Why Small Businesses Have Trouble Getting Credit

Only one third of small business owners were able to obtain all of the credit that their businesses need, a recent National Federation of Independent Business (NFIB) survey shows.

The survey’s finding is not surprising. Many economists, policy makers and small business advocacy groups have long explained that small businesses have a harder time obtaining credit than their larger counterparts. When it comes to accessing capital, size definitely matters.

Even among small businesses, the smaller the company, the lower the odds that it has a loan (see figure below) or a line of credit. Only 15.7 percent of businesses with one or fewer employees have a business loan and only 33.7 percent have a line of credit, the NFIB survey shows. By contrast, 56.8 percent of businesses with between 50 and 250 workers has a business loan and 65.4 percent has a line of credit.

Source: National Federation of Independent Business, 2011 finance survey Source: National Federation of Independent Business, 2011 finance survey

Rather than reveal some sinister motives among bankers, however, these patterns simply reflect the economics of business credit. Fewer small businesses have access to credit than larger companies because lending to them is riskier and more expensive than extending credit to larger companies.

Default risk is higher in the small business loan market. Small businesses fail at higher rates than big businesses and changes in the business cycle have a larger impact on their profits. Because lenders cannot always charge interest rates that are commensurate with a borrower’s default risk, the most risky small business borrowers are often unable to get credit.

Lending to small businesses is more expensive than lending to big companies. Part of the problem is the fixed cost of making a loan. Some costs are the same whether you make a $50,000 loan or a $5 million loan. Therefore, profit margins are higher on bigger loans. Of course, larger companies are more likely to need bigger loans than their smaller counterparts, which leads lenders to focus on larger customers.

Additionally, evaluating small business loan applications is often expensive. Little publicly available information on the financial condition of small companies exists, and small businesses’ financial statements are not always very detailed. Small business owners’ personal finances are sometimes intermingled with those of their businesses. The very large variety of small businesses and the way they use borrowed funds make it tough to apply general lending standards. Finally, monitoring the financial condition of small businesses often requires lenders to build personal relationships with small business owners.

These economic principles have important implications for those seeking to boost small businesses’ access to credit. Encouraging more lending will require policies that take into account the greater cost and risk of lending to small companies — and why small businesses have trouble getting credit.


Scott Shane Scott Shane is A. Malachi Mixon III, Professor of Entrepreneurial Studies at Case Western Reserve University. He is the author of nine books, including Fool's Gold: The Truth Behind Angel Investing in America ; Illusions of Entrepreneurship: and The Costly Myths that Entrepreneurs, Investors, and Policy Makers Live By.

20 Reactions
  1. Thanks for that information, Scott.

    It’s not too surprising to see that “the smaller the company, the lower the odds that it has a loan.”

    It comes down to money…profits, really.

    For about the same amount of work and cost, lenders make a lot more money on bigger loans with bigger businesses.

    Maybe a few niche lenders can set-up shop and find an efficient way to do small business loans for small businesses.

    It screams of opportunity.

    The Franchise King®

    • Joel, many of our clients at FinancingFactory.com are startups, but clearly, its not easy to get startup capital versus capital for an existing business.

      I am seeing a lot of innovative companies that are coming up with good solutions for startups or newer businesses, but poor credit can be the usual road block. There are steps small business owners can take to get access to capital, but its a lot harder than it should be. Many in the lending industry are trying to solve the problem.

      Good luck to all the entrepreneurs out there, its a great calling even if you have to have some steady nerves some days!

      Jon Parks, COO

  2. The franchise king…. good comments. There are a few niche lenders emerging that focus on this very thing. Companies like IOU Central and Business Backers focus on smaller loans delivered via technology. Many banks are jumping on board and monetizing deals they can’t do.

  3. Barbara Bickel

    This is not a recent survey. The report is from 2011. Why do you say recent?

    • Anita Campbell

      Hi Barbara, Thanks for your comment. In this case, I think the study is recent enough to be relevant. It covers data over a period of years, and actually was published in 2012.

      Compared with government statistics, this data is not only recent, it’s “hot off the presses.” Many SBA government studies and Census numbers are years older than that.

      – Anita

  4. Good points on the size of business able to obtain financing. We see this every day with thousands of business owners who are in this position and create profiles in Lendio. Even though we have many banks/lenders across the nation that can help them. We need more to help with the demand. Working together is what it is going to take to really get the economy humming again!

  5. There is a more recent survey Barbara – it basically says the same thing. It’s from the Federal Reserve Bank of NY August 2013 http://www.newyorkfed.org/smallbusiness/2012/2012_Small_Business_Borrowers_Poll.pdf I have seen the same report via email from May 2013 – I have not found it online yet.

  6. In my opinion, Scott’s reasoning is very accurate. An additional element in this equation is the fact that historical default rates increase as the staff count decreases. In our portfolio, small businesses with greater than 10 employees perform materially better than small businesses with less than 10 employees.

  7. The aspect of fixed costs makes total sense. The banks are obviously trying to increase profit margins but I wonder if doing jumbo business loans could subsidize some of the smaller loans? They may not be interested in doing that.

  8. allen wallace rockefeller

    Small business owners will usually have a diificult time in obtaining financing from major institution. One particular reason is that many of them (small business owners) are unaware of how to establish their business credit and how to keep it separate from their personal credit. The process of business credit establishment is not difficult. A proper business credit profile can be a determining factor when entrepreneurs and small business owners seek capital to continue or grow their companies.

  9. No surprises here. Smaller businesses tend to bring in smaller profits which leaves them with fewer options. The risk that the credit lenders have to take becomes greater. There are alternative lenders though who specialize in loans for small business owners and alternative financing sources. A straight up loan is not necessarily the best option for small business in many cases. Freeing up capital can be achieved through other means like invoice factoring etc.

    • Good morning: The above article is well said. I am a small business owner and I’m having extreme difficulty getting capital investment. Can you suggest anyone. My business is selling automotive parts . Thanks John

  10. John – Check out ioucentral – they can make up to 100k loans in a few days – there is a calculator on their website to help you determine if your ROI is there.

  11. I didn’t realize that small businesses default on loans so often! My brother has been working on a small business and he’s said it’s been hard to get a loan to get things started. I’ll have to have him read this so he can see what he’s up against and maybe that will help him get what he needs.