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Recent dynamics of the small business lending market

A deep understanding of the small business lending landscape and potential efficiencies can help banks and credit unions grow their portfolios.

You might also like this guide for smarter, faster small business lending.

Dynamic market

Small businesses are a pillar of the U.S. economy, and access to financing often plays a crucial role in their survival and success. Small business lending is also a prominent line of business for many financial institutions, especially those driven by a mission to help their communities thrive.

However, small business lending can be costly and time-consuming for banks and credit unions. Some of the factors that can make small business lending a lower-return venture than other types of lending are the same ones that lead to costly and frustrating experiences for small business owners. This article outlines some of the math behind small business lending and its profitability and suggests ways for banks and credit unions to better serve this important market while earning appropriate returns.

The piece covers:

The small business lending market and its role in communities and the economy
Traditional depository institutions’ changing market share in small business lending
The challenges (financial and operational) of small business lending for banks, credit unions, and borrowers.
Options that create lending economies of scale and better borrower encounters.

Role of business loans

Small business lending is a large and growing market, and many banks and credit unions want more of it. Record new business formation and a wider gap between U.S. establishments' birth and death rates compared to the last business cycle have some financial institutions eager to meet the credit needs tied to this small-business boom.

Data on the small business lending market is fragmented and incomplete. But the Consumer Financial Protection Bureau’s (CFPB) last detailed review estimates it grew 21% to $1.7 trillion between 2019 and 2022. The market surged to as high as $2.4 trillion in 2020 as a result of COVID-19 relief programs.

Demand for small business financing is driven by many factors, not least of which is small businesses' vital, ongoing role in the U.S. economy.

Consider the following small business facts:

Nearly all American businesses (99.9%) are small, generally defined as having fewer than 500 employees.
The 33.2 million small businesses in the U.S. employ roughly half of all Americans in the labor force and drive nearly 44% of GDP.
Small businesses created nearly two-thirds of net jobs in the last 30 years
Small businesses represent 97% of exporting firms.

Despite their essential economic role, small businesses are notoriously risky. The U.S. Census Bureau says a fifth of small businesses fail within the first year. Between 1994 and 2020, nearly a third of new employer establishments didn’t last more than two years, and the 15-year survival rate was 26%.

Indeed, most small businesses require external financing to survive and grow. The Fed’s latest Small Business Credit Survey, conducted in 2023 and released in 2024, found that nearly 60% of employer firms had sought financing in the previous 12 months. Almost half sought credit to grow their businesses, and 28% applied to make repairs or replace capital assets. At the same time, 59% pursued credit to meet operating expenses. A majority of applicants sought less than $100,000.

While small business loans inherently benefit business owners, they also benefit communities, according to 2021 research for the SBA. Small business loans “have large and significant effects on employment growth and job creation, particularly for firms with less than 100 employees.” Loans of less than $100,000 showed the strongest impact.

"[H]igher shares of small business loans ... are associated with higher asset growth rates."

Lending to small businesses can help financial institutions, too. The research for the SBA found that higher shares of small business loans in the portfolio are associated with higher asset growth rates. The strongest effects are seen among banks with less than $10 billion in assets.

Major players in SMB loans

Financial institutions are major players in small business lending, but their roles are shifting.

The CFPB is implementing new small business lending data collection rules in part to improve the data on this fragmented and complex market. Meanwhile, the agency says banks, credit unions, and other depository institutions accounted for 80% of the 8,200 financial institutions active in small business financing in 2019. With $580 billion in private-term loans and lines of credit and $62 billion in credit cards, they accounted for 56% of the small business financing market.

As a share of their total assets, community banks have more business loans below $1 million than larger banks, according to the St. Louis Fed:

[S]mall-business loans—i.e., loans less than $1 million—accounted for 12.6%, 11.1% and 7.9% of total assets at three different sizes of community banks (those with $250 million or less in assets, those with more than $250 million to $1 billion in assets, and those with more than $1 billion to $10 billion in assets, respectively.) Larger banks, those with assets of more than $10 billion, held just 3.6% of their total assets in small-business loans.

However, big banks are increasingly where small businesses apply for credit. Fed survey data show that lower percentages have said they applied at small banks in each of the last three years.

Online fintech lenders and merchant cash advance providers are also making up ground. Small business financing by merchant cash advance providers was as much as $19 billion in 2019, the CFPB figures. Online fintech lenders had a market share of about $25 billion.

As smaller banks seek to win more small business loans and credit unions expand more into member business lending, it's important to consider some of the complexities they'll face. It also helps to understand how those issues affect borrowers. As a St. Louis Fed economist noted, small businesses “frequently encounter obstacles to accessing capital because banks face challenges in lending to them.”

See how Dover FCU speeds up its lending processes.

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Business lending complexities

As noted earlier, small businesses bring inherently higher risk, so lenders have unique considerations during underwriting. Among additional challenges that complicate the small business financing process:

Small businesses often have shorter track records of operating, making it harder to assess their creditworthiness.
Evaluating smaller loans is also complicated by how little public information exists about the performance of most small businesses and by the fact that many lack detailed balance sheets and other financial information often used by lenders in underwriting small business loans.
Each small business has a distinctive business strategy, customer base, and mode of operation —factors that make small business loans harder to monitor than those for large corporations.
Small businesses often lack substantial collateral.

CFIs can navigate the complexity, but...

Community financial institutions’ insight, experience with local economic conditions, and strong relationship banking with small businesses in their service areas help them navigate the complexity. However, lenders can spend as much time processing a $50,000 loan as a $5 million loan, which limits their ability to take advantage of operational efficiencies from volume increases.

Lending processes at many banks and credit unions impair their growth efforts. A 2022 report by industry research firm Datos, formerly Aite-Novarica, said lenders have limited levels of automation in a market that requires scale, speed, and loan application volume for success. It found that 47% of examined lenders have highly manual operations, with just 16% describing their operations as highly automated with reasonable digitalization.

As former SBA Administrator and Senior Harvard Business Fellow Karen Mills has noted, lenders’ processes are also taxing on their borrowers:

For loans, most small businesses still go from bank to bank, filling out applications and submitting significant amounts of paperwork in a process that takes 24 to 34 hours according to a recent Federal Reserve survey. The personal underwriting process is largely paper-intensive and manual, often done with the aid of [E]xcel spreadsheets, and there is a reliance on personal credit scores, particularly in the larger banks. The response times are slow, often several weeks and even months until borrowers are approved or denied.

