There’s a little secret that banks don’t want small business owners to know. Banks refuse to lend to a ton of the small business ecosystem, not because they’re bad debts, but because they’re inefficient for the banks’ lending business model. This has nothing to do with creditworthiness and everything to do with lending and operating efficiency that most business owners never see coming.
For far too long, the banking industry has sold the narrative that small business loan denials occur due to problems within the businesses, their owners, or creditworthiness. However, the reality is that banks increasingly reject lending relationships over the years because they have set up lending strategies that deny those who are not good fits based on criteria that have little or nothing to do with repayment potential.
Why Banks Actually Deny Good Businesses
Banks make money off of volume and efficiency. They do not make money off of honing in on specific business cases. A loan application that requires any people’s judgment costs as much to produce as the profit margin warrants. Thus, they deny businesses who are outside the box, not due to red flags, but because they don’t want to pay a loan officer or underwriter to take the time to investigate.
There are tons of businesses that get denied—small manufacturing companies, for example, or businesses that have seasonal pitches, retailers who only operate during certain months of the year, service businesses with lumpy revenue streams, or startup companies without two years’ worth of identical metrics—but in reality these businesses aren’t bad debts; they’re bad debts because it takes time to assess whether or not they would be good debts. Banks would rather have ten identical loans come in than ten unique proposals; it slows down progress.
The denial letter indicates debt score and cash flow concerns—but in reality, if a business doesn’t fit into the automated underwriting program, banks won’t effectively process it for an affordable output.
The Loan Size Economics
Here’s something that no entrepreneur realizes: banks lose money on loans below certain amounts. Processing, servicing and managing a $50,000 loan is almost as expensive as a $500,000 loan—and the profit is worse on the smaller one. So those community banks who float loans below $100K are floating them at breakeven points because their operating expenses justify the potential money.
However, larger banks lose money on loans below $100K—if not $200K. Their operating expense threshold is above that so they need higher principal amounts to justify time and energy spent from application to approval.
Thus there’s a huge gap in funding where businesses who require below $100K—amounts that could be life changing for small businesses—are poor use of time for banks.
Filling the Gaps Banks Refuse To Fill
Alternative lenders didn’t emerge to disrupt traditional lending strategy with banks; they developed as response lenders for those who banks intentionally denied. This means that alternative lenders found their business model through customers who banks denied with purpose—essentially, profit came from the vast underserved market rather than any single loan.
Revenue-based financing options such as a merchant cash advance work particularly well for businesses with consistent credit card sales because they align repayment with actual business performance rather than requiring fixed monthly payments that banks prefer.
Ultimately, alternative lenders can support those whom banks refuse because their business models are designed on speed and access—not risk assessment and financial considerations toward operational ease.
Technology That Changes Everything
Alternative lenders use technology based on operational capacity rather than historical documents. They track real-time business transactions and actual cash flow patterns—rather than guesses on tax returns over the past calendar year—meaning that a merchant cash advance can provide information equity where otherwise a bank would deny financing outright.
For example, a restaurant with seasonal benefits means its slow season will hurt its cash flow predictions—but if a lender can see decent sales data in March and April, it can fill quickly through summer and fall. An e-commerce business that skyrockets profits one Christmas but tanked another means that volume fluctuations can help fund additional capital amid unexpected growth within quarters.
But a bank doesn’t care—they need input from a corporation instead of judgment calls based on an educated understanding of one particular economic model.
Why Higher Rates Make Sense
Alternative lenders charge more than banks—but they’re not good options for so many alternative communities. For business owners who can leverage rapid funds to create additional revenue-generating opportunities—there’s no reason why paying higher rates—which might create faster payoffs due to new revenues—is not a better option than waiting for approval from a bank that may also deny them.
The speed at which these alternative lenders work creates strategic advantages that might either justify the higher cost than expected or allow business owners capacity to access loans they never thought possible within other parameters.
The Hidden Benefit of Providing Relationships
Lenders tend to provide alternative business owners with ongoing relationships—one-off transactions are rare. As a business demonstrates its ability to repay and revenue grows per cycle to justify more money sooner than later, this often helps facilitate better terms than banks ever offer outside their profitable estimates.
Why Smart Businesses Realize Their Real Options
Smart entrepreneurs know that alternative and bank lenders service different market segments and thus entrepreneurs can determine whether they are best fit for either type of lender despite preconceived notions about which lender should be recommended if they’re both after the same outcomes.
Thus if a business has excellent credit with minimal risk and lots of collateral—then pursue a bank; if the business has an untested model but recent success and needs timely support—they shouldn’t waste time getting turned down by banks—they should explore their options with alternative lenders first.
Building Financial Relationships Everywhere
The most successful small businesses have relationships with both traditional lenders and alternative lenders. Why? Because at certain times, certain methods of finance make sense while other options do not.
Thus if a business becomes dependent on traditional loans—but can’t support them—they’re missing out on good opportunities in multiple ways. Flexibility will put a small business in good standing.
The banking industry’s deliberate exclusion of large segments of the small business market created opportunities for alternative lenders to build profitable businesses serving underserved entrepreneurs. Understanding this market reality helps business owners make strategic financing decisions based on their actual options rather than pursuing lending relationships that were never designed to serve their needs. The secret isn’t that alternative lending exists – it’s understanding why banks created the market opportunity for it to thrive.
