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Recent dynamics of the small business lending market

A deep understanding of the small business lending landscape and potential efficiencies can help banks and credit unions grow their portfolios. 

You might also like this guide for smarter, faster small business lending.

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Takeaway 1

Financing plays a crucial role in small business survival and success. It's also a prominent line of business that many financial institutions are targeting for growth.

Takeaway 2

Several small business lending processes can tax both borrowers and staff. They lead to inefficiencies and roadblocks to small business lending. 

Takeaway 3

Depository lenders are enhancing their lending procedures and technologies to meet institution risk and return requirements as they grow.

Dynamic market

Small business lending by banks & credit unions

Small businesses are a pillar of the U.S. economy, and access to financing often plays a crucial role in their survival and success. Small business lending is also a prominent line of business for many financial institutions, especially those driven by a mission to help their communities thrive.

However, small business lending can be costly and time-consuming for banks and credit unions. Some of the factors that can make small business lending a lower-return venture than other types of lending are the same ones that lead to costly and frustrating experiences for small business owners. This article outlines some of the math behind small business lending and its profitability and suggests ways for banks and credit unions to better serve this important market while earning appropriate returns.

The piece covers:

  • The small business lending market and its role in communities and the economy
  • Traditional depository institutions’ changing market share in small business lending
  • The challenges (financial and operational) of small business lending for banks, credit unions, and borrowers.
  • Options that create lending economies of scale and better borrower encounters.

 

Role of business loans

The market and impact of small business lending

Small business lending is a large and growing market, and many banks and credit unions want more of it. Record new business formation and a wider gap between U.S. establishments' birth and death rates compared to the last business cycle have some financial institutions eager to meet the credit needs tied to this small-business boom.

While data on the small business lending market is fragmented and incomplete, the Consumer Financial Protection Bureau’s (CFPB) last detailed review estimates it grew 21% to $1.7 trillion between 2019 and 2022. The market surged to as high as $2.4 trillion in 2020 as a result of COVID-19 relief programs.

Demand for small business financing is driven by many factors, not least of which is small businesses' vital, ongoing role in the U.S. economy.

Consider the following small business facts:

  • Nearly all American businesses (99.9%) are small, generally defined as having fewer than 500 employees.

  • The 33.2 million small businesses in the U.S. employ roughly half of all Americans in the labor force and drive nearly 44% of GDP.

  • Small businesses created nearly two-thirds of net jobs in the last 30 years
  •  Small businesses represent 97% of exporting firms.

Despite their essential economic role, small businesses are notoriously risky. The U.S. Census Bureau says a fifth of small businesses fail within the first year. Between 1994 and 2020, nearly a third of new employer establishments didn’t last more than two years, and the 15-year survival rate was 26%.

Indeed, most small businesses require external financing to survive and grow. The Fed’s latest Small Business Credit Survey, conducted in 2023 and released in 2024, found that nearly 60% of employer firms had sought financing in the previous 12 months. Almost half sought credit to grow their businesses, and 28% applied to make repairs or replace capital assets. At the same time, 59% pursued credit to meet operating expenses. A majority of applicants sought less than $100,000.

While small business loans inherently benefit business owners, they also benefit communities, according to 2021 research for the SBA. Small business loans “have large and significant effects on employment growth and job creation, particularly for firms with less than 100 employees.” Loans of less than $100,000 showed the strongest impact.

"[H]igher shares of small business loans ... are associated with higher asset growth rates."

Lending to small businesses can help financial institutions, too. The research for the SBA found that higher shares of small business loans in the portfolio are associated with higher asset growth rates. The strongest effects are seen among banks with less than $10 billion in assets.

Major players in SMB loans

The role of banks and credit unions in small business lending

Financial institutions are major players in small business lending, but their roles are shifting.

The CFPB is implementing new small business lending data collection rules in part to improve the data on this fragmented and complex market. Meanwhile, the agency says banks, credit unions, and other depository institutions accounted for 80% of the 8,200 financial institutions active in small business financing in 2019.  With $580 billion in private-term loans and lines of credit and $62 billion in credit cards, they accounted for 56% of the small business financing market.

As a share of their total assets, community banks have more business loans below $1 million than larger banks, according to the St. Louis Fed:

[S]mall-business loans—i.e., loans less than $1 million—accounted for 12.6%, 11.1% and 7.9% of total assets at three different sizes of community banks (those with $250 million or less in assets, those with more than $250 million to $1 billion in assets, and those with more than $1 billion to $10 billion in assets, respectively.) Larger banks, those with assets of more than $10 billion, held just 3.6% of their total assets in small-business loans.

However, big banks are increasingly where small businesses apply for credit. Fed survey data show that lower percentages have said they applied at small banks in each of the last three years.

Online fintech lenders and merchant cash advance providers are also making up ground. The CFPB estimates 2019 small business financing was as much as $19 billion by merchant cash advance providers and about $25 billion by online fintech lenders.

As smaller banks seek to win more small business loans and credit unions expand more into member business lending, it's important to consider some of the complexities they'll face. It also helps to understand how those issues affect borrowers. As a St. Louis Fed economist noted, small businesses “frequently encounter obstacles to accessing capital because banks face challenges in lending to them.”

See how Dover FCU speeds up its lending processes. 

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Business lending complexities

Challenges for small business lenders and borrowers

As noted earlier, small businesses bring inherently higher risk, so lenders have unique considerations during underwriting. Among additional challenges that complicate the small business financing process:

  1. Small businesses often have shorter track records of operating, making it harder to assess their creditworthiness.
  2. Evaluating smaller loans is also complicated by how little public information exists about the performance of most small businesses and by the fact that many lack detailed balance sheets and other financial information often used by lenders in underwriting small business loans.
  3. Each small business has a distinctive business strategy, customer base, and mode of operation —factors that make small business loans harder to monitor than those for large corporations.
  4. Small businesses often lack substantial collateral.

CFIs can navigate the complexity, but...

Community financial institutions’ insight, experience with local economic conditions, and strong relationship banking with small businesses in their service areas help them navigate the complexity. However, lenders can spend as much time processing a $50,000 loan as a $5 million loan, which limits their ability to take advantage of operational efficiencies from volume increases.

Lending processes at many banks and credit unions impair their growth efforts. A 2022 report by industry research firm Datos, formerly Aite-Novarica, said lenders have limited levels of automation in a market that requires scale, speed, and loan application volume for success. It found that 47% of examined lenders have highly manual operations, with just 16% describing their operations as highly automated with reasonable digitalization.

As former SBA Administrator and Senior Harvard Business Fellow Karen Mills has noted, lenders’ processes are also taxing on their borrowers:

For loans, most small businesses still go from bank to bank, filling out applications and submitting significant amounts of paperwork in a process that takes 24 to 34 hours according to a recent Federal Reserve survey. The personal underwriting process is largely paper-intensive and manual, often done with the aid of [E]xcel spreadsheets, and there is a reliance on personal credit scores, particularly in the larger banks. The response times are slow, often several weeks and even months until borrowers are approved or denied.

The large number of lenders, the absence of standard application requirements, and substantial differences in credit costs among lenders result in business owners spending time navigating the market. They’d rather invest that time in growing their revenues and profits.

Innovation

How to create growing, profitable small business lending

Banks and credit unions looking to grow small business lending in a way that fits their customer or members' needs along with the institution’s risk, return, and strategic goals are increasingly revamping their processes and systems.

Fundamental inefficiencies they address with automated workflows configured to their needs and market demands include:

  • Duplicate data entry, where staff have to enter the same data into multiple systems
  • Returning to the borrower multiple times to collect necessary documents
  • Storing borrower documents in various systems so it’s unclear what information has and hasn’t been collected
  • Difficulty tracking the loan stage due to multiple people working on a single credit
  • Re-spreading financials for a borrower when new information is collected
  • Manually aggregating data needed for loan committee presentations
  • Manually adjusting loan proposals if the loan committee recommends changes

Small business loan origination software that allows automation from origination through closing but is flexible enough for a lender to step in when needed allows financial institutions to offer faster decisions and funding. Here are a few additional benefits of effective lending software tailored for small businesses:

  • A user-friendly online application that can be completed by the borrower or with a lender’s assistance means the small business owner can apply when and where they want, and staff can avoid repeated data entry. When a small business owner can upload supporting documents securely anytime from anywhere, the bank or credit union spends less time chasing documents. Analysts can begin analyzing the borrower more quickly when financial spreads are automated and when an AI-powered decisioning engine provides a loan score in seconds.
  • Loan proposals and loan committee presentations are prepared more quickly and are easier to review with workflows and templates that align with your loan policy.
  • Small business borrowers are offered faster decisions and streamlined processes for all types of credit. They expect them from their primary financial services provide.

