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Lending in Rural America – Growth Opportunities for Community Banks

Lending in Rural America – Growth Opportunities for Community Banks

As community and regional banks continually strive to expand their lending capabilities, it has become increasingly important to understand the many guaranteed loan programs offered by the federal government. Understanding the scope of these programs can significantly impact a bank’s ability to expand beyond its traditional “footprint,” while adhering to strict bank underwriting and regulatory requirements.

An often missed expansion opportunity for many banks is lending in rural areas – an area of lending the U.S. government has been supporting with government guaranteed loan programs since the Depression.

The United States Department of Agriculture (USDA) provides loan guarantee programs designed specifically to facilitate loans to credit-worthy rural businesses through its Rural Development Business and Industry (B&I) Guaranteed Loan Program. This program guarantees loans made by B&I program eligible lenders with the goal of creating economic prosperity for Americans living in rural areas.

While both SBA 7(a) and B&I loan programs provide loan guarantees, the programs operate independently. To qualify for the B&I program, borrowers must be located in areas other than a city or town that has a population of greater than 50,000 residents and the urbanized area contiguous and adjacent to such a city or town.

Similar to SBA 7(a) and other loan programs, lenders originate B&I loans to businesses and consult on these loan opportunities with each individual state’s USDA Rural Development (RD) state office. RD has an extensive network of state and area offices that work closely with lenders in processing and servicing B&I loans – enabling lenders and borrowers to work with a loan specialist in their state throughout the entire loan process. Program eligible lenders are responsible for the preparation of the loan application, ensuring credit quality of the borrower via comprehensive credit underwriting, creating the required loan documentation, distribution of loan funds, and loan servicing. In addition, lenders are responsible for consulting with borrowers for the development of a comprehensive environmental impact analyses (if deemed necessary) by the RD office.

Benefits to Banks Participating in the B&I Program

Community banks in particular often find the B&I Guaranteed Loan Program effective in expanding their commercial lending business because the federally guaranteed portion does NOT count toward a bank’s lending limit. Therefore, the utilization of a B&I Government Guaranteed Loan Program enables lenders to make larger loans to borrowers than typically permissible under the bank’s lending limits.

B&I loans can also help community banks increase profitability by minimizing credit risk exposure and expanding the playing field for business loan origination – which ultimately allows banks to earn greater fees and interest income on loans they would likely have never underwritten under a bank’s standard credit underwriting criteria.

To follow are a few additional benefits the B&I Program can provide banks:

  • Ease of Processing – Lenders may use their own bank’s forms, loan documents and security agreements.
  • Credit Exposure Mitigation – The federally guaranteed portion of the loan is protected against loss – thereby reducing any participating lender’s credit risk exposure.
  • Capital Requirements – The federal guarantee lowers a lender’s risk-weighting for capital reserve requirements because under the B&I program, loans receive preferential capital treatment – which is much lower than for non-guaranteed loans.
  • Liquidity Options – Lenders can take advantage of many liquidity options as there is an active secondary market for B&I guaranteed loans. This process can generate significant fees as loans can be sold for a premium, depending on the loan structure and current market conditions.

Borrower Eligibility and Loan Utilization

Eligible business borrowers include manufacturers, retailers, wholesalers, and service providers operating as partnerships, individuals, cooperatives, for-profit and nonprofit corporations, including publicly-traded companies, tribal groups, or public bodies. Any size business may be eligible, but there are certain industries that may be restricted.

Typically, B&I loan proceeds are utilized for business acquisitions, expansion, repairs, the purchase and development of land, purchase of machinery and equipment, supplies and inventory, working capital, startup costs, and debt refinancing. In cases where a debt refinancing is required, the refinancing must improve the business’ cash flow while also creating or saving jobs.

And, let’s not forget the borrower! Borrowers utilizing B&I program loans also benefit because the B&I loan guarantee often results in better loan terms and pricing for the borrower compared to a conventional loan.

Common Loan Structures

  • The maximum guarantee is 80 percent for loans up to $5 million, 70 percent for loans between $5 million and $10 million, and 60 percent for loans exceeding $10 million.
  • Loan amounts typically may not exceed $10 million. However, at the RD’s discretion, the loan limit may be increased to $25 million, and in some cases, the USDA Secretary may approve guaranteed loans in excess of $25 million (not to exceed $40 million), for rural cooperative organizations that process value-added agricultural commodities.
  • Loan terms range depending on the usage of funds with terms typically ranging from 7 to 30 years. This range is dependent upon whether the loan will be utilized for working capital, real estate, equipment or facility improvements.
  • Interest rates may be fixed or variable (or a combination of fixed and variable), and are negotiated between the lender and the applicant.
  • Collateral is a requirement and the documented value of the collateral must be sufficient to protect the interest of both the lender and the agency.
  • Typically, unconditional personal and corporate guarantees are required from the individuals and/or entities owning 20 percent or more of the borrowing entity.
  • Renewal fees are paid annually by the borrower. The amount of the annual renewal fee is established by RD and the annual renewal fee established at the time the loan is originated typically remains unchanged for the life of the loan.

To learn more about the many government guaranteed loan programs offered by the U.S. Department of Agriculture and the Small Business Administration, please call or e mail Michael Ryan at (610) 733-9955 or mryan@innovfs.net.

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