to small businesses because small businesses aren't looking to borrow."As a bank that wants to make small business loans, we can't find the borrowers," a bank executive told MarketWatch. Another bank executive, JP Morgan's Jamie Dimon, told investors last week that he expects bank lending to rise as customer demand rises and businesses need more capital to expand. Many companies that have not borrowed are, he said, "just waiting for more orders."

While it is true that small companies have suffered from weak demand -- nearly seven out of 10 small businesses the NY Fed surveyed reported revenue declines over the last two years -- the majority of small companies still sought credit in the first half of 2010. And, according to the NY Fed, those companies were refused it more than half the time.

"But those who like to bash banks might want to hesitate before complaining that banks are not lending enough," writes Floyd Norris in The New York Times. "After all, this crisis -- and the recession that arrived with it -- was caused by banks lending too much, at credit standards that were too low."

Qualified borrowers may be hard to find. Or, perhaps banks just aren't looking hard enough. As the NY Fed notes in its most recent report, "lenders are likely overlooking credit applicants that are viable, or near-viable."

To mitigate instances of banks denying potentially good customers credit, the report urges lenders to institute "second-look programs." Instead of only reviewing applications electronically, which is common practice at big banks, the NY Fed recommends that actual bank employees take a second look.

"If a second look were given to all applicants denied credit that reported sales/revenue growth to be nondeclining (either neutral or positive) in the recent period," the report says, it "would affect one out of five such applicants and, if they were accepted for credit, would lower the denial rate from 22 percent to 19 percent." For firms established for more than five years, second looks would reduce the overall denial rate by nearly the 13 percentage points, the NY Fed claims.

For their part, several big banks have said they're boosting resources to provide additional small business lending. Bank of America announced this month that it would hire over 1,000 small business bankers by 2012. Earlier this year, Citigroup announced a new $200 million fund for small business lending in low-income communities.

Check out the New York Fed's Credit Process Guide For Small Business Owners here, and read the New York Fed's full report below:


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