Financial institutions can grow their small business lending portfolio while managing risk if they capitalize on automation, which allows them to offer better loans and customer or member experiences.

Conclusion

Ever-changing market & opportunities

Given the role of banks and credit unions in business lending, the interplay between small businesses and financial institutions is critical for the U.S. economic ecosystem.

Despite the complexity and risks, small business lending has immense potential rewards—both economic and social. Banks and credit unions that harness innovation, improve efficiencies, and foster a deeper understanding of the small business lending landscape can better serve this crucial sector and ensure their own growth and stability.  

As the market dynamics evolve and new data becomes available, institutions that adapt and refine their strategies will secure their role as pivotal players in community development and economic vitality.

 

Win more small business deals and grow market share.

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Preventing wire fraud is more important than ever. 

Learn what constitutes wire fraud, common scams to tell your clients about, and what you can do to prevent wire fraud.

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Takeaway 1

Fraud losses are growing at an all-time high, keeping financial institutions and their clients on their toes with potential annual losses exceeding $12.5 billion. 

Takeaway 2

Wire fraud impacts victims’ personal lives and disproportionately impacts vulnerable populations. Proactive wire fraud prevention strategies are essential.

Takeaway 3

Wire fraud prevention measures include robust fraud policies, employee and client education, and the utilization of secure communication channels.  

 

Education is prevention

What constitutes wire fraud?

Fraud losses are growing at an all-time high, keeping financial institutions and their clients on their toes. The Federal Bureau of Investigation's  2023 IC3 Report reveals that a record number of complaints were received in 2023 at 880,418, with potential losses exceeding $12.5 billion. These figures represent a 22% increase in losses compared to 2022.  

Most of the fraud instances reported by the FBI fall into the category of wire fraud—one of the oldest forms of fraud faced by financial institutions. Wire fraud is loosely defined as a financial crime intentionally perpetrated through electronic communication, including traditional wire transfers and any other fraud using the Internet, phone calls, text, social media, and email. Whether the fraudster steals money, property, or personal information, if they've used electronic means to lure their victims, it is considered wire fraud. According to a 2024 survey conducted by CertifID, one in every four consumers is targeted with suspicious communications. Of those targeted, 5% fell victim to wire fraud schemes. 

The ability to transfer funds quickly has increased the instances of wire fraud over the years, with businesses and individuals becoming victims at an alarming rate. Wire transfers are often transacted on a larger scale with the potential for significant losses. Understanding what wire fraud entails and preparing against its effects is vital to both financial institutions and their clients for wire fraud prevention. 

The Federal Trade Commission (FTC) identifies common elements of wire fraud, which include: 

  • Intent to defraud: Wire fraud requires the perpetrator to have the intent to defraud the victim. 
  • Use of electronic communication: The use of electronic communication, such as emails or phone calls, to commit fraud is a key element. 
  • False pretenses: The fraud typically involves misrepresentations or deceptive tactics to convince the victim to send or spend money or valuables. 
  • Interstate or international transmission: Federal wire fraud prosecutions involve the use of interstate or international wire communications, which triggers federal jurisdiction. 

Statistics and schemes

Preventing wire fraud prevents significant losses

The FTC reports that the three top fraud payment methods (and the losses associated with each) for 2023 are all wire fraud typologies: 

  • Bank transfer or payments: $1.8 billion 
  • Cryptocurrency: $1.4 billion 
  • Wire transfer: $343.7 million 

As you can see, the total losses are staggering, leaving victims embarrassed and financially strained, if not depleted. Financial institutions are in a unique position to detect and prevent wire fraud by understanding the current methodologies used to scam victims. Some examples of wire fraud schemes that financial institutions and their clients should be aware of include: 

  • Investment fraud: False promises of high returns lure unsuspecting investors into fraudulent schemes, where their funds are siphoned off for personal gain rather than legitimate investment purposes. Investment fraud includes Ponzi and Pyramid schemes. 
  • Business Email Compromise (BEC): Fraudsters infiltrate business email accounts to impersonate executives or vendors, manipulating employees into believing the communication comes from a trusted source and transferring funds or sensitive data under pretenses. 
  • Ransomware: Criminals launch malware onto a system to permanently block access to the victim's data unless a ransom is paid. Businesses can also become victims and have their entire customer base compromised. 
  • Spoofing and phishing (includes smishing and vishing): Offenders masquerade as legitimate entities to trick individuals into divulging sensitive information like usernames, passwords, or financial information. The fraudster disguises an email address, sender name, phone number, or website URL to convince you that you are interacting with a trusted source.   
  • Romance schemes: A criminal adopts a fake online identity to gain a victim's affection and trust. These relationships most often play on the romantic relationship but can also be a trusted friend or caregiver. Pig butchering scams frequently use this technique.  
  • Advance fee schemes: Investors are asked to pay a fee upfront for an investment deal to go through.  Once paid, the investment never happens. 
  • Nigerian letter (419 fraud): The fraudster requests help to facilitate the illegal transfer of money to get funds out of Nigeria. The number "419" refers to the section of the Nigerian Criminal Code dealing with fraud and the charges and penalties for such offenders. 
  • Synthetic identity fraud: A type of identity theft that uses a combination of personally identifiable information to fabricate a fake person or entity to commit fraud for personal or financial gain. New account onboarding is the typical event where this crime can be detected. 
  • Grandparent scams: Criminals pose as a relative—usually a child or grandchild—claiming to be in immediate financial need. Senior citizens are most often the target of these scams. 
  • Government impersonation scam: Fraudsters pose as employees with government agencies, such as the IRS, and threaten to arrest or prosecute victims unless they agree to transfer money or other payments. 
  • Sweepstakes/charity/lottery scam: Criminals claim to work for legitimate charitable organizations to gain victims' trust - or they claim their targets have won a foreign lottery or sweepstakes, which they can collect for a fee. 

For financial institutions, wire fraud repercussions extend beyond monetary losses, encompassing damage to reputation, regulatory scrutiny, client attrition, and legal liabilities. Customers and members face dire financial consequences, ranging from depleted savings to tarnished credit and compromised personal information. According to the FBI, more than half of wire fraud victims are senior citizens whose financial loss is not easily made up during their lifetime, as evidenced by the stories of retirees who fall victim to a pig-butchering scam. 

Tips for AML/CFT efforts

How personal relationships prevent wire fraud and what to do when they can't

One of the more common challenges faced by financial institutions when preventing wire transfer fraud is convincing clients that they are victims of a fraud scheme and advising them not to send funds. It is a difficult conversation to have, but it is critical to preserve the trusted advisor role. If a financial institution is unable to convince the client not to send funds, which could be substantial amounts, file a SAR and follow up with call to law enforcement if high dollar amounts are involved. 

If the fraud cannot be prevented, the FBI offers the following guidance to financial institutions when detecting wire fraud: 

  • Contact the originating financial institution as soon as fraud is recognized to request a recall or reversal and a Hold Harmless Letter or Letter of Indemnity. 
  • File a detailed complaint at www.ic3.gov. The complaint must contain all required data in the provided fields, including banking information. 
  • Only make payment changes after verifying the change with the intended recipient; verify email addresses are accurate when checking email on a cell phone or other mobile device. 

There are several ways that financial institutions can be proactive in approaching wire fraud prevention: 

  • Develop a comprehensive fraud risk assessment and develop mitigation steps for any gaps. 
  • Implement effective fraud policies, procedures, and processes that center around prevention and detection. 
  • Exercise vigilance when responding to unsolicited communications requesting sensitive information or urgent action, primarily via email or phone. 
  • Independently verify the authenticity of requests for funds or sensitive information, particularly those involving unfamiliar parties or unusual circumstances. 
  • Utilize robust fraud detection software, which may include machine learning but should also include human decision-making for more complex processing. 
  • Educate employees about typical wire fraud schemes and equip them with protocols for verifying requests and detecting suspicious activity. 
  • Educate clients on wire fraud typologies and warning signs. 
  • Utilize secure communication channels and encryption methods to safeguard sensitive information from interception or unauthorized access. 
  • Implement multi-factor authentication measures to add an extra layer of security to online accounts and transactions. 

