Who's Afraid of the Big, Bad Debt? - Beware of the New Predatory Lending
June 9, 2014
Who can forget 2008? That spring, the world renowned Bear Stearns was the hot item at a bargain basement sale involving the major US banks. And as Bear Stearns passed hands for pennies on the dollar, the US financial markets were collapsing . . . and collapsing . . . until the failure ran rampant globally like an incurable virus. The subprime mortgage industry was named as the culprit for the failed financial markets. Legislators immediately demanded transparency and accountability from the US banks. And in spite of the federal hearings, economic stimuli, and Dodd-Frank, here we are again facing another form of predatory lending. This time, the target is small businesses.
Obtaining capital to start a business or maintain its operations is a difficult feat, which makes predatory lending for small businesses an attractive market. In fact, the subprime business lending market has grown to $3 billion per year. The loans offered could have interest rates as high as 134 percent. Because these loans are secured by business assets and/or personal guarantees, the lenders seize the borrowers’ assets when they cannot pay, which can cripple their businesses and force them into bankruptcy. While state usury laws are designed to protect the public from such dealings, such lenders operate under laws of states that do not cap interest rates. Otherwise, business to business loans remain largely unregulated. So what should you do? Avoid these loans and here’s how:
Borrow from family and friends – dealing with family and friends can be difficult and make for uncomfortable Thanksgiving dinners; however, they also can be lifesavers when extra money is needed to grow a business or keep it afloat. When engaging in such transactions, make sure to create a written loan agreement (just to make the Thanksgiving dinners a little less dicey).
Seek investors – the legal restrictions on raising capital have been eased when the dollar amounts are small, specifically less than $1 million. Crowdfunding websites have been viable options in facilitating this capital raising process. There are also crowd sites for lending. Be mindful of your set dollar amount because you only get the funds if you meet your goal.
Consider leasing versus owning – If you own equipment or other assets that could be resold, then consider selling it to a party that will in turn allow you to lease the equipment. The sale proceeds will allow you to address your immediate needs with a monthly payment as established by your agreed terms.
Reassess your expenses – do more with less is a great rule to adopt, especially in times of financial pressure. Evaluate your expenses to determine where you can spend less money. By reducing your liabilities, you lessen your financial burden and improve your cash position.
History shows that market players will continue to create new ways to profit from the desperation of others. For example, it should be no surprise that some of the same investment firms that securitized subprime mortgages are now securitizing subprime business loans, or that one of the trainers for these lenders sold questionable investments in the early 90s but avoided jail by being an informant (remember, the based on a true story film Wolf of Wall Street?). So the best defense is to be informed and beware.