The large number of lenders, the absence of standard application requirements, and substantial differences in credit costs among lenders result in business owners spending time navigating the market. They’d rather invest that time in growing their revenues and profits.

Innovation

Banks and credit unions looking to grow small business lending in a way that fits their customer or members' needs along with the institution’s risk, return, and strategic goals are increasingly revamping their processes and systems.

Fundamental inefficiencies they address with automated workflows configured to their needs and market demands include:

Duplicate data entry, where staff have to enter the same data into multiple systems
Returning to the borrower multiple times to collect necessary documents
Storing borrower documents in various systems so it’s unclear what information has and hasn’t been collected
Difficulty tracking the loan stage due to multiple people working on a single credit
Re-spreading financials for a borrower when new information is collected
Manually aggregating data needed for loan committee presentations
Manually adjusting loan proposals if the loan committee recommends changes

Small business loan origination software that allows automation from origination through closing but is flexible enough for a lender to step in when needed allows financial institutions to offer faster decisions and funding. Here are a few additional benefits of effective lending software tailored for small businesses:

A user-friendly online application that can be completed by the borrower or with a lender’s assistance means the small business owner can apply when and where they want, and staff can avoid repeated data entry. When a small business owner can upload supporting documents securely anytime from anywhere, the bank or credit union spends less time chasing documents. Analysts can begin analyzing the borrower more quickly when financial spreads are automated and when an AI-powered decisioning engine provides a loan score in seconds.
Loan proposals and loan committee presentations are prepared more quickly and are easier to review with workflows and templates that align with your loan policy.
Small business borrowers are offered faster decisions and streamlined processes for all types of credit. They expect them from their primary financial services provide.

Financial institutions can grow their small business lending portfolio while managing risk if they capitalize on automation, which allows them to offer better loans and customer or member experiences.

Conclusion

Given the role of banks and credit unions in business lending, the interplay between small businesses and financial institutions is critical for the U.S. economic ecosystem.

Despite the complexity and risks, small business lending has immense potential rewards—both economic and social. Banks and credit unions that harness innovation, improve efficiencies, and foster a deeper understanding of the small business lending landscape can better serve this crucial sector and ensure their own growth and stability.

As the market dynamics evolve and new data becomes available, institutions that adapt and refine their strategies will secure their role as pivotal players in community development and economic vitality.

Win more small business deals and grow market share.

abrigo small business lending

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New timelines for small business loan data collection and reporting

The CFPB 1071 rule was effective in 2023, but section 1071 compliance dates will be extended following a Supreme Court ruling, according to the CFPB. The 1071 compliance dates are for collecting and reporting data on small business loan activities.

You might also like this one-page summary of key dates and deadlines for complying with the 1071 rule.

This post was updated to reflect new compliance deadlines announced by the CFPB on May 17, 2024.

Final rule

As they do with any new requirement, financial institutions want to know when the CFPB 1071 rule is effective and when they must begin collecting and reporting data on their small business lending activities.

The effective date of the Consumer Financial Protection Bureau’s (CFPB) new rule was originally 90 days after the final version was published in the Federal Register (i.e., June 28, 2023, based on the Code of Federal Regulations and the March 30 publication). However, compliance deadlines for affected financial institutions are tiered so that small business lenders originating the most transactions begin reporting data earlier than less active small business lenders.

A Texas judge had stayed compliance deadlines pending a Supreme Court ruling over the constitutionality of CFPB funding. Following the Supreme Court's decision in favor of the CFPB on that issue, the agency said it intends to extend the 1071 rule’s compliance deadlines. The CFPB will issue an interim rule outlining the new 1071 compliance dates and filing deadlines as follows:

a chart of the tiered compliance dates from the CFPB rule

Source: CFPB

Despite the seemingly long runway to prepare, it's not too early to get a handle on the new requirements and how they will affect a bank or credit union. With the changes, many financial institutions face the most significant data collection and reporting effort in nearly 50 years. Given this scope, lenders need to begin assessing now how and when they will comply.

For more than a year, Abrigo has helped hundreds of bank and credit union staff members learn more about 1071 and how to prepare for it. Webinars, podcasts, and whitepapers provide tips for capturing small business loan data, storing it, and reporting it to the CFPB to comply with the required timelines.

Below are details on important dates for 1071 compliance and what the changes involve.

Which FIs must comply

Before discussing 1071 compliance dates, it’s helpful to understand the rule’s goals and which financial institutions it affects.

The final rule implements section 1071 of the Dodd-Frank Act by amending the Equal Credit Opportunity Act (ECOA), or Regulation B. The CFPB small business lending regulations are being included as subpart B of Reg B and aim to support and enforce the fair lending requirements. CFPB intends the data collected by lenders on each small business credit application to shed light on potential disparate treatment in loan terms, especially related to minority-owned small business applicants, including women-owned small businesses. Reporting on the data is also expected to help identify small business owners’ needs and credit opportunities. A CFPB compliance aid lists 81 data fields for information lenders must collect and report.

Which lenders are counted as “covered financial institutions” in the 1071 rule?

The rule outlines that any company or organization engaged in lending activities is covered.

Would you like to stay up to date on CFPB 1071 implementation?

This means that in addition to banks and credit unions, other lenders subject to the rule’s mandates are finance companies, online lenders, Community Development Financial Institutions (CDFIs), government lenders, and nonprofit lenders.

Tiers determined by transaction volume

Each reporting tier and its associated deadline is determined by the number of covered transactions to small businesses that a lender originated in both 2022 and 2023.

In fact, a company or organization must have originated at least 100 covered credit transactions in 2022 and 100 in 2023 to fall under the rule’s requirements at all (i.e., be considered a “covered financial institution”) once the rule is effective.

What is a covered transaction? The CFPB generally describes it as a request for any of the following:

Loans
Lines of credit
Credit cards
Merchant cash advances
Credit products used for agricultural purposes

Requests for additional credit on an existing loan are not counted as originations for the purpose of determining a covered financial institution.

What is an application under the CFPB 1071 requirements?