Preventing wire fraud demands a concerted effort from financial institutions, regulatory authorities, and consumers alike. The repercussions of wire fraud extend beyond monetary losses, affecting victims' personal lives and disproportionately impacting vulnerable populations. This underscores the importance of proactive prevention strategies and collaborative efforts to uphold the integrity of the financial system. Detecting and preventing wire fraud safeguards against detrimental consequences for both financial institutions and their clients. 

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Stand-out bank business strategies for lending success

These bank business strategies will help you market, target, add value to your lending services and build lasting relationships with your borrowers. 

You might also like this SMB Lending Insights report for banks and credit unions

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Takeaway 1

Banks need to implement good business strategies to attract new customers and build on existing relationships.

Takeaway 2

Financial institutions should set ambitious goals and fully utilize metrics and marketing tactics to see measurable growth.

Takeaway 3

Know the right people to ask for introductions and live up to your reputation. That means going above and beyond to provide value. 

Lending is a competitive and challenging industry, requiring constant innovation to attract and retain customers. Offering the lowest rates or fastest approvals is no longer a sufficient bank business strategy. To stand out, you must provide a unique and memorable experience that demonstrates value and respect to borrowers. 

In a recent Abrigo webinar on relationship banking, Chris Carlson of the Relationship Banking Academy shared keys to successful lending based on his extensive research and experience. This blog will break down those proven strategies to help you grow your business, increase referrals, attract new customers, and retain loyal customers who return for their future financing needs. 

Mindset 

When it comes to annual goal setting, it's not uncommon for bankers to simply pledge to do 5% more than last year again and again, sometimes succeeding and other times failing. This can often lead to frustration, but according to Carlson, setting higher goals might be the solution to getting out of a rut. If you aim for linear growth, you will likely stick to the same methods and work harder to increase your productivity. If you shift your mindset and aim for exponential growth, you are more likely to think outside the box, be creative, and find new solutions like small business loan origination software or other automation tools to help you achieve your goals. Be ambitious and set higher goals for yourself. 

Market 

You need to be selective about which potential customers you pursue, which means identifying the right prospects. As part of its business strategy, your bank should have well-defined and specific criteria for screening your leads and eliminating the ones who are not suitable for your services. You should also use data and analytics to group your prospects based on their behavior, interests, and needs to find a niche in which you are successful. This way, you can work to become the go-to banker in your geographical area or a particular industry due to your expertise.  

“Most bankers overestimate their ability to close people on their targeted list and they don’t have enough pipeline to hit their goals,” Carlson said. He advises bankers to create a list of 25 solid target prospects to prioritize closing and a second, longer list of targets in their niche. Contact and stay connected with the second list with a consistent drip campaign that will keep your bank top of mind but focus your efforts on the smaller list first.  

Marketing 

Bankers tend to stop and start marketing efforts as their schedules allow, but good marketing is consistent. It takes planning and time to reach the right decision-maker with the right information. Create a monthly marketing calendar to plan what you want to show your potential customers, and keep in mind that the easiest formats for campaigns aren’t always the most effective. Email is fast and inexpensive, but direct mail might make more of an impact.  

Whatever marketing tactics you employ as part of your bank business strategy, your messaging cannot be all about you and your bank. Look for ways you can add value to your potential customers and use your marketing materials to show them how you can help them reach their goals. Carlson suggests creating a banking podcast and inviting small business owners to share their stories. Ideas like this create deeper relationships with potential customers without overtly selling.   

 

Multipliers 

To grow your business and work on larger deals, you need to expand your network of centers of influence. Don’t be afraid to ask for high-quality introductions. Have a focused list of existing and potential centers of influence and work to expand it when possible. Most bankers have a few people who can connect them with prospects, but that might not always be enough for significant growth. Ask yourself: Who in the community can help you reach your target prospects, and how can you develop a relationship with them? 

Movement 

It's crucial to implement a sales system that guides prospects through the conversion funnel. Take the time to thoroughly understand each prospect's position and needs upfront. This ensures that your products align with their requirements. By excelling in your initial interactions, you can effectively prioritize customers who are the best match for your bank. This approach allows you to cultivate these relationships and avoid wasting time on prospects who may not be a good fit. 

Maintenance 

Banks should implement proactive business strategies to retain valuable customers, adding value to their services along with a personal touch. Introducing benchmarking reports during annual reviews can provide customers with a clear picture of their financial standing compared to industry peers, aiding in strategic planning and improving customer loyalty. You can also build personal relationships with customers through individual attention and celebrating milestones. Engaging with customers and their teams beyond transactional interactions fosters stronger relationships and demonstrates your commitment to their success. 

Metrics 

Lending bankers should prioritize tracking key metrics to gauge their performance effectively. While banks collect various metrics, two critical items to track are business development (BD) activities and referrals. It's essential to assess your level of activity in BD, including events, cold calls, and drop-ins, as these directly impact your success. Measure the effectiveness of your activities to refine your approach. Remember, even a single high-quality introduction every other week can have a transformative effect on your bank. Invest time in networking and asking the right people for referrals to maximize your potential. 

Reduce operating cost while ensuring loan policy consistency. Community lending software can help get you there. Read the buyer's guide to lending solutions.

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Streamline ag lending processes now to grow later. 

Learn what banks and credit unions can do while ag borrower demand is lower to prepare for growth without adding a lot of staff.

You might also like this whitepaper, “The ag lender's survival guide”

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Takeaway 1

Demand for non-real-estate farm borrowing turned higher in 4Q2023 but remains low, making this a good time to improve the ag lending process. 

Takeaway 2

Best practices for efficient ag lending include incorporating an online ag loan application, limited data entry, and a centralized system . 

Takeaway 3

Better ag lending workflows streamline document collection and management and increase credit analysis accuracy. 

Efficient processes

Get ready for ag lending growth

Agricultural lenders might not see much in “the field” in terms of prospects for ag loan growth this year. But financial institutions cultivating better lending workflows now will be able to harvest the benefits as conditions improve. They’ll have efficient and more profitable ag lending to service healthy ag borrowers.

Recent pick-up in demand

Trends affecting ag lending

The Fed’s Chicago district reported recently that demand for non-real-estate farm borrowing turned around in the fourth quarter of 2023, coming in higher than a year earlier for the first time in 14 quarters (since 2Q 2020).

Inflation is expected to continue boosting ag operating and living expenses at the same time it brings more pressure on farmers’ ability to service existing debt or qualify for a new loan. With most of the excess liquidity from 2020 government payments now spent and much higher interest rates, farm financial positions could see additional pressure in 2024 and beyond.

A snapshot of the ag lending environment shows:

  • Chicago Fed financial institutions in January reported having less funds available for ag lending than in the same quarter a year earlier -- for the third quarter in a row.
  • Interest rates for farm operating loans and for farm real estate loans are the highest they’ve been since late 2009, according to the district.
  • In the St. Louis Fed district, rates are the highest since recording began in 2012.
  • Finally, many farmers who rent their farmland in some parts of the country are reporting ag land rental rate increases already in 2024 after seeing increases last year, too.

“Looking ahead, for farmers that have used cash reserves to reduce loan levels, elevated cost pressures and lower prices across most ag commodities could increase demand for ag lending,” Chris Summers, a Senior Risk Specialist at the Kansas City Fed, wrote recently. However, the average maturity of all non-real estate bank loans made to farmers was just over 15 months as of 3Q2023. Loans made for operating expenses were under one year in duration. Given such short durations, he said, “higher interest rates could create pressure on repayment capacity and overall ag conditions.”

Ready to pivot?

Why focus on ag lending processes now?

Financial institutions themselves are grappling with managing higher interest rates and the effects of inflation. The most recent quarter showed continued pressure on net income from higher deposit and credit costs, as well as increased provision expenses. They’ve also had to weigh extending credit with liquidity management needs, especially as depositors chase higher returns.

So why should ag banks and credit unions focus on improving workflows now? As interest rates begin to drop and liquidity pressures ease, profitable loan growth will again become a top priority for many banks and credit unions. Lenders will still need to be selective and efficient in originating ag loans to ensure the highest return on their limited liquidity. But streamlining ag lending processes during the lending lull can help financial institutions serve ag communities’ capital needs when the time is right.

Institutions only need to look back to the Paycheck Protection Program and community financial institutions’ response for a reminder that being ready to pivot and ramp up lending can yield growth and more opportunities to serve the local community. Community financial institutions that invested more in technology before the pandemic hit had higher loan and deposit increases than those with less investment.

