The Credit Elsewhere Test and the Physics of SBA Lending

November 25, 2015

By Walter McLaughlin
Senior Vice President, Banner Bank

The Credit Elsewhere Test and the Physics of SBA Lending

As the holiday season approaches and In the wake of SBA’s record-breaking FY 2015, there are plenty of reasons to celebrate.

7(a) gross loan approvals totaled $23.6 billion, up nearly 23% over the prior fiscal year. During the past three years, the program has grown 55% in dollar volume and 43% in number of loans, both now firmly in record-breaking territory. The 504 program experienced an uptick as well, increasing for the first time since 2012.

With all that said, let’s not forget about Sir Isaac Newton’s Universal Law of Gravity: What goes up must come down.

The Credit Elsewhere Test

By statute, the SBA must only provide assistance to borrowers who are unable to obtain credit at reasonable terms elsewhere. Per CFR §120.101:

SBA provides business loan assistance only to applicants for whom the desired credit is not otherwise available on reasonable terms from non-Federal sources. SBA requires the Lender or CDC to certify or otherwise show that the desired credit is unavailable to the applicant on reasonable terms and conditions from non-Federal sources without SBA assistance, taking into consideration the prevailing rates and terms in the community in or near where the applicant conducts business, for similar purposes and periods of time.

Increasingly, the Credit Elsewhere Test has become a front-and-center issue with SBA. Why is there heightened scrutiny on this long-established principle?

The elimination of the Personal Resources Test: At the time the Personal Resources Test was eliminated back in 2014, most lenders cheered. Although it very rarely impacted a loan request, it was one less form to prepare, one less analysis that needed to be documented. As it turns out, however, it had a parallel impact in SBA’s world to Newton’s Third Law of Motion, which states: For every action there is an equal and opposite reaction. To wit, when personal liquidity goes up, the borrower’s need for SBA assistance goes down.

Without the governing elements of the Personal Resources Test, there have been growing concerns that borrowers who can obtain credit on reasonable terms are receiving SBA loans instead.

No proof, no guaranty: It’s actually a strikingly simple concept. If the borrower can obtain credit elsewhere on reasonable terms, they are statutorily prohibited from receiving an SBA loan. Although we aren’t going back to the days when multiple decline letters were needed to “prove” the necessity of an SBA loan, your file should clearly document the reasons why they cannot obtain conventional financing and the need for SBA’s backing. Failure to do so will put the guaranty at risk.

In summary, be aware this is a hot-button issue and keep your files well documented. I’d evoke a linear systems theory maxim to drive the point home, but superposition wasn’t my strong suit in college.