For data collection and reporting, financial institutions must track applications they receive for covered transactions, as opposed to solely tracking originations. What is an application under the CFPB 1071 rule? It is an oral or written request for a covered credit transaction that is made following the procedures used by a financial institution for the type of credit requested. This means that lenders must track data not only related to approved and booked credit but also applications that are any of the following:

Withdrawn
Incomplete
Denied
Approved by the lender but not accepted by the applicant

A re-evaluation, extension, or renewal request on an existing business account is excluded from the definition of covered applications as long as the request seeks no additional credit. Inquiries and prequalification requests are also excluded.

How a lender defines an application as incomplete or withdrawn can vary from financial institution to institution, noted Abrigo Senior Advisor Paula King, CPA, who is already working with financial institutions to plan for and prepare 1071 reporting.

The CFPB “has left it up to financial institutions as to where you feel the cutoff is for an incomplete application” or a withdrawn application, she said. Regardless of how the bank or credit union defines these application resolutions, the lender should spell it out in the loan policy, King added. Loan policies should also clarify how a counteroffer by the lender will be treated.

Which credit transactions are excluded from 1071?

Several types of transactions are excluded from the CFPB’s requirements to report on applications. Among those considered excluded transactions:

Letters of credit
Trade credit (i.e., financing arrangements such as accounts receivable with a business providing goods or services)
Public utilities credit
Securities credit
Incidental credit defined in Regulation B as exempt (e.g., not payable in more than four installments; not subject to finance charge)
Factoring
Leases
Consumer-designated credit used for business/ag purposes, such as taking out a home equity line of credit or charging business expenses on their personal credit cards
Purchases of originated covered credit transactions
Applications with potential HMDA and section 1071 overlap: CFPB does not require reporting under section 1071 (transactions would only be reportable under HMDA)

A final component of the rule that is useful in understanding the various deadlines for 1071 reporting is the CFPB’s description of what constitutes a small business. An applicant or borrower is considered a small business if it is a business (including agricultural) that had $5 million or less in gross annual revenue for its preceding fiscal year before applying.

Earliest deadline is 2024

The earliest reporters are those that have originated at least 2,500 small business loans covered by the rule in 2022 and at least 2,500 in 2023. These financial institutions must begin data collection in July 2025 and continue through the end of the year, based on the CFPB's announced updated timeline. The data collected needs to be reported by June 1, 2026. For following years, lenders must collect data for the full year and report it by the following June 1.

The second tier of deadlines covers financial institutions with at least 500 covered originations each year during 2022 and 2023. This group of small business lenders must begin collecting data on Jan. 16, 2026, and they must report data collected for the entire 2026 year by June 1, 2027.

The last group of lenders required to collect and report data on small business loan applications is financial institutions with at least 100 covered originations each year during 2022 and 2023. These banks, credit unions, and other lenders have to begin collecting data on Oct. 18, 2026, and they are required to report the 2026 data by June 1, 2027.

The CFPB has produced an info sheet with more details and examples of when financial institutions must begin collecting data and complying with the small business lending rule.

In this document, the bureau notes that if an institution determines it’s not required to comply with the rule in 2025 or 2026, it must nevertheless determine in subsequent years whether it must, based on whether it originates at least 100 covered originations in each of the two calendar years immediately preceding the year in question. The document was written before the Supreme Court ruling that prompted the extension of the compliance dates for 1071, so it's likely to be updated.

We can help you navigate 1071 deadlines and compliance. In addition to our 1071 resource page for lenders, which has updated information to help prepare for the new requirements, Abrigo’s Loan Origination Software will have all required data fields in a borrower-facing collection form, access to pre-built reports, and the ability to export for CFPB reporting. Your financial institution can comply with 1071 while streamlining the origination process and ongoing customer management while working with a trusted partner of 2,400 institutions. Talk to a specialist to learn more.

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You might also like this checklist to help prepare for implementing the 1071 rule: "CFPB 1071 rule: Checklist for compliance success."

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How banks and credit unions use GenAI today

Learn how generative AI differs from other forms of AI and see the ways financial institutions are using GenAI today.

You might also like this webinar, "The check's in the mail: Understanding and preventing check fraud."

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Harnessing benefits

The excitement kicked up by generative AI, or GenAI, has some banks exploring its uses. Credit unions are jumping in too. Others are steering clear until the dust settles. Nevertheless, understanding the technology is crucial. Knowing how AI and GenAI are being used by peers and fraudsters will help financial institution leaders and management vet potential solutions and watch for risks.

This piece explains:

Generative AI and how it differs from AI in general
What’s behind the GenAI hype and the concerns
Real-world use cases of generative AI at financial institutions and
Available resources for financial institutions to learn more about generative AI in banking.

Banks and credit unions want to serve their clients better and improve their services and products. They also want to simplify or eliminate mundane, repetitive tasks. Generative AI is expected to be able to help in these areas. Yet 30% of financial services leaders ban the use of generative AI tools within their companies, according to a recent survey by American Banker publisher Arizent.

Stay up to date with free resources on managing risk and driving growth.

Even if a financial institution isn’t yet using the technology, it can learn from peers. Seeing generative AI use cases can help bankers, risk managers, and financial crime professionals better understand it. They can more easily consider how to harness GenAI's power to enhance their operations, compliance, risk management, and member or customer experience.

Background for GenAI use cases

Generative AI is a class of artificial intelligence (AI) models that can create new content—text, images, audio, or video—from existing data. It’s showing up in music and entertainment, education, healthcare, and marketing.

A common example of a generative AI-driven tool that many in the financial services industry are familiar with is ChatGPT, which can produce coherent and diverse texts on various topics.

A more precise definition of generative AI is included in the Biden Administration’s recent Executive Order, which defines generative AI as “the class of AI models that emulate the structure and characteristics of input data in order to generate derived synthetic content. This can include images, videos, audio, text, and other digital content.”

Many financial institutions have been using artificial intelligence (AI) for years, particularly in supporting cybersecurity and anti-fraud efforts. But Boston Consulting Group (BCG) says generative AI serves a fundamentally different purpose than predictive AI, which is the powerful tool with which many financial institutions are already familiar.