The same goes for reviewing current strategies and activities tied to ag operating loans, ag real estate loans, and loans for farm equipment. Implementing technology or process changes is always easier ahead of stronger demand. Improvements will provide more opportunities to grow ag lending profitably and serve local farmers.

Better service, efficiency

Ag lending best practices

Below are seven best practices ag lenders can incorporate while business is slower. Each contributes to a loan process that pleases farm borrowers and enables the institution’s profitable portfolio expansion. Indeed, several ag lending best practices included here complement modernization efforts already underway within many financial institutions.

Provide a mobile experience.

Farmers are mobile, and many routinely use the Internet to make decisions about their farms and finances. More than 8 in 10 farmers have a smartphone, and nearly 7 in 10 have a laptop or desktop computer, according to the USDA’s latest Technology Use Survey.

This means having an online ag loan application is mandatory. “You have this kind of niche of some older folks finally getting to understand the importance of technology and newcomers expecting it, and if you [as a lender] don’t have it, they’ll find someone that does,” Abrigo Senior Consultant Rob Newberry said.

Give busy farmers the option to apply for a loan online, submit documents electronically, and sign the loan papers remotely and at their convenience. Rather than taking time out of the field to visit a branch, farmers can fill out as much of a digital loan application as they have time for during a break or at night. They can upload the required documents as they track them down.

The lending and credit team will be able to focus on structuring and analyzing the loan rather than on contacting the borrower for missing items. Farmers will appreciate not having to receive or respond to additional requests repeatedly, and they’ll like the faster decision.

Limit data entry.

Another way an online ag loan application promotes a better lending process is that it streamlines data entry. The ag borrower data is ported from the application and throughout the underwriting and approval process. This simplified process avoids having staff key in data from a paper application or other records only to re-enter the same data point in another field or system multiple times. It also reduces the chances of errors.

In Abrigo’s latest Business Lending Process Survey, two-thirds of respondents said their financial institution re-entered the same data point for a loan in another field or system up to five times. Manual data entry also means staff spends time on mind-numbing tasks like checking data entry or reports for errors when they could be otherwise cultivating relationships with customers or members.

Using ag lending software that handles ag loans removes the risk tied to the manual processes of collecting data and eliminates bottlenecks so the institution can provide faster yes or no decisions to borrowers.

Use the same system for ag, consumer, and commercial loans.

Inconsistencies in how different lenders apply institutional lending policies  to various loan products can be a recipe for risk management challenges. If lenders for one line of business spread tax returns into financial statements one way and lenders from another business line do it differently, then the reliability and objectivity of loan decisions can be questioned. Using one system that handles ag loans as well as other commercial or consumer loans ensures that spreads and financial ratios are consistent for examiners and risk management.

Staff also benefit from a centralized system housing data and documents for multiple loan types. They spend less time switching software applications and more time reviewing complex borrower applications. Anyone involved in the application can determine the loan status without emailing or calling others.

Some ag lenders will have new reporting requirements under the CFPB's small business lending data rule. Learn more about the requirements.

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Streamline document collection and management.

Tax returns, financials, machinery inventory worksheets, production histories, deposit account information — originating ag loans means collecting a lot of ag borrower data.  However, inconsistency, inefficiency, and even security issues with customer data can arise when staff use paper files, email transmission, and disconnected systems.

Better farm lending centralizes and automates the collection of vital documents. It uses workflow applications with ticklers and email reminders to keep the information flowing and alert staff of next steps. Streamlined document collection and management also help financial institutions proactively monitor ag borrowers, which is vital as farmers’ financial conditions change rapidly. Automated ag lending processes alert borrowers to send information needed to monitor the loan after closing, such as annual financials. Independent loan reviewers will be able to quickly access financials and review collateral to ensure the financial institution’s interests are protected.

Standardize global cash flow analysis.

Since many farmers and ranchers have other sources of income besides farming, lenders need to incorporate these sources accurately as they calculate the debt-service coverage ratio and other critical financial inputs. As a result, some lenders spend hours creating consolidated financial statements and a global cash flow analysis. A better ag lending strategy uses automation to consolidate financial statements from multiple parties or entities into one view and produce statements with the necessary adjustments instantaneously. Again, the lender is promoting consistent decisions with an automated process. 

Use ag-specific, customizable credit memo templates.

One of the most time-consuming components of ag loan approvals can be developing market- or deal-specific credit presentations. When ag lenders use in-house systems based on spreadsheets and Word documents, the loan presentation is often cobbled together from data in multiple places. Checking documents for typos alone chews up valuable time that could provide a faster decision.

An improved ag lending process uses automation and ag-specific, customizable templates for credit presentations. Data flows into the presentation from the borrower application and credit analysis. Presenters can use those time savings to review the information and address any potential questions. Loan committees also gain efficiency by seeing a standard format from loan to loan.

Feed ag loan data to allowance calculations.

A significant challenge of ag lending systems that rely on spreadsheets and paper files is that once loans are approved, data needed for downstream processes is scattered throughout the institution. Data for calculating the allowance for credit losses might be in one file or system, while data used for stress testing might be in another. During a recent Abrigo ag lending webinar, only 9% of attendees said all critical ag loan data collected for credit decisions is available in one system for downstream processes.

As noted earlier, multiple data collection and data entry points increase opportunities for errors and hamper efficiency. Having the data in one system provides better ag lending reporting capabilities and more efficient and accurate stress testing and allowance processes.

Planning for growth

Implement changes ahead of increased demand

Farmers’ fortunes ebb and flow in the same way seasons do. Likewise, demand and appetite for ag lending also fluctuate. Given current ag loan demand and financial institution liquidity, banks and credit unions are understandably watchful of the U.S. economy. Some may think that making ag lending process improvements isn’t worth the effort or resources.

But remember: the time to change a tire with a slow leak isn’t when the tractor is racing against stormy weather.

Applying the ag lending best practices here will create a smoother application process for borrowers and a more efficient workflow for bank or credit union staff. Ultimately, that means a more profitable group of loans and happier customers or members.

Provide ag borrowers a better experience and grow the portfolio more efficiently.

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Find the right support for your credit union merger

Consider the benefits of a third-party fair value specialist to smooth the credit union merger accounting process.

You might also like this webinar, "Valuation and purchase accounting: Navigating the changing M&A landscape."

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Takeaway 1

Fair value specialists bring expertise to ensure accuracy, transparency, and adherence to accounting and regulatory standards during the merger process.

Takeaway 2

Enterprise value goes beyond book value to include earning potential, market position, and intangible assets. It helps align mergers with strategic goals.

Takeaway 3

Seek out a firm with credit union merger experience that brings credentials, communicates well, and takes a comprehensive view of the merger.

The landscape of credit unions is constantly in flux, mainly due to consolidations. Mergers and acquisitions offer potential for growth but also bring complexities, especially in determining the fair value of assets and liabilities. Consulting firms specializing in valuation services can be crucial partners for credit unions as they negotiate the maze of uncertainty in merger discussions. The following green flags to look for in a third-party specialist can help credit unions choose the best partner possible when it comes to credit union merger accounting and enterprise value analysis.

Why a third-party specialist?

The importance of fair value expertise

The following benefits to using a third-party fair value specialist can help credit unions weigh their options and understand what to look for in a parter:

Accuracy and transparency. Firms specializing in fair value bring specialized expertise in financial modeling and valuation techniques. Their work guarantees that valuation during the merger process is accurate, transparent, and adheres to accounting and regulatory standards. These qualities will help avoid overvaluation or undervaluation during the credit union fair value accounting process.

Objectivity. Fair value specialists provide independent, objective opinions. This objectivity is especially critical when emotions run high during credit union mergers, providing a neutral baseline for negotiations.

Risk mitigation. Identifying and quantifying potential economic risks associated with financial assets and liabilities becomes much easier with a fair value expert on your team. This helps mitigate financial risks and ensure the long-term success of the merged credit union. 

Beyond book value

Understanding enterprise value in credit union mergers

Why is enterprise value important? As mutually owned entities, credit unions do not exchange financial consideration in a merger transaction; hence, there is no “purchase price.”  The “purchase price” is the cornerstone of determining resulting goodwill (or bargain purchase gain).  Enterprise value, or the fair value of the acquired credit union, becomes the imputed “purchase price” of the transaction and acts as the baseline in the purchase price allocation exercise for goodwill determination.

