The Ultimate Guide to Microloans

Aug 28, 2019

The Ultimate Guide to Microloans

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The only way to start the ultimate guide to microloans is to tell you that a microloan is exactly what it sounds like: a very small loan. Not quite as small as the $5 your best friend spotted you for gas last week, but still very small.

Microloans are typically used to help entrepreneurs in difficult circumstances or struggling communities. These circumstances include operating a business that is very young, having bad business credit, and dealing with structural roadblocks like national poverty or prejudice toward minority groups.

United States entrepreneurs receive a tiny percentage of the total microloans in the world, but that percentage makes a big difference.

Typical Microloan Amounts

Microloans usually range between $500 and $100,000, with the average microloan in the US totaling about $13,000. These loans are incredibly helpful to women and minority business owners. If you feel like you’ve had a hard time finding a small business loan, you’re not alone.

Despite making up more than 1/4 of all businesses in America, minority-ownd businesses are 3 times more likely to be denied for loans than businesses owned by whites. That’s where microloans enter the picture.

These small but powerful loans are one solution to racial and gender equality issues in small business and a way to combat economic inefficiencies all over the world.

How to Use This Guide

The upcoming sections will describe the origin and impact of microlending in the US and across the globe. They will also give information on how your business can secure a microloan from the SBA and other nontraditional lending sources like marketplace lenders.

Feel free to skip to any section that interests you as the sections are largely self-contained. Or, if you’re in the mood for a nice read, grab your favorite drink, sit in a comfy chair, and get ready for a fascinating look into the origin of the microloan.

1. The Humble Beginnings of the Microloan

Economics professor named Mohammed Yunus pioneered microlending in the 1970s. He witnessed a complete lack of upward mobility for impoverished families in his native country of Bangladesh. Very few were capable of pulling themselves out of abject destitution despite their best efforts, and the source of this turmoil was a broken financing system for the poor.

No large banks would take on the high-risk, low-amount loans needed by the poor to finance their business ideas, so families were left at the mercy of ruthless lenders.

This was the case for the first lady ever financed by Yunus. Yunus gave his first loan to a local woman who made stools for a living. Because of her crippling debts to loan sharks, this woman only made a penny from every stool she sold.

With the $27 loan she received from Yunus, she bought the materials she needed to make her wares, repaid the microloan from her profits, and grew her business to the point where she could sustain it without going further into debt.

This success prompted Mohammed Yunus to launch the Grameen Bank Project in 1976 to study the feasibility of offering banking services to poor entrepreneurs who were being exploited by money lenders.

The stoolmaker was only the first of several studies performed by Yunus. Similar experiments proved successful in several other regions, inducing the Bangladeshi government to approve Grameen Bank, the world’s first lending institution focused entirely on providing unsecured small business capital to poor entrepreneurs.

Numerous independent studies have combed through the work of Grameen Bank over the years, and all have found the efforts to be an absolute success. As of May 2008, Grameen has 7.5 million borrowers and loaned money to people in 82,072 villages, which constitutes more than 97% of villages in Bangladesh. Loan repayment is at 98%.

For his work with the poor through Grameen Bank, Mohammad Yunus won the Nobel Peace Prize in 2006.

Microloans are a Better Way to Help the Poor

Yunus strongly believed that a loan is a better way to defeat poverty than by simply giving impoverished people money. The fundamental problem with basic monetary assistance is the unspecified and unfocused nature of its use.

For many who are impoverished, a monetary gift will likely be used to purchase food or upgrade living conditions. With a business microloan, the giver is investing in the future of the lendee’s economic success—and with that investment comes pressure to perform. That pressure is a perfect incentive for impoverished people to take the right kind of initiative and become self-empowered entrepreneurs.

Over the last 40 years, Grameen Bank and others in the microfinance world have lent money to uneducated and unemployable individuals who, given the right opportunity, were able to bring economic value into their household. Of those individuals, 95% of the loans through Grameen Bank were given to women.

Thus, the inception of the microloan is a story about helping those in need. It’s a story about women, minorities, and small business.

Female business owner working

2. The Impact of Microlending on Small Businesses Today

Microloans are playing a more important role than ever in the growth of small businesses across America. There’s no better evidence of this than in the recent policy-making strides of local and federal governments.

Local Legislatures are Passing Microloan Bills

Several local governments across the United States have passed microlending legislation. In 2018, for example, the Los Angeles City Council approved the formation of a revolving microloan fund program for small businesses by a 13–0 vote.