Examples of AI use cases in banking

Predictive AI, which can use machine learning techniques, addresses various prediction and classification challenges such as risk monitoring, optimal pricing, and product propensity modeling, BCG says. It is comparable to the left side of the human brain, which is wired specifically for logic, measurement, and calculation. “This left brain comprises algorithms that assign probabilities, categorize outcomes, and support decisions,” the firm says. Generative AI, on the other hand, “acts as the right brain, wired to excel at creativity, expression and a holistic perspective —the sorts of skills required to generate plausibly human-sounding responses in an automated chat.”

An example of a use case for predictive AI is Signature Bank of Georgia’s addition of AI-driven check fraud detection software that finds fraud faster. The software evaluates over 20 unique features of each check coming in to provide financial institutions with a risk score indicating the probability of a fraudulent check.

Another example of using predictive AI is small business lending software that incorporates AI-driven lending intelligence. Abrigo Small Business Lending Intelligence powered by Charm provides loan rating risk scores, the probability of default, and how the score was calculated. The engine leverages self-learning AI to continuously monitor a wide range of current and historical data, loan performance, accounting, and macroeconomic data from more than 1,200 institutions.

Predictive AI use continues to expand in financial institutions. But in recent years, generative AI has seen much fanfare – and investment.

GenAI impact and risks

One reason banking professionals have heard so much enthusiasm around using generative AI is its potential financial impact on the industry.

In “Capturing the full value of generative AI in banking,” McKinsey estimates that GenAI could add the equivalent of between $200 billion and $340 billion in value annually across the banking industry. That’s equivalent to 9% to 15% of operating profits, the report notes. The greatest absolute gains forecast (largely from increased productivity) are tied to corporate and retail banking.

Understandably cautious

However, as noted above, not all financial institutions are jumping into GenAI with both feet. The American Banker/Arizent survey found that nearly three-quarters (72%) of community banks (those below $10 billion in assets) and 54% of credit unions reported they either have no plans to use generative AI or are still learning and collecting information on the technology. That compares to 39% of global or national banks with more than $10 billion in assets.

Financial institutions have several reasons they may be reluctant to embrace generative AI. Here are some of the factors leading to caution, as well as additional measures to consider:

Institutions take seriously their unique relationships with clients and the trust involved. They know consumers must be comfortable with the technology’s use. In addition, the institution must ensure adequate risk control to reassure them that client assets are protected.
Another reason for reluctance about generative AI is the highly regulated nature of banking. For example, banks and credit unions must comply with strict data privacy laws and requirements for transparent AI. They must also ensure that generative AI solutions or models do not produce biased outcomes.
Finally, many financial institutions have limited resources for technology, which could damp enthusiasm for generative AI. Many banks and credit unions are prioritizing investments for digital transformation. Financial institution leaders can leverage the AI capabilities of their existing tools even as they identify the budget, talent, and infrastructure to invest in additional generative AI solutions.

Despite being cautious, many financial institutions have already begun using generative AI and looking for additional uses that will improve client experiences and staff efficiency.

Large language models

Here’s a quick look at some generative AI use cases being employed at banks and credit unions:

GenAI use case for understanding financial institution data

Southwestern National Bank used to spend hours gathering data and working in spreadsheets to create a geographic concentration report for the OCC examiners. Using Abrigo Connect, a business intelligence solution, the bank can use natural language when searching for data to help with regulatory examinations, board reporting, or weekly management and risk reporting. Now, Southwest National uses Connect to generate a report in seconds to show examiners the loan concentrations across its markets. The same solution can help Southwestern examine efficiency within operations and improve credit and portfolio risk monitoring.

GenAI use case for resolving financial institution member or customer needs faster

Pentagon Federal Credit Union (PenFed) provides the status of loan applications, product and servicing information, and technical support to members nearly 40,000 times a month using a Salesforce Einstein-powered chatbot. The chatbot generates answers to members' questions and now resolves 20% of member cases on first contact, according to a report on CIO.com. The reduced pressure on its call center has allowed PenFed to cut its time to answer calls by a minute, to just under 60 seconds, despite increased membership.

GenAI use case for fostering relationship banking

Abrigo client BAC Community Bank in Stockton, Calif. ($800m deposits) uses an app that answers customer questions and matches them with a BAC banker as their assigned contact.

GenAI use case for sniffing out fraud in emails and instructions

JPMorgan is reportedly using large language models to fight fraud and other attacks embedded in email and other financial communication. Its technology can detect signals for fraudulent emails or fraudulent instructions for a wire. MasterCard is reportedly trying to better protect from fraud its cardholders and the financial institutions using its network with its proprietary generative artificial intelligence model. The GenAI model uses the 125 billion transactions on MasterCard’s network each year to identify fraudulent patterns so financial institutions identify more fraud while spending less time assessing specific transactions.

GenAI use case for training employees and making them more productive

SouthState Bank, another Abrigo client, trains its enterprise version of ChatGPT only on bank documents and data. No customer data is fed into the system and it's not available to anyone outside the bank, which has $45 billion of assets. Employees are asking the system questions about the bank's 400-page commercial loan policy and 600-page branch policies and procedures. A new teller who needs to reissue an ATM card can ask the system how to do it; employees summarize regulatory documents or sets of policies; marketers create copy and bankers compose emails with it. "In our couple months of rolling it out, we get a five to eight X boost in productivity just by saving time," Nichols told American Banker. "It normally takes an employee 12 to 15 minutes to figure out the correct answer. That gets reduced to seconds."

GenAI use case for resolving bank transaction/fraud disputes

Financial institutions have been beta testing Salesforce’s genAI-powered Transaction Dispute Management in “human in the loop” or “copilot” mode with human agents. Fraud dispute resolution is often a huge expense for banks and credit unions and one that causes a lot of client frustration, Tech Target notes in a recent report. The technology is a bot that helps with dispute acknowledgment, case opening, resolution, and closure by invoking policies, procedures, history, and knowledge bases. The goal is consistency and transparency in resolving transaction disputes and improving retention by resolving employee frustrations.

See how Southwestern National Bank's Chief Credit Officer can quickly access past dues, upcoming maturities, and a report showing geographic loan concentrations.