Enterprise value considers more than just the book value of a credit union's assets and liabilities. It incorporates the entity's earning potential, market position, intangible assets, and prospects. This results in a more comprehensive and realistic valuation. A thorough understanding of the to-be-acquired credit union’s enterprise value guides credit unions in making well-informed merger decisions. It clarifies the combined entity's pro forma capitalization and value proposition, ensuring the merger aligns with strategic goals. 

Supporting the merger accounting process

How fair value firms can facilitate credit union mergers

A fair value firm will provide the following support measures during the credit union merger:

Due diligence support. Fair value firms review the target credit union's financial statements, loan portfolios, deposit relationships, and other vital metrics. This in-depth due diligence uncovers critical information and potential red flags and clearly indicates fair value before entering into a transaction.

Negotiation power. Fair value assessments can be the foundation for strong negotiation positions. Executives can enter credit union merger accounting discussions with accurate data and justifications for value, potentially leading to more favorable terms.

Post-merger integration. Fair value specialists can also help support a smooth integration process post-merger. They provide fair value assistance at closing to assist in the fair allocation of the purchase price and the accurate assessment of goodwill (or negative goodwill), simplifying the accounting process.  Post-closing, they can provide the appropriate accounting entries and calculations of the accretion and amortization required by GAAP of the day one fair value adjustments.

Green flags

Choosing the right fair value firm

Once you have made the decision to use a fair value firm to help facilitate your credit union merger, look for the following qualities:

  • Experience: Find fair value firms with a track record in credit union mergers. Their sector-specific knowledge is invaluable.
  • Credentials: Ensure the firm's professionals possess the necessary certifications and credentials in valuation.
  • Communication: Prioritize a firm with exceptional communication skills. They'll need to explain complex valuation concepts clearly for effective decision-making.
  • Comprehensive: The firm should understand the full impact of a transaction on financial reporting. Valuation, CECL, and Income Recognition (Day 2) are interconnected. Solving one piece of the puzzle without the whole picture can confuse and limit success.

Partnering with a fair value firm can be a game-changer for credit union mergers. Their expertise ensures accurate valuations, informed decisions, and smoother transitions. By incorporating enterprise value analysis, credit unions gain a holistic understanding of their potential partners, maximizing the chances of a successful merger.

Stay compliant. Adopt a straightforward format for post-CECL fair value disclosures and valuations with this whitepaper.

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Strengthening customer relationships with tangible value and personal touch

Customer retention in banking can be challenging for community financial institutions. Follow this guide for strategies to stay competitive.

You might also like this SMB Lending Insights report for banks and credit unions

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Takeaway 1

Banks need to implement customer retention strategies to keep their valuable customers, not just attract new ones.

Takeaway 2

Financial institutions can use benchmark reports to help their clients set realistic goals and track their progress.

Takeaway 3

Proactive customer retention also demonstrates banks' commitment to their customers' success and adds value to their services.

In the competitive world of banking, attracting new customers is just one piece of the puzzle. Retaining existing customers is equally—if not more—important. As a banker once put it, "Our bank has got a front door and a back door, and both of them are wide open." This metaphor underscores the challenge many banks face: while they excel at bringing customers in, they struggle to keep them.

Most bankers are adept at reactive servicing—when a customer calls with a request, they're quick to respond, especially if they've eliminated manual processes with small business loan origination software. However, proactive maintenance of the customer base is often neglected. To keep the right customers, you need a retention plan. This plan should include strategies for different types of customers. For customers who have one piece of business and may not be paying a lot, you may not go out of your way to retain them. However, for valuable customers, you should have specific strategies in place.

Reframing the annual review

The power of benchmarking in customer retention

Annual reviews are a crucial aspect of financial services, providing insights into a company's financial health and performance. However, many customers may not fully understand or appreciate the depth of analysis these reviews offer. As financial partners, your bank or credit union can collect and present data in a way that resonates with your clients and adds tangible value to their businesses.

One effective strategy is to introduce benchmarking reports alongside annual reviews. These reports compare a company's financial metrics against industry peers, providing a clear picture of where they stand and highlighting areas for improvement. Most clients are unaware of how their financials compare to competitors beyond top-line revenue, making benchmarking a powerful tool for strategic planning.

For example—perhaps you have a manufacturing customer with a 90-day inventory turnover, while the industry average is 60 days. This excess inventory could be costing them significant amounts of money. Perhaps they might aim to reduce inventory to 80 days by the end of the first quarter of 2024. By introducing the concept of benchmarking, you can engage the client in setting realistic goals for improvement and add tremendous value to your relationship.

This approach not only helps clients understand their financials better but also empowers them to make informed decisions to improve their business performance. By setting quarterly benchmarks and tracking progress, clients can see the impact of their efforts and make adjustments as needed.

Incorporating benchmarking reports into your financial services not only provides them with valuable insights into their financial health but also strengthens your relationship by demonstrating your commitment to their success.

Strengthening banking relationships

Personal touches for improved customer retention

The right products, speedy service, and being useful to the business as an industry guide can go a long way toward improving customer retention in banking. But aside from those valuable services, building personal relationships with your customers can help as well. Consider these three tips for maintaining relationships with customers:

  1. Give individual attention: Consider ways to stand out from more impersonal competition by demonstrating that you care about your customers. Instead of just sending a card, take your business clients out to lunch for their birthdays. Make it clear that the lunch is a gesture of appreciation, not a business meeting. When done sincerely, adding a personal touch can deepen the relationship and create loyalty. As you get to know your customers as individuals, you will get to know more about their business goals and how your financial institution can help.
  1. Celebrate milestones: Show appreciation for your customers by celebrating the anniversary of their relationship with your bank. This could be as simple as a phone call or more festive (bringing pizza to their business or organizing an ice cream truck visit). Acknowledging loyalty can go a long way in customer retention. No financial institution is perfect, and errors are inevitable, but when customers believe you have their back and value their patronage, you may keep their business despite setbacks. 
  1. Engage with their team: Beyond just meeting with your account-holding customers, engage with the people who work with them. If feasible, have members of your team visit their location or vice versa. Talk about what's going on at the business and strengthen the relationship at all levels of your organization. When asked their opinion on a change, the staff members who do the financial work at a business are the ones who will tell their boss they aren't interested in switching banks if they have a good relationship with your team. 

SMB benefits

The benefits of proactive customer retention

By implementing proactive customer retention strategies, you not only demonstrate your commitment to your customers' success but also create a strong foundation for long-term relationships. These strategies can help you retain your current customers and pave the way for sustainable growth in your business.

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How to respond to CRE loan distress

Use these tips for banks and credit unions to identify and handle commercial real estate loans that are showing signs of being problem CRE credits.

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Takeaway 1

Engaging the bank or credit union loan workout team or an outside expert can help restore CRE loans in distress or mitigate their impact.

Takeaway 2

Address early warning signs immediately so you don't risk liability that could lead to the financial institution losing the CRE loan's collateral.

Takeaway 3

To triage a CRE loan in workout, first re-engage the deal team and conduct a comprehensive review of the loan documents.

Protecting portfolio health

Recognize ailing CRE loans early

Media organizations are reporting scary-sounding data, and the headlines scream about the most recent victims. Government entities are issuing advisories and guidance for addressing this unfamiliar phenomenon and for shielding the financial institution from the potential threat. Individuals and business owners are starting to contemplate the worst-case scenario and how it can impact their earnings and balance sheet.

Is the above scenario another pandemic akin to our recent COVID experience? No, it’s the current situation in the commercial real estate (CRE) market tied to the threat that distressed and problem CRE loans pose to investors, banks and credit unions, and the economy at large.

While no potential CRE “disaster” is comparable to the COVID pandemic in terms of the human impact, it is still a clear and present danger to our banking system and the economy.

CRE is now arguably the riskiest asset class due to a perfect storm of:

  • Systemic changes in the way we utilize real estate (not just office, but retail, housing, and other sectors).

  • Unprecedented increases in interest rates from an abnormally historic low-rate environment.

  • Inflationary impacts on costs of various inputs.

  • A wave of pending maturity events ($2 trillion of CRE loans are reported to mature in the next years).

Consequently, all stakeholders of CRE assets are understandably nervous, including bankers and their investors who, due to the highly leveraged nature of CRE transactions, provided the bulk of capital financing the industry.

Bank and credit union leaders who recognize souring CRE loans with the potential to manifest like an illness in their institutions should engage their workout professionals/team. Doing so is akin to taking a relative to the doctor when sick or showing symptoms. The workout team can help lenders diagnose distressed CRE assets. Workout specialists can also provide consulting and advice (treatment) that either helps alleviate the loans’ distress (symptoms) and restore them to health or helps mitigate the spread of the “illness” to protect the health of the financial institution.

