Beware: Those 'fintech' small business loans can cost you bigtime

Having trouble getting a bank loan for your small business? So are many other small companies, especially those in economically disadvantaged areas, according to a report released Tuesday.

That lack of traditional bank financing has led to a proliferation of online small business lenders. But experts warn: be careful.

Small business loans in 2014 were down nearly 60% from their 2007 peak, a, according to “Patterns of Disparity,” a report conducted by the Woodstock Institute in partnership with the Main Street Alliance, California Reinvestment Coalition, and People’s Action Institute.

“Since the Great Recession, mainstream financial institutions have been reluctant to make small loans to businesses, and so businesses have increasingly been resorting to alternative, non-bank financial technology (fintech) lenders for needed capital,” the report said. An "analysis of loan terms and satisfaction surveys of business owners suggest that high interest rates, onerous terms and relatively poor customer service are unfortunately common among such providers.”

“Only one in five small business owners seeking financing from a traditional bank will get approved,” said Nonso Maduka, who leads small business efforts at NerdWallet, a website comparing various financial products. “That leaves 80% who can’t get funding from a traditional bank source, even though that’s likely the lowest cost.”

And, as the Woodstock Institute reports, the chances of a small business in an economically challenged area getting a loan from a bank are even lower. Nationally, businesses in low-income areas comprise 9.3% of all businesses but received only 4.7% of bank loans under $100,000.

“If you’ve gone through the process of applying for a bank loan and aren’t eligible, you haven’t been in business long enough, the amount of money you’re requesting is less than $500,000, if you’re thinking about speed, or just need cash in order to keep moving, an alternative lender might be a good option,” said NerdWallet’s Maduka.

“But, as with any new industry, there are no clear regulations yet,” warned Maduka, meaning small businesses need to be careful, even wary, when considering one of these online business loans.

If you’re thinking of taking out one of these online loans, keep these things in mind:

1. Lack of protection. Small business borrowers, whether getting an online loan or using a business credit card, don’t have the same protections they do as when borrowing as a consumer. Fintech is called “the wild west” of borrowing, so don’t expect the same limits on interest rates, requirements for transparency or other government protections.

2. Sky-high interest rates. Loan sharks would be comfortable with most of the interest rates charged by these lenders. Annual percentage rates (APRs) average around 94% and reach as high as 358%, according to a report from The Opportunity Fund. Who ever thought a 28% APR on a consumer credit card would look good?

3. Terms and fees. Many of these loans have hidden fees or onerous terms. Check those carefully. For instance, you may have to pay the entire interest rate even if you pay the loan off early, have additional fees, or are required to maintain certain daily cash flow requirements or incur additional charges.

4. “Stacking.” Stacking is taking on new debt to pay off old debt. “The onerous terms of the previous debt weigh on your business and you can’t make those payments, so you roll that in to a new loan which also might be a high interest rate,” said Maduka. “Unfortunately there are companies out there that prey on this factor . . .  that’s how they make money.”

5. Repayment sources. With such sky-high interest rates — and often additional fees — you want to make absolutely certain you’re going to be able to pay these loans off on time. Don’t use as a last resort when you’re in trouble, but only when you  have a clear, dependable source of funds coming in.

Finally, though you should be wary of these online loans, if you decide you have no other alternative, be sure to shop around. “Most small business owners don’t comparison shop when looking for loans. They just go with the first choice because they need cash right now or they need to get back to what they’re good at — running their small business.” said Maduka.

Rhonda Abrams is the author of 19 books including Entrepreneurship: A Real-World Approach, just released in its second edition. Connect with Rhonda on Facebook and Twitter: @RhondaAbrams. Register for Rhonda’s free business tips newsletter at www.PlanningShop.com.