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Learn about banking generative AI

Bankers are under immense regulatory pressure, so learning more about genAI and how regulators view it can help in any plans to use it. Here are several resources on generative AI and regulators’ views:

Learn what Gartner says about emerging generative AI applications and their associated risks and benefits: Innovation Insight: What Banking CIOs Must Know When Adopting Generative AI (gartner.com)
Read about exploring generative AI in this article by Abrigo Chief Technology Officer Ravi Nemalikanti: “A thoughtful approach to generative AI.”
See how to implement generative AI with speed and safety in this article by McKinsey & Co.
Read how the Financial Stability Oversight Council described the risks and benefits of artificial intelligence in its Annual Report.
See President Biden’s Executive Order on the safe, secure, and trustworthy development and use of artificial intelligence.

Read the Bank Policy Institute’s guidance for governance and risk management frameworks for Navigating artificial intelligence in banking.
Consider the Treasury Department’s report on how genAI and AI generally are redefining cybersecurity and fraud in the financial services sector: Managing intelligence-specific cybersecurity risks in the financial services sector.
Read a reminder that creditors must provide accurate and specific reasons for adverse decisions on credit, even if made by complex algorithms: CFPB guidance on credit denials by lenders using artificial intelligence

Conclusion

Generative AI will continue to attract investment dollars and attention from financial services companies and other industries as businesses continue efforts to use technology to improve efficiency, products and services, and performance. Understanding what genAI is, how credit unions and banks are using it now, and how to tap into additional resources on genAI will help leaders explore the potential for it within their own financial institutions.

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Boost your small business lending efforts from the bottom up

Small businesses play a crucial role in our economy, and one of the critical factors in their success is access to funding.

You might also like this guide for smarter, faster small business lending.

Policies and procedures

When it comes to small business lending, the importance of a bank's loan policy cannot be overstated. This policy serves as a set of guidelines that outline the rules and expectations for the credit function within the bank or credit union. It sets the tone for the institution's approach to risk appetite, risk tolerance, lending philosophy, and organization of the lending function.

Here are some key reasons why a bank's loan policy is crucial for effective small business lending:

Risk appetite: The loan policy helps lenders understand the institution's willingness to take on risk and what kinds of lending opportunities the bank is looking for. This knowledge is essential for making informed decisions about which small business loans to pursue.
Organizational structure: The policy outlines the organizational lending function and the process for how deals get approved. This structure ensures that the lending process is efficient and follows a standardized approach.
Compliance and risk management: The loan policy ensures that the lending function operates within the regulatory and compliance framework. It also outlines the risk management practices that need to be followed when evaluating small business lending opportunities.
Loan portfolio building: By understanding the loan policy, lenders can align their efforts with the institution's goals for building a high-quality loan portfolio. This includes defining the threshold for material loans or transactions and structuring the lending process accordingly.

Overall, the bank's loan policy serves as a foundational document that guides the entire small business lending process and ensures that the institution's lending efforts are aligned with its strategic objectives.

Analysis

Small business lending involves a complex process of analyzing the borrower's financial situation and predicting their ability to repay the loan. The following key aspects of differential credit analysis are crucial for effective small business lending:

Customizing the lending process: Recognizing that small business loans come in various sizes and complexities, it's essential to tailor the lending process to the specific needs of each borrower. This includes using a streamlined underwriting process for smaller, less complex loans and a more in-depth process for larger, higher-risk credits.
Understanding financing needs: Assessing the borrower's financing needs is essential for determining the most suitable loan structure. This involves differentiating between temporary and permanent investments in current assets, as well as anticipating future needs based on the borrower's growth and operational cycles.
Financial analysis fundamentals: Conducting thorough financial analysis is critical for evaluating the borrower's ability to repay the loan. This includes assessing the borrower's income statement, cash flow, working assets, liabilities, and leverage to determine their financial stability and risk profile.
Quantifying the 5 C's of credit: The "5 C's of credit" (character, capacity, capital, conditions, and collateral) are key factors in credit assessment. Using quantitative measures, such as FICO scores, debt service coverage, and collateral margin, can help in quantifying these essential credit components.
Structured approach to cash flow analysis: Analyzing cash flow is vital for understanding the borrower's ability to meet debt obligations. Employing various cash flow analysis methods, including traditional cash flow, expanded EBITDA, and global cash flow, can provide a comprehensive view of the borrower's financial position.

By implementing a differential credit analysis approach, financial institutions can enhance their small business lending practices and build stronger, more profitable relationships with their small business borrowers.

Retention and growth

Sometimes daily operations get in the way of banks and credit unions seeking out opportunities to add value to their lending relationships. By identifying these opportunities, institutions can build stronger, more profitable relationships with their small business borrowers. Here are some key strategies for adding value:

Transform the credit process: Financial institutions can transform the credit process from being perceived as a cost to being seen as a benefit. This involves educating borrowers about the institution's underwriting and approval process, which can help them understand the importance of providing all necessary information upfront.
Identify opportunities to help borrowers: Good bank business strategy adds value to the borrower's business and improves customer retention. Financial institutions can offer industry insights and benchmarking reports to their small business customers. They can also improve the efficiency of the operating cycle, restructure debt to improve cash flow, and anticipate future financing needs based on growth projections.
Integrate a lifecycle relationship management plan: Institutions should develop a plan that aligns their products and services along the borrower's lifecycle. This allows for proactive identification of opportunities to meet the borrower's evolving needs, such as growth financing, succession planning, and wealth management.
Use financial statements to demonstrate benefit: By using financial analysis tools, lenders can demonstrate the potential financial benefits to the borrower. This may involve identifying cost-saving opportunities, improving cash flow, and offering tailored financial solutions to address specific needs.
Pricing and negotiation: Lenders can negotiate pricing based on the value provided to the borrower. This involves understanding the competitive landscape, assessing the lifetime profitability of the relationship, and making strategic decisions regarding the pricing and terms of the loan.
Nurture lifetime customer relationships: Institutions can focus on managing relationships with high-potential customers while also looking for opportunities to increase the profitability of lower-potential customers. This may involve repricing, optimizing costs, and making strategic decisions to enhance overall relationship profitability.

Focusing on small business lending relationships requires dedication, and small business loan origination software can help free up lenders' time for building and maintaining those relationships.