Here’s how banks and credit unions with strong CRE risk management can identify weakening property loans, assess them, triage them, and assist with their prognosis and treatment.

You might also like this podcast on leveraging the Fed's stress test scenarios.

Early symptoms

Signs of potentially troubled property loans

Given the heightened and well-established risks that CRE loans pose, banks and credit unions should be on high alert for any signs of sickness in their CRE portfolio. In this environment, any indication of early warning signs of distress from a CRE loan should be addressed immediately. Bring together the deal team, credit approvers, and workout experts to discuss and determine the grade and next steps.

Beyond a hard money default due to a payment or maturity event, early warning signs for CRE loans typically manifest as a:

  • Failure to pay real estate taxes.
  • Failure to sustain adequate insurance coverage.
  • Failure to maintain the property.
  • New lien on the commercial real estate.
  • Failure to deliver required financial information.

Each of these signs is a major CRE red flag as it represents a lack of cash and resources to pay required obligations, mitigate catastrophic risks, and support value. Furthermore, failure to pay taxes and insurance is almost always an event of default, and the mortgage instrument provides the bank or credit union the ability to advance funds and force-place insurance to protect the collateral.

Additionally, any new liens on the property demonstrate cash flow issues with the property, especially if the financial institution was notified as required under the loan documents.

Finally, any failure to deliver required financial information in a timely manner (including rent rolls/operating statements) or any covenant defaults (e.g., debt service coverage, debt yield requirements, or loan-to-value maximums) all represent major issues with respect to the loan. They should be addressed immediately. Ignoring any actual defaults is unacceptable and creates liability for the bank or credit union because this “course of dealing” can be interpreted as the institution waiving its rights. The bank or credit union can even lose the collateral (in the event of a tax deed sale or casualty event with no insurance coverage).

Learn more about managing CRE loan distress. Watch this webinar on problem loans and how to identify them quickly with data and reports.

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Take timely action

Diagnose the problem CRE loan

As stated above, once an early warning sign for a distressed commercial real estate loan is identified, there is an increased probability of future non-performance, or if an event of default occurs, it is imperative that the bank or credit union take appropriate and timely action. What should the institution do? Here are three actions to take:

 

Engage CRE credit partners

The institution’s deal team should engage with their credit partners and determine if the CRE loan should be downgraded and more closely monitored.

Engage the workout team

If there is an actual event of default or a hard money default that cannot be resolved (missed payment(s) or maturity event that doesn’t meet renewal policy), the deal team and credit approvers should engage the workout team for consultation and discussion. At this point, with the workout team involved, a diagnosis of the commercial property loan can be made as to the appropriate steps in protecting the financial institution and mitigating losses (either through further downgrades or even charge offs).

The workout team or expert will be able to approach the deal from an independent viewpoint and provide important feedback to the deal team as to current risks, future problems, and prospective strategies. Most loan workout experts are not in the blame game with their bank or credit union counterparts and are providing credible challenges as to current assumptions in order to determine the best course of action for a troubled CRE loan (similar to a doctor not shaming the patient while advising the best course of treatment).

Consult on potential treatment

After discussions, the group might determine that the issue is a short-lived, one-time event, and a waiver of default is appropriate. On the other hand, they may decide a more long-term and intensive solution is necessary, including a formal workout shadow arrangement or a full-blown transfer to the workout team. The former is similar to a doctor prescribing medication to take at home, while the latter is more like outpatient therapy and admittance to the hospital. If the illness of the property credit is significant, then intensive care is needed, and workout should own the asset.

The benefit will be that the workout specialists will have an independent and objective relationship with the CRE borrower since they didn’t originate the deal. They have no preconceptions regarding the credit or the loan documents, and they also have experience in managing the riskiest of assets so they can forecast and strategize on the best course of treatment.

Appraisals and analysis

Triage CRE loans in workout

If the bank or credit union team determines that the CRE loan should be moved to workout, or even if a formal consulting and shadowing relationship with workout is warranted, then the loan should be admitted to what’s essentially the financial institution’s emergency room. Typically, when a patient is admitted to the ER, vital signs are taken (current financial package), symptoms are closely observed (problems analyzed), new tests are ordered (new appraisals obtained and/or requests made for additional financial information), and the patient is asked probing questions to help in the diagnosis (interview with the borrower). A similar triage process and triage checklist can be administered in the case of CRE loan distress.

 

Reengage the deal team

The workout banker should reengage the deal team, especially the relationship manager who was working with the customer or member. Obtaining access to all of the loan documents and credit file is of paramount importance and the relationship manager can provide context and share any important email, correspondence, and servicing notes with the customer or member. At this point, the workout officer will conduct a full and comprehensive review of the loan documents (which are essentially the Bible governing the loan), including email correspondence, letters, or other documentation that may provide a “smoking gun” indicating lender liability or a commitment made about the loan (either directly or inadvertently). If there are weaknesses in the loan documentation or if any lender liability is discovered, the workout officer should engage legal partners and craft a strategy on how best to resolve it, first and foremost. The financial institution may also want to engage a lawyer to formally review the loan documents and title to verify there are no gaps or insecurities.

Meet with the borrower

A meeting should occur with the borrower to introduce the loan officer and workout officer (warm handoff – if possible) – hopefully at or near the collateral property. Note: I am a firm believer that a commercial property inspection must be conducted by the credit union or bank or its officer if possible. The on-site inspection can illuminate any issues with the neighborhood or the property itself (e.g., unreported vacancies, visible deferred maintenance, and busyness of the property).

Some best practices for this initial meeting with the borrower, which can be contentious if the customer or member has never been sent to workout, are to:

  • Have two bank or credit union representatives at the meeting.
  • Take good notes and minutes.
  • Email those minutes to all attendees to recap the discussion.

Often, workout meetings can be difficult discussions, and if emotions run high or the borrower makes accusations, it is best to have a record of what was discussed. It is important to note that the introductory meeting will not resolve the issues but is more for explaining the role of the financial institution, the rules of the road for communication going forward, the issues that predicated the transfer, and to make requests for additional information needed (financial and otherwise) that will be necessary to work on a solution. Again, follow up in writing with the formal request for information, and be sure to include any and all parties to the loan (including co-borrowers and guarantors).

Re-underwrite the CRE credit

The loan workout team will essentially want to re-underwrite the commercial real estate credit, especially if the borrower is open and transparent in providing updated financial information (both current and projections). It is also at this point that the bank or credit union should obtain an updated third-party appraisal of the collateral, especially if the last appraisal on the real estate or other collateral is stale (older than 12 months old) or if there have been substantial changes to the property or surrounding market. Additionally, if the loan documents allow or if the loan has an actual declared default, the institution should obtain updated financial information from all guarantors (corporate and personal).

Revisit the loan grade

Once all of this information has been obtained on the primary, secondary and tertiary sources of repayment, the bank or credit union can revisit the current grade on the distressed CRE loan and strategize on the best course to resolve the asset. The financial institution should make the distinction of whether the credit is a “retain” or “exit” customer or member. The former indicates a strategy of rehabilitation and return to line of business. The latter indicates a collection posture that seeks to get repaid via the strategy that provides the best resolution on a net present value basis.

Go-forward strategy

Make a prognosis for the CRE credit

Once the workout team has developed its recommendation and strategy for the problem CRE loan, it should follow up with the deal team to share findings and explain the go-forward strategy with the credit, i.e., the manner and course of treatment as to the patient.

If the deal team has reservations or wishes to provide a credible challenge, they should feel free to do so, as it is important that the entire bank or credit union team be on board with the ultimate strategy for the credit. Note, however, that the workout team must hold the ultimate decision. The workout group will want to keep its business partners in the loop as the deal and negotiations develop, especially in cases where the customer or member is politically or socially sensitive. It may be important to have a media relations or legal representative aware in the event any media inquiries are made regarding the CRE asset.

In essence, the workout team should be clear and deliberate in achieving its strategic objectives with respect to resolving the asset. Loan workout is not always a straight journey between diagnosis and the ultimate cure, as is the case with many medical treatments. The problem may be a chronic condition, or there may be many iterations, stop-and-starts, relapses, and even “death” via bankruptcy/liquidation. However, if the workout team follows the example set by the medical field’s principle of “First, Do No Harm” and follows a strict ethical path to achieving its desired resolution, the financial institution’s stakeholders will ultimately be best served.

