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Former Banker on How to Recover From Small Business Lending Crisis

06/07/2012 06:50 pm ET | Updated Aug 07, 2012

Co-authored by Victoria Wang

In the mid-1980s, I was a commercial banker in a regional New England bank. I worked with all kinds of organizations -- from startups to multinational companies.

It was difficult for smaller firms to obtain a loan from the bank; they needed to be profitable or backed by venture capital. Otherwise, applicants needed to provide collateral -- usually cash or marketable securities -- and/or personally guarantee the loan. For small businesses, either one of these options made obtaining the financing needed to start or grow a business close to impossible.

Fast forward to 2012, has the picture changed? No! It's still a major challenge for a small businesses to get a loan. Even worse, the number of small bank loans to businesses has fallen to its lowest point in a decade, according to a report released by the FDIC late last year. This, despite the fact that small businesses are the backbone of our economy and central to job creation.

Why? After the 2008 banking crisis, credit became tight for several years. Banks needed to strengthen their balance sheets and found it more prudent/profitable to lend to larger, established companies. Banks view small business loans as being labor intensive, squeezing profit margins. The fact is: it's easier and more profitable to administer a $1 million loan than a $50,000 loan.

Also, the banking landscape has changed dramatically since my days as a lender, further hurting small businesses. Over the past 20 years, most regional and local banks have disappeared, swallowed up by a few mega-national banks, as well as foreign ones, that had no roots in the community.

As a result, lending standards and profit targets on loans were set by headquarters in far flung places, who frankly didn't care about the impact their policies would have on communities. The relationship with a local company and its officers looking to raise capital to expand jobs locally did not factor into their formulas for profit maximization. Thus, small business owners and their communities lost out and continue to do so.

This troubled banking scenario is not only a problem in the U.S., but also in Europe and Asia. Small to medium businesses in Spain that are facing similar difficulties getting loans from their bankers. The EU crisis has some impact on this; however, it's also the merger of many smaller banks with a few large ones, and the focus on maximizing profits that are the main why small business loans are not attractive.

What's a small business to do?

The salvation for small businesses appears to be the community banks that represent just 10% of all U.S. banks. These bankers live in the community. They know the local economic situation. These are the old-fashioned relationship bankers that want to know about the character of the person they lend to rather than the number of zeroes behind the loan request. (NPR did a great story on this recently).

A useful tool for finding these kinds of financial institutions is Bankinggrades.com, which rates banks based on past loan and deposit values. A bank that is graded "A" uses at least 25% of its deposits to make small business loans.

The trouble with obtaining bank loans is something we directly heard from The Story Exchange's profiled entrepreneur Lyn Lee, founder of Awfully Chocolate in Singapore. As you'll see, when Lyn started her company, the banks were nowhere to be found.

Watch her story and tell us this: Have you wanted to start a business or expand one and struggled to get banks to lend to you?

And if you have tips for obtaining a small business loan, please share them here.