Conclusion

Small business lending requires a structured approach to assessing lending opportunities, understanding financing needs, and transforming the credit process from a cost to a benefit. Financial analysis, differential credit analysis, and a clear process for assessing lending opportunities are critical components of effective small business lending. Additionally, managing lifetime customer relationships and negotiating pricing based on the value provided to the borrower are key strategies for optimizing small business lending practices. By adding value to the lending relationship, financial institutions can build stronger, more profitable relationships with their small business borrowers.

Win more small business deals and grow market share.

abrigo small business lending

About Abrigo Small Business Lending Intelligence

Abrigo Small Business Lending Intelligence is a lending decision and monitoring engine powered by Charm Solutions. Embedded into the Abrigo loan origination platform, Abrigo Small Business Lending Intelligence provides real-time scorecards that include a loan risk rating score, probability of default, and details of how the score was calculated. Using Charm’s dynamic models along with existing processes, institutions improve their decision-making by incorporating an array of data sources and leveraging analytics to gain actionable insights.

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Recent data and trends of the small business lending market

SMB Lending Insights is a snapshot of current financial trends and metrics that impact small and medium-sized business (SMB) lending and financial institutions.

You might also like this guide for smarter, faster small business lending.

Introduction

SMB Lending Insights is a snapshot of current financial trends and metrics that impact small and medium-sized business (SMB) lending and financial institutions.

The report is based on data from Abrigo Small Business Lending Intelligence, a lending decision and monitoring engine powered by Charm Solutions. Abrigo Small Business Lending Intelligence uses observations from Abrigo's client base of over 2,400 U.S. institutions to provide a comprehensive representation of the banking and financial sector. Data in this report is current as of Q2 2023 and is representative of market trends and conditions at the time of publication. The average size of loans examined here was $637,000.

Executive Summary

SMBs and financial institutions face tremendous uncertainty in the current environment, which is characterized by elevated interest rates, high inflation, and growing personal delinquency rates. The data below outlines SMB loan origination trends, delinquencies on SMB loans (90+ Days Past Due, or DPD), and changes in the average loan sizes for various industries. Financial institutions can consider this information to benchmark trends at their own institution and to evaluate plans.

Additionally, the data shows that loans to SMBs, like mortgages, have been highly sensitive to the changes in interest rates. It also shows business loan delinquencies remain low but are approaching pre-COVID levels and are seeing a gradual, though noticeable, upward trend. With lower interest rates nowhere in sight, lenders need to monitor and adjust lending and underwriting strategies based on their own institution’s credit risk profile. At the same time, lenders using relationship-based strategies

Data: SMB loan volume

As the Fed has raised rates and pared back the size of its balance sheet, headlines have increasingly pointed to mortgage funding drying up. Our data below shows SMB loan originations have followed a similar trend. As rates go up, business loan originations go down. SMB loan origination volume is down 42% year over year and well below the recent run rate. The negative correlation of funded business loans to the Fed funds rate is a staggering 86% as businesses weigh their needs for capital against expensive debt and lenders aim to limit risk.

Generally, small business loans benefit business owners, they also benefit communities, according to 2021 research for the SBA. Small business loans “have large and significant effects on employment growth and job creation, particularly for firms with less than 100 employees.” Loans of less than $100,000 showed the strongest impact.

SMB delinquency rates

The delinquency rates of SMB loans originated since 2019, shown below, illustrate the resilience and adaptability of SMBs. The rate, as measured by the 12-month average of loans 90+ DPD, spikes for loans originated during the COVID-19 pandemic. Starting with loans originated in January 2021, delinquency rates begin to fall and even dip below historical averages. While rates for those cohorts of loans now show a return to the mean, they are still lower than a year ago and pre-COVID. However, the delinquency rates for more recently originated loans are higher than they were a year earlier, while rates for loans funded in the previous 16 months are lower than a year earlier.

Loan sizes across industries

The SMB loan landscape over the past year has seen loan sizes contract across nearly all industries, which makes sense in light of higher loan pricing, the outlook, bank tightening, and other factors.

Also, the average loan size in manufacturing ($802,234) is down 43% year over year. Other industries with double-digit declines in average loan size are hotel and food, retail, transport and warehousing, and construction. Meanwhile, the average loan size in healthcare ($1,274,631) is only down 9% year over year. The disparities across industries highlight the need for tailored strategies by lenders.

Shrinking safety net for SMBs

Importantly, alternatives to bank loans that SMBs traditionally turn to for capital are under increased pressure. SMB owners often access personal credit as an immediate solution to their business financing needs, either via a credit card or an unsecured

Delinquency rates among both types of safety nets for businesses have reportedly increased, according to Transunion, with rates for more recently issued credit increasing sooner and faster than ones on the books longer. With a shrinking cushion of consumer savings along with inflationary and interest rate headwinds, we should expect these numbers to get worse. In addition, lenders tightened credit standards for approving applications for these types of credit in the third quarter.

Tighter lending standards on personal credit in the current economic environment could have a two-fold impact on SMB owners. Consumers who have been relying on personal credit products may spend less on SMBs’ goods and services, narrowing owners’ income at the same time their supporting sources of traditional business credit shrink or get more expensive.

Implications

SMBs and financial institutions can both take several actions to improve their positions in this environment. It is essential for banks and credit unions to adjust lending and underwriting strategies to secure profitable new or expanded business loans with acceptable risk. Using the latest platforms, machine learning/artificial capabilities, and data will enable them to do so efficiently. Banks and credit unions that do not evolve their lending capabilities face higher operating expenses and are at higher risk of suffering increasing loss rates. Financial institutions should also cultivate opportunities to help existing borrowers manage their business and capital needs. Doing so helps protect and grow those relationships and avoids starving economic growth. A recent Federal Reserve Bank of Atlanta paper estimates a tightening in bank credit supply of 1 percentage point is associated with an 11 percent decline in SMEs' net job creation rate.

Comparatively, SMBs need to be ready to adjust operating practices and capital preservation efforts to manage the cash flows and capital outlays vital for their success. SMBs that don’t proactively manage their financials in this margin-stressed environment will find themselves with fewer borrowing options and more expensive costs for capital.

Closing Summary

The current landscape of SMB lending is undeniably shaped by two dominant forces: the Federal Reserve's monetary policies and the financial institutions’ credit policies. Behind these two drivers is higher core inflation, which impacts SMB costs and margins while removing discretionary spending from the consumer.

