Paying the Piper

A Proposal to Raise the 7(a) Cap

In 2000, Caple Green got a $500,000 Small Business Administration 7(a) loan to purchase a storefront for East River Bagel, his 13-employee, $500,000 business in Washington, D.C., which was expanding into catering. "It gave me flexibility to grow the business," says Green, who adds the 7.25% loan was cheaper than traditional bank financing he could get at the time.

But despite the recent Democratic sweep in Congress, the 7(a) loan program that helps thousands of entrepreneurs such as Green may be headed for a shutdown similar to the one in 2004. The program, which earns its way through fee income, has seen its loan portfolio diluted and fee income diminish as the SBA has pushed smaller Express loans, which are less than $350,000 and are generally easier and cheaper for financial institutions to process. Experts say the cap on loans needs to be increased from $2 to $3 million for the program to sustain itself. If the trend toward smaller loans continues, "the SBA will have to recommend either higher fees, which would have to be approved by Congress or go to Congress for an appropriation," says Tony Wilkinson, president and chief executive of the National Association of Government Guaranteed Lenders, an association of financial institutions making SBA-backed loans.

"Actually, the program is quite healthy," says SBA spokesman Mike Stamler. "We set loan volume records in each of the last two years, and the zero-subsidy funding mechanism is holding up just fine. I can understand how lenders might want to make larger loans under the program, and we are interested in the idea. We're just not ready to go there yet."

The average size of a 7(a) loan has fallen to about $148,000 for the fiscal year ended Sept. 30, from $233,000 in 2002. The 36% drop is largely because of the SBA's efforts to push smaller loans to minority businesses. "We have made an effort to reach out to the smaller borrower and to underserved communities," says C. E. "Tee" Rowe, the SBA's associate administrator for the office of congressional and legislative affairs. Express loans typically require only a single-page application and utilize the bank's computerized credit-scoring system. Larger loans require more paperwork, and full processing can take days or even weeks. The focus on smaller loans means that "our cost of origination is much less," says David Bartram, president of Minneapolis-based U.S. Bancorp's (USB ) SBA division.

Because the 7(a) program charges borrowers higher fees on larger loans (table), some Democrats and Republicans in both houses support raising the current cap so the program can fund itself. In August, Senator Olympia Snowe (R-Me.) introduced the Small Business Reauthorization & Improvements Act of 2006 to boost the cap to $3 million. In May, Representative Donald Manzullo (R-Ill.) introduced a version in the House. Senator John Kerry (D-Mass.) says raising the cap is critical: "Borrowers on the two coasts need larger loans because real estate is more expensive."

The SBA counters that it has little experience with larger loans. But Wilkinson points out that the SBA's 504 program now provides up to $4 million for real estate and equipment loans for small manufacturers. For now, other small businesses will have to hope for the best.

By Jeremy Quittner

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