Credit Unions or Banks: Which Is Better for Small-Biz Loans?

I have written in this column and elsewhere that credit unions are a good fit for some business loans. But savvy business borrowers know what limitations and trends they can expect when they ask a credit union for business capital.

Credit unions have only been allowed by federal law to make business loans since 1998 when Congress passed the Credit Union Membership Access Act of 1998. At the same time, Congress put several stipulations on credit unions which were intended to keep business lending risk as low as possible.

The most important limitation on credit unions — one that doesn’t apply to regular banks — is a provision limiting a credit union’s outstanding member business loans to “the lesser of 1.75 times the credit union’s net worth or 12.25% of the credit union’s total assets,” with loans less than $50,000 not subject to the cap.

After Congress passed the law allowing credit unions to make business loans, larger credit unions, especially in urban areas, began making business loans.

Credit Unions Often a Good Choice for Smaller Loans

According to statistics compiled by credit union trade organizations, only about 30 percent of all federally-insured credit unions make business loans. It is important to realize that unlike banks, which are required to hold a substantial minimum level of capital, credit unions are not bound by such strict start-up capital rules. Therefore, many of the nation’s credit unions are quite small and don’t have the desire or capital resources to make business loans.

I have done my own analysis of available lending data for both 2009 and 2010 using SBA lending statistics in the San Antonio, Tex. SBA district. It reveals some interesting observations about a geographical area that has a number of large, financially stable credit unions that make SBA loans.

I acquired my data through the Freedom of Information Act. It contains lending data for the San Antonio SBA district, which covers a very large portion of Central and South Texas, including San Antonio and Austin.

The most notable statistic from my analysis is the average size of credit union-issued SBA loans. Not surprisingly the average size of SBA business loans in the largest credit unions that make business loans was $50,000. That amount corresponds to the legal limit that is not subject to the cap placed on business loans by Congress.

In comparison, the bank in this region which made the largest aggregate amount of loans in both years had an average SBA loan size of approximately $330,000.

The second statistic that stood out in my own analysis of SBA credit union-made business loans was that the total number of loans made was many times higher than any bank in the district. I believe that my SBA district is representative of other SBA districts in the country. A conversation I had six months ago with a National Credit Union Administration workout specialist leads me to believe this is the case.

If you are a business owner and can “get by” with a business loan of $50,000 or less, your best bet may be a credit union, but make sure when you approach one that they are actively making business loans. Also, since some credit unions do make loans for more than the $50,000 average, you should ask any credit union you approach to disclose the average size of their business loans.

A good follow-up question might be, “What is the unstated comfort level of loan size in your credit union?” Every lender has such an unpublished “comfortable loan” amount. A good commercial loan officer will know the answer to this question.

Credit Unions and Banks: Lending Trends

Recently the SBA Office of Advocacy released a study of this topic titled, “The Increasing Importance of Credit Unions in Small Business Lending.” The report was authored by James A. Wilcox, of the University of California at Berkley. His findings showed several trends which are best illustrated with the following charts provided below, courtesy of the SBA study.

These charts show the impact of credit unions on businesses’ access to capital, based on SBA loan data.

As you can see from the first chart, credit unions have increased the percentage of total loans at the same time banks have decreased them. It is important to note that the amount of total credit union loans is only slightly greater than 15 percent of all SBA loans made for 2010. This chart is in billions of dollars (click on the images below to see full-size versions).

The second chart compares the percentage of total assets of banks and credit unions that have made SBA loans over the past 16 years. Clearly credit unions have become more small-business friendly while banks have reduced their portfolio of SBA loans. I don’t want to discount the value of credit unions’ help to small businesses, but one explanation for this dramatic decline in bank SBA lending is due to many banks leaving the SBA program. 

In 1994 there were about 10,000 banks in the United States, and many of them participated in the SBA Preferred Lender Program (PLP). I don’t know the exact number of PLP banks that have stopped making SBA loans since 2007, but at the beginning of 2011 there were about 650 PLP bank lenders left in the nation.

Many of the banks that left the SBA PLP program didn’t stop making loans to small businesses, but they aren’t counted in the percentage of assets chart below. It is probably true that in the past four years, as banks have earned bad reputations, credit unions have picked up business relationships and if they make loans increase assets to an all time high.

It is clear that credit unions have helped in closing the lending gap in the SBA program from about 2004 through 2010. 

It is also important to understand that not all credit unions are making small business loans, not all banks are participating in SBA lending programs, and that you must do some research in your geographical area in order to find a lender to fit your company’s needs and personality.

Sam Thacker is a partner in Austin Texas based Business Finance Solutions and Texas PEO Group.

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Twitter: @SMBFinance