The legislation promised to give $250,000 in loans annually for 5 years at amounts of $5,000-$50,000. According to a city report, “It is estimated that every dollar loaned to a small business or microenterprise generates approximately 2 dollars of economic activity. As such, the Microloan Program could generate $2,500,000 in stimulus to the Los Angeles economy over the next 5 years.” These numbers are staggering.

The total growth in economic output proposed by this city report is a sure indication that the use of microloans to bolster small businesses is an absolute must.

The numbers are also indicative of an overall shift in lending culture toward microloans. While big banks shrug at the opportunity to help fund small business enterprises, forward-thinking lenders jump at the prospect of raising a new generation of business innovators. Microlending organizations come in all shapes and sizes—nonprofits, government agencies, and marketplace lenders, to name a few.

Microloans are Gaining Traction in the Federal Government

The main channel through which microloans are distributed on a federal level is through the Small Business Administration (SBA). Their microloan program provides loans to thousands of entrepreneurs every year.

Senator Kirsten Gillibrand, a supporter of the SBA efforts to expand microlending to Americans, says that microlending is all about “rewarding work, not rewarding bank profits. Because if we really want to fix our economy, then we need to start rewarding work again. And one of the best ways to do that is making sure that every hardworking entrepreneur who wants to start a business has the chance to do it.”

This statement leads to the next most important question: Can microloans help hardworking women and minorities overcome structural boundaries to success?

3. The Impact of Microlending on Minority and Female Entrepreneurs

Women start firms with about half the capital men do, according to a 2014 study by the National Women’s Business Council. Additionally, women-owned firms average about 6% of the outside equity that male-owned firms receive. Women also receive less than 5% of conventional small business loans, even though they make up nearly 40% of all small businesses in the country.

Women are crucial economic players in the small business world, but they’re not alone. Minority-owned American businesses are growing at a staggering rate. In 2012, minority entrepreneurs owned over 8 million—about 29%—of businesses nationwide. This number was a huge increase over the 5.8 million owned in 2007. Yet many minorities struggle to secure funding due to lower credit scores and fewer collateral assets. The US Department of Commerce found that minority-owned businesses see loan denial rates that are 3 times the national average.

This is where microloans come into play.

The Small Business Administration, for example, offers funding to many organizations that offer microloans. One such organization is Justine Petersen, 1 of 3 participating microloan intermediaries for the SBA in Missouri. In 2016, Justine Petersen loaned $13 million through 1,361 loans with money from an SBA program started by Congress in 1992 to help women, low-income, veteran, and minority entrepreneurs start businesses.

These kinds of programs make a huge difference in improving access to capital for female and minority entrepreneurs. Could there be a more worthy cause?

Even if you’re not a woman or a minority, however, that doesn’t mean microloans don’t apply to you. Other factors also make microlending attractive to American entrepreneurs.

Female business owner holding a mug

4. Microloans Are For Businesses with Bad Credit and Other Negative Circumstances

The nature of microloans is such that they are designed to require very little of the applicant. These loans service entrepreneurs who are dealing with many forms of financial turmoil. Even if you’re just starting out, have bad credit, or are in financial straits, you may still be eligible for a microloan.

Traditional banks typically require good or excellent credit to qualify for a business loan, meaning you need a personal credit score of at least 670 to even apply, although some banks will consider applicants with credit scores in the low 600s.

Greg Tucker, director of Missouri Small Business and Technology Development Centers, says microloans are a way for businesses with less-than-perfect credit to secure funding. “Microloans are for lower amounts, so there’s less risk, as a rule, and often less creditworthiness required of the applicant.” Not only are microloans good for those with suboptimal credit, he says, they’re also “a good way to establish business credit.”

In addition, lending marketplaces have opened up the door for a new range of business owners to access business loans. These marketplaces are home to a wide range of lenders and leverage technology to connect borrowers with a loan that suits their needs and credit profile.

Loans from these lending marketplaces have a much higher approval rate than those from traditional banks. They also tend to be much easier to apply for, and you’ll often receive funding very quickly.

5. Obtaining a Microloan Using Marketplace Lenders

Marketplace lenders like Lendio offer loans similar to microloans. Though our lenders wouldn’t technically call any of our financial products microloans, we offer financing for amounts as low as $500. You could say some of our loans are microloans in disguise.

Our small loans are designed around the needs of entrepreneurs and carry with them the same understanding of new businesses, bad credit, and financial difficulty indicative of microloans. While good credit will always increase your chances of obtaining great terms on a loan, you shouldn’t hesitate to apply no matter your circumstances.