The data showcases a downward trend in SMB loan origination, and while the 90+ DPD rates for SMB loans originated in 2021 and early 2022 remain considerably below the standard run rate, there's a noticeable, albeit gradual, upward movement among more recent originations.

Considering stresses on two other sources of operating capital often tapped by business owners and the end of student loan forbearance, financial institutions need to closely monitor market dynamics and adjust lending strategies accordingly to cater to the evolving needs of SMBs and mitigate potential risks.

Win more small business deals and grow market share.

abrigo small business lending

About Abrigo Small Business Lending Intelligence

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Wire transfer fraud prevention is more important than ever

In this article, you will learn what constitutes wire fraud, common scams to tell your clients about, and what you can do to prevent wire fraud.

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Education is prevention

What constitutes wire transfer fraud and steps for prevention

Fraud losses are growing at an all-time high, keeping financial institutions and their clients on their toes. In fact, the Federal Bureau of Investigation's  2023 IC3 Report reveals that a record number of complaints were received in 2023 at 880,418, with potential losses exceeding $12.5 billion. These figures represent a 22% increase in losses compared to 2022.

However, most of the fraud instances reported by the FBI fall into the category of wire transfer fraud—one of the oldest forms of fraud faced by financial institutions. Wire fraud is loosely defined as a financial crime intentionally perpetrated through electronic communication, which includes traditional wire transfers and any other fraud using the Internet, phone calls, text, social media, and email.

Whether the fraudster steals money, property, or personal information, if they've used electronic means to lure their victims, it is considered wire fraud. According to a 2024 survey conducted by CertifID, one in every four consumers is targeted with suspicious communications.

Statistics and schemes

Preventing wire transfer fraud avoids big losses

The FTC reports that the three top fraud payment methods (and the losses associated with each) for 2023 are all wire fraud typologies:

Bank transfer or payments: $1.8 billion
Cryptocurrency: $1.4 billion
Wire transfer: $343.7 million

As you can see, the total losses are staggering. It leaves victims embarrassed and financially strained, if not depleted. As a result, financial institutions are in a unique position to detect and prevent wire fraud by understanding the current methods used to scam victims.

Of those targeted, 5% fell victim to
wire transfer fraud schemes.

Instances of wire transfer fraud has increased over the years because it's easier to send money. Consequently, businesses and individuals are becoming victims at an alarming rate. Wire transfers are often transacted on a larger scale with the potential for significant losses. Avoiding wire transfer fraud means banks, credit unions, and clients must understand what it entails and prepare against its effects.

The Federal Trade Commission (FTC) identifies common elements of wire fraud, which include:

Intent to defraud: Wire fraud requires the perpetrator to have the intent to defraud the victim.
Use of electronic communication: The use of electronic communication, such as emails or phone calls, to commit fraud is a key element.
False pretenses: The fraud typically involves misrepresentations or deceptive tactics to convince the victim to send money, spend money, or send valuables.
Interstate or international transmission: Federal wire fraud prosecutions involve the use of interstate or international wire communications, as a result it triggers federal jurisdiction.

Some examples of wired fund
fraud schemes include:

Investment fraud: False promises of high returns lure unsuspecting investors into fraudulent schemes. As an example, funds are siphoned off for personal gain rather than legitimate investment purposes. Investment fraud includes Ponzi and Pyramid schemes.
Business Email Compromise (BEC): Fraudsters infiltrate business email accounts to impersonate executives or vendors. They manipulate employees into believing an email is from a trusted source and transferring funds or sensitive data under pretenses.
Ransomware: Criminals launch malware onto a system to permanently block access to the victim's data unless a ransom is paid. Additionally, businesses can also become victims and have their entire customer base compromised.
Spoofing and phishing (includes smishing and vishing): Offenders masquerade as legitimate entities to trick individuals into divulging sensitive information like usernames, passwords, or financial information. The fraudster disguises an email address, sender name, phone number, or website URL to convince you that you are interacting with a trusted source.  
Romance schemes: A criminal adopts a fake online identity to gain a victim's affection and trust. These relationships most often play on the romantic relationship but can also be a trusted friend or caregiver. Similarly, pig butchering scams frequently use this technique. 
Advance fee schemes: Investors are asked to pay a fee upfront for an investment deal to go through.  Once paid, the investment never happens.

The wire transfer fraud list is growing

Nigerian letter (419 fraud): The fraudster requests help to facilitate the illegal transfer of money to get funds out of Nigeria. The number "419" refers to the section of the Nigerian Criminal Code dealing with fraud and the charges and penalties for such offenders.
Synthetic identity fraud: This uses a combination of personally identifiable information to fabricate a fake person or entity to commit fraud for personal or financial gain. It's typically found at new account onboarding.
Grandparent scams: Criminals pose as a relative—usually a child or grandchild—claiming to be in immediate financial need. Sadly, senior citizens are most often the target of these scams.
Government impersonation scam: Fraudsters pose as employees with government agencies, such as the IRS, and threaten to arrest or prosecute victims unless they agree to transfer money or other payments.
Sweepstakes/charity/lottery scam: Criminals claim to work for legitimate charitable organizations. They gain victims' trust - or they claim their targets have won a foreign lottery or sweepstakes, which they can collect for a fee.

Wire fraud repercussions extend beyond monetary losses.

Wire fraud repercussions extend beyond monetary losses, encompassing damage to reputation, regulatory scrutiny, client attrition, and legal liabilities. Beyond that, customers and members face dire financial consequences. These range from depleted savings to tarnished credit and compromised personal information.

According to the FBI, more than half of wire fraud victims are senior citizens whose financial loss is not easily made up during their lifetime. That is made clear by the stories of retirees who fall victim to a pig-butchering scam.

Tips for AML/CFT efforts

One of the more common challenges a financial institution faces in wire transfer fraud prevention is convincing clients that they are victims of a fraud scheme and advising them not to send funds.

Understandably, it is a difficult conversation to have. But, it is critical to preserve the trusted advisor role. Most importantly, if a financial institution is unable to convince the client not to send money, which could be substantial amounts, file a SAR and follow up with call to law enforcement if high dollar amounts are involved.

