Critical Small Business Loan Program Cut

Date: 1 Nov 2002 | posted in: Retail | 0 Facebooktwitterredditmail

The Bush Administration has cut the federal government’s largest and most important small business loan program by more than 60 percent. This year, the program will back only $4.4 billion in loans, compared to nearly $12 billion last year.

The program, known as 7(a), is run by the Small Business Administration and guarantees loans of up to $2 million made to small businesses. It is the largest source of long-term working capital for small businesses in the nation, accounting for some 40 percent of available financing. Retailers and restaurants rely heavily on 7(a) loans, more than three-quarters of which are for amounts under $500,000. Unlike conventional working capital loans, which have an average maturity of less than four years, 7(a) loans may be repaid over a period of up to 25 years, a feature that dramatically improves cash flow for new and expanding businesses. The SBA currently has about 180,000 of these loans in its portfolio.

“The timing. . . could not be worse,” declared Representative Darrell Issa (R-Cal.), one of a bipartisan group of Congress people working to restore the program’s lending authority. “As we look to small businesses to restore economic growth in our state, the most important source of credit that fuels economic growth and job creation has been cut in half.” The SBA estimates that for every $33,000 lent to small businesses, one job is created or retained.

The Administration has used a budget trick to deflect criticism, claiming that the program has been funded at the same level and blaming the reduction in lending authority on changes initiated by the Senate last year. At issue is a faulty method for estimating defaults used by the administration’s Office of Management and Budget. The OMB pegs the default rate for the 7(a) program at 14 percent. In reality, it is about half that.

This faulty calculation has been used for years. One major consequence has been that loan fees paid by lenders and small business borrowers to protect the SBA from losses have been far higher than necessary. Last year, after President Bush promised to adjust the default rate calculation, the Senate initiated legislative changes that cut these fees.

But the administration never followed through with its promise. Because the program is now taking in far less in fees, but operating under the same expectations in terms of losses, it can back less than half the loans it guaranteed last year. The OMB now says it wants to use a complex model to estimate default rates, but that model will take at least a year to develop.

In October, the SBA capped loans under the 7(a) program at $500,000, ostensibly to make the available dollars go further. But the move may make the situation worse, according to lenders, by eliminating the larger, more profitable loans that help offset the costs of making smaller loans.

Critics of the administration note that the 7(a) program ends up costing taxpayers nothing. In fact, because of the faulty default rate estimates, the program has been generating revenue and will continue to do so this year. “The Bush Administration is robbing small businesses to repay Enron, WorldCom, and their biggest contributors,” contends Senator John Kerry (D-Mass.).

“The cuts to the loan program are symptomatic of a much deeper hostility towards the SBA,” says Joel Marks, director of the American Small Business Alliance, a six-year-old membership organization that focuses primarily on federal policy issues. During his first year in office, President Bush removed the SBA from the cabinet (the director had previously served as an honorary, non-voting member) and proposed a budget that cut the agency’s funding by more than 40 percent and eliminated the 7(a) program altogether.

Congress subsequently restored the SBA’s budget and the loan program. Now, several lawmakers, backed by some 30 small business groups, hope to fix the default rate formula by attaching an amendment to an appropriations bill, effectively preventing a veto. But the administration is reportedly leaning heavily on House leadership to block such an amendment.


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Stacy Mitchell

Stacy Mitchell is co-director of the Institute for Local Self-Reliance and directs its Independent Business Initiative, which produces research and designs policy to counter concentrated corporate power and strengthen local economies.