Bank, Loan

Traditional Banks and Small Businesses: What went wrong?

Not a long time ago, it used to be easy to approach your local bank with your new business idea and get loans with reasonable terms disbursed in a few days. However, almost 12 years after the infamous financial crash of 2008, banks across the globe remain reluctant to disburse loans to small and micro business enterprises. 

Applying for a loan, despite advances in tech and infrastructure, is still a cumbersome process for small and micro businesses, who often depend on loans from banks for growth and development, and in some cases, even survival. Disheartened by the unenthusiastic responses from banks, many small and microbusiness owners are attempting to raise funds via alternate sources, including from personal or business credit cards, or crowdfunding. However, the challenge is that these other sources might sometimes be too costly, ultimately leading to bankruptcy. It’s not the ideal way to manage small business finances

There are multiple reasons why banks would rather not bet on small and micro businesses any more, but the primary factor has to be the impacts felt by the 2008 recession. Banks and governments alike want to avoid a repeat of the crash and have hence made stricter and tighter policies regarding loans and mortgages. Here is a comprehensive list of the major things that went awry in the relationships between banks and small businesses

Regulations and policies

The 2008 recession has directly caused an increase in the number of rules, regulations and policies with regards to loan disbursals. Banks are expected to be extremely careful about the risk involved in their investments. Usually, small businesses tend to be risky, as compared to large businesses and hence, experience challenges acquiring funding through traditional banks. Though a lot has improved over the last decade, it is reported that the number of loans disbursed to small businesses have gone down by 20% from before 2008, and 80% of all bank loans applied by small businesses are now rejected

Small loans = Smaller Profits

To maximise profits, and increase the wealth of all stakeholders, banks prefer to fund large business loans as compared to small business loans. The profits earned through loan disbursals tend to go higher, as the loan amount increases. Small businesses tend to seek small business loans, and as a direct result, their requests are usually declined as the banks simply have better alternatives to use their fund for.

Lack of collateral

Most loans require collaterals and securities, as a hedge against the risk of default. In fact, the loan amount disbursed, can directly be linked to the value of the collateral placed with the banks, making acquiring loans of significant value a cumbersome process for small businesses, even if they have collateral for the loan. In case of businesses just starting out, or businesses with minimal fixed assets/investments will have almost no hope for acquiring a bank loan using the traditional sources

The downturn in community banking

Historically, It was easier to acquire a loan from a community bank than a big, traditional bank for small businesses. Community banks tend to have a high loan approval rate for small businesses, and often have personal relationships with the local business owners. It’s easier for those bankers to assess creditworthiness without having to rely on algorithms. This is especially the case for new small businesses, as they tend to not have sufficient data for proper credit evaluation, often leading to loan rejections. The last decade has seen the big banks consolidating, and eventually, the number of community banks in existence has gone down significantly.

Inconvenience

It’s not just about banks not approving loans anymore. There are a number of major inconveniences motivating small business owners to seek alternatives to traditional banking.

  1. The banking process, as a whole, is time-consuming and hasslesome
  2. The high costs of short term loans
  3. Lack of proper support for payment gateways, and online integrations
  4. High charges levied for annual maintenance
  5. Though technology has developed considerably, the banking sector has still not adopted any of the new disruptions, such as blockchain.
  6. Ease of use is a term not commonly associated with traditional banks

Since the recession of 2008, the relationship between traditional banks and small businesses and freelancers have certainly gone awry. At Salt, we’re well aware of the various shortcomings and seek to deliver considerable improvements in the banking experience for small businesses. Join our waitlist now!

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