Struggling to track and report on construction loans? Learn how Heritage Bank cut days off its processes.

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Bank wire fraud is growing and becoming more complex. 

Here are a few simple things you, as a financial crime professional, can do to slow it down.

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Takeaway 1

Bank wire transfer fraud is increasing due to technological advances today.

Takeaway 2

Transnational criminal organizations commit bank wire transfer fraud and use a variety of techniques to make Americans their victims.

Takeaway 3

Education and technology tools are our best defense against bank wire transfer fraud in our institutions. 

Bank wire fraud

Introduction

Bank wire fraud has long plagued the financial industry. While wire transfers offer speed and efficiency, they have always carried inherent risks. Despite mitigation efforts, technological advancements have empowered criminals, posing new challenges in combating fraud. In 2024, we face sophisticated schemes exploiting both technology and social engineering to target unsuspecting customers. This discussion highlights recent trends in wire fraud and offers strategies to protect both clients and institutions. 

In 2023, reported fraud losses surged to over $10 billion, a 14% increase from 2022, despite a similar number of cases being reported at 2.6 million. Notably, the nature, targets, and methods of perpetuating fraud are evolving. Investment scams were #1, with over $4.6 billion in losses reported. While only some of the funds for investment scams were moved with wire transactions, an average of 4%-5% of those scams were done with wires in all age groups. Other popular fraud scams that use wire transactions include business email compromise, real estate transaction fraud, and romance scams. The total loss attributable to wire transactions was $344 million, as described in 42,729 reports to the FTC. Keep in mind these numbers are only what is reported. We know a lot of fraud is not reported due to a lack of knowledge on reporting and victims feeling shame for their loss. 

Bank wire transfer fraud

Current fraud trends

Current fraud trends highlight a shift in scam origins. While previously, fraud was local or regional, today, scammers leverage technology extensively. Reports from various government and news sources indicate the existence of organized groups, often in other countries, exploiting individuals, including victims of human trafficking, to defraud U.S. citizens. They employ technology and social engineering tactics, reaching victims through email, social media, and text messages. Using victim artificial intelligence (AI), they gather personal information from platforms like Facebook and Instagram to customize their schemes. Funds are then funneled abroad through wire transfers and cryptocurrency transactions, financing transnational criminal networks.

 

Tips for AML/CFT efforts

How to help prevent wire fraud

So, how do we, as financial institutions and concerned citizens, stop clients, businesses, friends, and family from becoming a victim?  

  1. Educate yourself about imposter scams and the methods used to gain your information. We can no longer rely on bad grammar in an email, a phone call, or a text message that looks like it comes from our bank or credit union’s fraud department, tech support, or billing emergency communication. All these events can be manipulated into a scam and used as a catalyst to make you a victim.
  2. Understand that scammers are professionals. There are no accidental targets. Fraudsters use the same sales and marketing techniques as legitimate businesses to research and target their victims. They make fake accounts and profiles and analyze people groups, current events, and regional characteristics to appear as legitimate as possible. Everything from a phony text message that is trying to confirm an address for a USPS delivery to a business email compromise that started as a request to send money on behalf of the CFO is all curated and targeted to their recipient. It only takes one employee clicking on a phishing email to introduce malware or ransomware that can create an entry point for the fraudster’s scheme.
  3. Create and follow your internal processes for communications and security. The best defense is a good offense. Financial institutions should implement tools and protocols like dual control, transaction monitoring software, call-back numbers, and internal tracking or reporting methods to confirm the validity of a wire transaction. It only takes one human error for the entire chain to break down and potentially cause a loss. Ensure all employees are familiar with the processes and protocols and that they follow them every time. 
  4. Spread the word. As a financial institution, you are responsible for educating your community and clients on financial patterns and bank wire fraud trends. A recent study by CertifIDon, noted real estate wire fraud identified 71% of consumers believe it is someone else’s responsibility to teach them about wire fraud. Financial literacy is key critical. 

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Reg CC: Funds availability requirements and fraud

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How to comply with both Reg CC and fraud requirements

Read about the rules outlined by Reg CC, the circumstances that allow exceptions, and what to do when your financial institution suspects fraud.

Are your AML and fraud teams short-handed? Learn how one financial institution bridged the gap.

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Takeaway 1

Reg CC requirements can feel at odds with anti-fraud efforts, especially when check fraud is such a problem. But AML and fraud staff can comply and still fight fraud.

Takeaway 2

Reg CC requires many deposits to be available for withdrawal 1-2 business days after deposit. Exceptions to this requirement can help with check fraud detection efforts.

Takeaway 3

Financial institutions could face larger exposure to fraud losses beginning in 2025 as the minimum-availability amounts and exception thresholds increase. 

This post was updated to add new information about upcoming changes to the minimum amounts financial institutions must make available from deposits.

Reg CC & fraud

Balance fraud-fighting with consumer compliance

As check fraud and other forms of fraud continue to soar, financial institutions increasingly are called to know when they can hold deposited funds longer than permitted by the Expedited Funds Availability Act, commonly known as Regulation CC, or Reg CC.  

Financial institutions’ AML and anti-fraud programs incorporate tremendous resources to prevent fraud and their associated losses. However, banks and credit unions must balance their fraud-fighting obligations with consumer compliance requirements on deposit-availability timeframes and notices under Reg CC.  

Efficient compliance with both Reg CC and the requirements tied to anti-fraud or anti-money laundering can also greatly impact customer or member experiences. Legitimate customers and members expect access to their deposits quickly. They equally assume their banks and credit unions will protect them against fraud. As some financial institutions have learned, it can be tricky to balance improving customer experience and fraud, but the stakes are high. 

This article explains Reg CC and its general rules for making funds available from checks after a deposit. It covers when a financial institution is allowed to hold a member or customer’s deposit for longer than the one to two days typically allowed under Reg CC. Finally, it examines what the funds availability regulation says about holding funds when fraud is suspected.  

See the regulation and discuss this topic with your institution’s attorney to evaluate your bank or credit union’s specific requirements.  

Abrigo is partnering with Mitek to leverage advanced fraud solutions to prevent financial crimes like check fraud.

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Expedited funds availability

What is Reg CC in banking?

Reg CC is the federal requirement for banks and credit unions to make funds deposited to a transaction account available for withdrawal within specific timeframes. The regulation is rooted in the 1987 Expedited Funds Availability Act, aimed at addressing concerns that financial institutions were placing lengthy holds on checks deposited by customers or members. The consumer compliance regulation has been revised several times over the years. 

Types of accounts covered by Reg CC include demand deposit accounts or similar transaction accounts at a depository institution that can make third-party payments. Accounts that are not covered by Reg CC include savings accounts or time deposit accounts, such as money market deposit accounts, even though they may have limited third-party payment powers.

Does Regulation CC apply to business accounts?

The regulation doesn't specifically call out business or non-consumer accounts. However, it defines the types of accounts subject to Reg CC as

accounts at a bank from which the account holder is permitted to make transfers or withdrawals by negotiable or transferable instrument, payment order of withdrawal, telephone transfer, electronic payment, or other similar means for the purpose of making payments or transfers to third persons or others. Account also includes accounts at a bank from which the account holder may make third party payments at an ATM, remote service unit, or other electronic device, including by debit card."

Later, the regulation says its definition of account excludes accounts where the account holder is:

  • A bank
  • An office of an institution as described in Reg CC or an office of a foreign bank as defined in the International Banking Act that is located outside the U.S.
  • The Treasury of the United States (for either direct or indirect account holders)

Both the American Bankers Association  (ABA) and the National Association of Federal Credit Unions (NCUA) have interpreted the regulation to include business accounts.

 

When do credit unions and banks have to make deposited funds available for withdrawals?  

In all cases, the clock to make funds available starts ticking on the banking day of a deposit, which is defined as the part of any business day that an office of an institution is open to the public for carrying on substantially all of its banking functions. Deadlines are listed below and vary based on the type of deposit or payment instrument. In addition, exceptions to the deadlines can provide additional time to scrutinize the transaction, which can be particularly useful if check fraud is suspected. Read more about exceptions later in this post.  

Which deposits need fast access?