The FBI offers the following guidance to financial institutions when detecting wire fraud if you cannot prevent it:

Contact the financial institution that originated the wire transfer as you recognize fraud and request a recall or reversal and a Hold Harmless Letter or Letter of Indemnity.
File a detailed complaint at www.ic3.gov. Be sure it contains all required data in the provided fields, including banking information.
Only make payment changes after verifying the change with the intended recipient; verify email addresses are accurate when checking email on a cell phone or other mobile device.

There are several ways that financial institutions can be proactive in preventing wire transfer fraud:

Develop a comprehensive fraud risk assessment and develop mitigation steps for any gaps.
Implement effective fraud policies, procedures, and processes that center around prevention and detection.
Be vigilant when responding to unsolicited communications requesting sensitive information or urgent action, primarily via email or phone.
Verify the authenticity of requests for funds or sensitive information, particularly those involving unfamiliar parties or unusual circumstances.
Utilize robust fraud detection software, which may include machine learning but should also include human decision-making for more complex processing.
Educate employees about typical wire fraud schemes and equip them with protocols for verifying requests and detecting suspicious activity.
Educate clients on wire fraud typologies and warning signs.
Utilize secure communication channels and encryption methods to safeguard sensitive information from interception or unauthorized access.
Implement multi-factor authentication measures to add an extra layer of security to online accounts and transactions.

Wire transfer fraud prevention demands a concerted effort from financial institutions, regulatory authorities, and consumers alike. The repercussions of wire fraud extend beyond monetary losses. To sum it up, it affects victims' personal lives and disproportionately impacts vulnerable populations.

This underscores the importance of proactive prevention strategies and collaborative efforts to uphold the integrity of the financial system. Therefore, detecting and preventing wire fraud safeguards against detrimental consequences for both financial institutions and their clients.

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Stand-out bank business strategies for lending success

These bank business strategies will help you market, target, add value to your lending services and build lasting relationships with your borrowers.

You might also like this SMB Lending Insights report for banks and credit unions

Download report

Lending is a competitive and challenging industry, requiring constant innovation to attract and retain customers. Offering the lowest rates or fastest approvals is no longer a sufficient bank business strategy. To stand out, you must provide a unique and memorable experience that demonstrates value and respect to borrowers.

In a recent Abrigo webinar on relationship banking, Chris Carlson of the Relationship Banking Academy shared keys to successful lending based on his extensive research and experience. This blog will break down those proven strategies to help you grow your business, increase referrals, attract new customers, and retain loyal customers who return for their future financing needs.

Mindset

When it comes to annual goal setting, it's not uncommon for bankers to simply pledge to do 5% more than last year again and again, sometimes succeeding and other times failing. This can often lead to frustration, but according to Carlson, setting higher goals might be the solution to getting out of a rut. If you aim for linear growth, you will likely stick to the same methods and work harder to increase your productivity. If you shift your mindset and aim for exponential growth, you are more likely to think outside the box, be creative, and find new solutions like small business loan origination software or other automation tools to help you achieve your goals. Be ambitious and set higher goals for yourself.

Market

You need to be selective about which potential customers you pursue, which means identifying the right prospects. As part of its business strategy, your bank should have well-defined and specific criteria for screening your leads and eliminating the ones who are not suitable for your services. You should also use data and analytics to group your prospects based on their behavior, interests, and needs to find a niche in which you are successful. This way, you can work to become the go-to banker in your geographical area or a particular industry due to your expertise.

“Most bankers overestimate their ability to close people on their targeted list and they don’t have enough pipeline to hit their goals,” Carlson said. He advises bankers to create a list of 25 solid target prospects to prioritize closing and a second, longer list of targets in their niche. Contact and stay connected with the second list with a consistent drip campaign that will keep your bank top of mind but focus your efforts on the smaller list first.

Marketing

Bankers tend to stop and start marketing efforts as their schedules allow, but good marketing is consistent. It takes planning and time to reach the right decision-maker with the right information. Create a monthly marketing calendar to plan what you want to show your potential customers, and keep in mind that the easiest formats for campaigns aren’t always the most effective. Email is fast and inexpensive, but direct mail might make more of an impact.

Whatever marketing tactics you employ as part of your bank business strategy, your messaging cannot be all about you and your bank. Look for ways you can add value to your potential customers and use your marketing materials to show them how you can help them reach their goals. Carlson suggests creating a banking podcast and inviting small business owners to share their stories. Ideas like this create deeper relationships with potential customers without overtly selling.

Multipliers

To grow your business and work on larger deals, you need to expand your network of centers of influence. Don’t be afraid to ask for high-quality introductions. Have a focused list of existing and potential centers of influence and work to expand it when possible. Most bankers have a few people who can connect them with prospects, but that might not always be enough for significant growth. Ask yourself: Who in the community can help you reach your target prospects, and how can you develop a relationship with them?

Movement

It's crucial to implement a sales system that guides prospects through the conversion funnel. Take the time to thoroughly understand each prospect's position and needs upfront. This ensures that your products align with their requirements. By excelling in your initial interactions, you can effectively prioritize customers who are the best match for your bank. This approach allows you to cultivate these relationships and avoid wasting time on prospects who may not be a good fit.

Maintenance

Banks should implement proactive business strategies to retain valuable customers, adding value to their services along with a personal touch. Introducing benchmarking reports during annual reviews can provide customers with a clear picture of their financial standing compared to industry peers, aiding in strategic planning and improving customer loyalty. You can also build personal relationships with customers through individual attention and celebrating milestones. Engaging with customers and their teams beyond transactional interactions fosters stronger relationships and demonstrates your commitment to their success.

Metrics

Lending bankers should prioritize tracking key metrics to gauge their performance effectively. While banks collect various metrics, two critical items to track are business development (BD) activities and referrals. It's essential to assess your level of activity in BD, including events, cold calls, and drop-ins, as these directly impact your success. Measure the effectiveness of your activities to refine your approach. Remember, even a single high-quality introduction every other week can have a transformative effect on your bank. Invest time in networking and asking the right people for referrals to maximize your potential.

Reduce operating cost while ensuring loan policy consistency. Community lending software can help get you there. Read the buyer's guide to lending solutions.

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Streamline ag lending processes now to grow later.

Learn what banks and credit unions can do while ag borrower demand is lower to prepare for growth without adding a lot of staff.

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