Best of all, you just have to fill out our short 15-minute application to get the process started. You’ll start by telling us the amount of money you want—anywhere from $500 to $5 million. You’re probably not looking for millions just yet, but a microloan can help you get there.

Of course, we’re a little biased toward our own services (because they’re pretty darn great), but whatever financing route you choose, we’re here to help.

So now, it’s time to dig into the mother of all microlenders: the SBA.

Female business owner using a tablet

6. Obtaining a Microloan through the SBA

Here’s what you should know right off the bat: you won’t be working directly with the SBA to get a microloan. The SBA works with other lenders to help subsidize microloans, so once you’re done learning all the little requirements for applying for an SBA-backed microloan, you’ll have to look through this list of authorized intermediary lenders participating in the SBA’s microloan program.

Moving right along then, here’s everything you need to know to apply for an SBA-backed microloan.

SBA Microloan Requirements

In order to obtain a microloan, you are required to demonstrate a few things:

  1. Your enterprise must be a legal, for-profit business—except that nonprofit childcare centers may also receive SBA microloans.
  2. Your business must be located in the intermediary’s approved area of operations.
  3. Your business must meet SBA small business size standards.
  4. Neither your business nor you can have been debarred from receiving federal funds.
  5. No owner of more than 50% of the business can be more than 60 days delinquent in child support payments.

Once you have met the requirements and received approval, you are restricted in the ways you can use your microloan. SBA microloans can only be used for:

  • Working capital
  • Supplies
  • Furniture
  • Fixtures
  • Machinery
  • Equipment

Proceeds from an SBA microloan can’t be used for real estate, leasehold improvements, or anything else not listed as eligible. That includes paying off old debts.

Repayment terms vary according to the loan amount, planned use of funds, requirements determined by the intermediary lender, and needs of the small business borrower. The maximum repayment term allowed by the SBA for one of their microloans is 6 years with interest rates varying depending on the intermediary lender.

SBA loans can be a great way to get a good rate on a small loan, but they aren’t the only option for your small business.

What If My Loan Needs Don’t Fall under Any SBA Approved Uses?

This may be the case, but it shouldn’t be cause for alarm. The loans and financial products offered on Lendio’s marketplace cover a much broader spectrum of use. Some products don’t have any restrictions on use.

If you need financing and are not sure if an SBA microloan is right for you, fill out our online application and decide if our lenders’ offers are the right fit for your business. One application gets your business in front of more than 75 lenders who specialize in financing small businesses. Most of our clients receive multiple offers from a single application.

Once you’ve picked one of Lendio’s partner financing options and have begun investing capital toward the progress of your business, a special thing happens: you get to be part of the important work of bringing microloans to entrepreneurs in impoverished countries.

How, you may ask? Here’s how:

7. Expanding the Global Impact of Microloans through Kiva and Lendio Gives

If you’ve ever financed a loan through us or benefitted from any of our financial products, you’ve helped us in our efforts to fund microloans for small businesses across the globe.

For every loan facilitated on our marketplace platform, Lendio Gives donates a percentage of funds to low-income entrepreneurs around the world through Kiva, a San Francisco-based nonprofit. Kiva helps alleviate poverty by giving small business borrowers in impoverished countries access to short-term microloans.

Best of all, every dollar we send goes directly into the pocket of a small business owner in need. As a bonus, most of the small business owners serviced by Kiva are women-owned.

Of the loans we’ve funded, 93% went to female entrepreneurs. We’ve lent a total of $161,400 through 6434 microloans through Kiva so far. These loans support a wide variety of industries: 2126 of our loans went to food, 1809 to retail, 967 to agriculture, 742 to clothing, 405 to services, and 71 to construction.

You can be a part of the continuing tradition of microloans to bring opportunity to those in poverty. Microlending started over 40 years ago by an economist with a passion for lifting the impoverished. His legacy continues today through your support.

And that’s really the message of microloans. It’s a message about enterprising individuals in different stages of financial growth reaching out and making a difference. Because when entrepreneurs work together to build a better world, they simply can’t be stopped.

About the Author

Andrew Mosteller

Andrew Mosteller

Andrew Mosteller is a freelance writer and regular contributor to Lendio News. His upbringing in an entrepreneurial family nurtured a passion for small business at a young age. Andrew's father, an equity fund manager, taught him the ins and outs of investment financing. Now, Andrew spends his time writing copy for business owners, helping them expand and advertise their unique brands. He's also studying Strategic Communications at the University of Utah. When Andrew's fingers aren't glued to the keyboard, he spends his time reading, podcasting, composing music, and bombing down the ski slopes.

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