Reg CC deadlines for “next-day availability”

Many deposits, especially if made in person at the account holder’s institution or branch, must be available for withdrawal on the first business day following the deposit. The following types of deposits are among those generally required to have “next-day availability:” 

  1. Cash 
  2. Electronic payments such as wire transfers and ACH credit transactions, so long as the receiving institution has received both the payment “in actually and collected funds” and instructions on both the account and amount to be credited 
  3. U.S. Treasury checks deposited in an account held by the check payee 
  4. U.S. Postal Service money orders, Federal Reserve Bank checks, and Federal Home Loan Bank checks that are deposited into the payee’s account and in person via an employee of the institution 
  5. Cashier’s or certified checks deposited in person to the payee’s account via an employee of that depositary bank or credit union 
  6. Checks that are drawn on an account at the institution and that are deposited in person with an institution employee 
  7. State and local government checks deposited by the payee into their account, as long as the state or local government is in the same state as the bank or credit union and it’s done in person with a credit union or bank employee 
  8. Cashier’s checks, certified checks, or teller’s checks deposited to the payee’s account in person with a bank or credit union employee 

Deposits that require second-day availability 

Other types of deposits must be made available for withdrawal no later than the second business day. Those include checks not deposited in person but otherwise meeting the requirements listed above for: 

  • Postal Service money orders 
  • Fed or FHLB checks  
  • State and local government checks 
  • Cashier’s, certified, or teller’s checks  

Even if certain check deposits are not subject to next-day availability, financial institutions generally must still make available at least the first $225 of the deposits on the next business day. This is known as the Reg CC $225 rule.

In-the-know clientele

Reg CC's required disclosures

Reg CC also requires banks and credit unions to inform customers or members of the institution’s policy on funds availability “clearly and conspicuously in writing.”  

This is often in the form of posted notices where bank or credit union employees accept deposits, posted notices at ATMs, and preprinted notices on deposit slips that are provided by the institution and have the customer's name and account number preprinted on them. The policy might also be highlighted in a document describing the terms of an account. In any case, the notice should reflect the availability policy the bank or credit union follows in most cases.  

Exceptions to the rule

Check hold exceptions allowed by Reg CC

Because Regulation CC aims to implement Congress’s goal of providing customers or members access to their deposited funds as quickly as possible, exceptions to the required availability schedules are limited. That makes it important for staff to understand the Reg CC exceptions in all their check fraud detection efforts.  

The six so-called safeguard exceptions to the availability schedule under Reg CC are related to:

  1. New accounts, which are those newer than 30 calendar days. This exception allows holds on check deposits but does not cover deposits made by cash and electronic payments. In addition, suppose each customer on an account has had another account at the bank or credit union for 30 days before an additional account is opened. In that case, it is not considered a new account.
  2. Large deposits of one or more checks.  A financial institution can extend the hold placed on deposits of one or more checks to the extent that the aggregate amount exceeds $5,525 on any single banking day, regardless of how many accounts list the customer or member. Nevertheless, financial institutions must make some of the funds available quickly, as outlined in Reg CC. In addition, this exception does not apply to large cash deposits or those made by electronic payments.
  3. Redeposited checks, which are those that have been returned unpaid and redeposited by the customer or the financial institution. However, this exception doesn’t apply to checks redeposited after a missing endorsement is obtained or if a check that had been post-dated is no longer post-dated. 
  4. Repeated overdrafts, including accounts or combined accounts with negative balances on at least six days in the last six months. This exception also includes accounts with a negative balance of $5,525 or more on at least two banking days in the last six months. 
  5. Reasonable cause to doubt the collectibility of a check or other deposit, which requires “the existence of facts that would cause a well-grounded belief in the mind of a reasonable person” that the check is uncollectible.  
  6. Emergency conditions, such as natural disasters, communication interruptions, or another situation that prevents the bank or credit union from processing checks normally. 

The length of restrictions to deposited funds, including check holds, can vary under Reg CC. In addition, in all cases above except for the one regarding new accounts, financial institutions postponing access to funds from checks or other deposits must quickly provide the depositor with written notice of the delay.   

2025 adjustments

Funds availability minimum is increasing

One new wrinkle for financial institutions fighting check fraud is that adjustments to Reg CC in 2025 will increase the potential exposure of financial institutions to check-fraud losses, as they will have to make more funds available to customers before they can verify the legitimacy of the checks.

A 2019 amendment to Reg CC required the periodic increases to the funds availability minimum based on inflation. The Consumer Financial Protection Bureau has previously said regulators anticipate publishing the adjustments in the first half of 2024 to become effective July 1, 2025. The CFPB declined to comment to Abrigo on the expected increases.

However, the adjustments will be based on changes in the Consumer Price Index for Urban Wage Earners and Clerical Workers (CPI-W) over the last five years. Given inflation trends, the adjustments could be significant. That means that if fraud isn’t caught, financial institutions could be on the hook for even larger losses related to a transaction than they are now. Using fraud management software that can identify fraudulent checks in real time will be more important than ever once the increases take effect.

Under Reg CC, adjustments will be calculated by multiplying the existing amount by the aggregate percentage change in the CPI-W between July 2018 and July 2023, then rounding to the nearest $25. Based on the methodology outlined, the dollar amounts for 2025 would increase as follows:

  • The minimum amount that must be made available by the next business day from most check deposits would increase from $225 to $275.
  • Thresholds for using exceptions to hold funds related to large deposits and repeatedly overdrawn accounts would jump from $5,525 to $6,725.
  • The threshold for using a new account exception hold and the related amount still subject to next-day availability requirements would increase from $5,525 to $6,725
  • Maximum civil liability amounts for failing to comply with Reg CC would increase from $1,100 to $1,350 for an individual action and from $552,500 to $672,950 for a class action.

In addition, financial institutions will be required to send a written notice to customers or members regarding changes to their funds-availability policies as a result of the 2025 increases.

Combatting illicit activity

How to comply with Reg CC and fight fraud

So, what can financial institutions do to fight fraud while complying with Reg CC? 

Nothing in Reg CC affects a financial institution’s right to accept or reject a check for deposit, regulators have noted. Strong know your customer (KYC) training and ongoing customer due diligence (CDD) compliance are essential for this approach. Ensure bank or credit union staff, from the teller line to the fraud staff, are familiar with check-kiting red flags and other check fraud detection tips.  

Reg CC also doesn’t affect the right to revoke settlement, charge back accounts for returned or unpaid checks, or charge back electronic payments if the institution doesn’t receive “actually and finally collected funds.”  

Suppose circumstances surrounding suspected check fraud or other types of fraud don’t “fit” the exceptions tied to new accounts, large deposits, or redeposited checks. In that case, financial crime professionals can also consider using the exception for “reasonable cause to doubt collectability” to extend the hold time. Indeed, commentary following Reg CC gives additional detail on this exception, including providing examples of when checks can be held, including being held for suspected check fraud. 

“This exception applies to local and nonlocal checks, as well as to checks that would otherwise be made available on the next (or second) business day,” according to regulators' commentary. “When a bank places or extends a hold under this exception it need not make the first [$225] of a deposit available for withdrawal on the next business day.” 

Examples of Reg CC's 'reasonable cause to doubt'

Financial institutions can rely on “a combination of factors that give rise to a reasonable cause to doubt” that the check will be paid, the commentary continues. Among examples, some of which could tie to fraud scenarios, for which institutions can invoke the “reasonable cause” exception allowed under Reg CC: 

  • The bank or credit union receives a notice from the paying institution that a check was not paid and is being returned. 
  • The paying bank provides information before the check is deposited that gives the depositing institution reason to believe the check is uncollectible. This includes a stop payment notice.  
  • A check is deposited more than six months after the date on the check.  
  • The financial institution has confidential information that leads it to believe the check will not be paid. “For example, a bank could conclude that a check being deposited is uncollectible based on its reasonable belief that the depositor is engaging in kiting activity,” Reg CC commentary says. “Reasonable belief as to the insolvency or pending insolvency of the drawer of the check or the drawee bank and that the checks will not be paid also may justify invoking this exception.” 

One important directive related to the “reasonable cause” exception is that a determination of uncollectibility cannot be based on “a class of checks or persons.” For example, it can’t be based on the depositor’s race or national origin. Another example: A depositary bank can’t invoke the exception because the check is drawn on a rural bank, even if it means it won’t have the chance to learn of nonpayment before the deadline to make the funds available.  

For most banks and credit unions, real-time fraud detection software is one of the most effective ways to comply with Reg CC while thwarting losses and protecting customers or members. Automated workflows combined with an AI/ML-driven solution will minimize the processing burdens while lowering costs and preventing fraud’s impacts.

Financial institutions have tremendous responsibilities when it comes to preventing and detecting fraud. Knowing Reg CC’s requirements for funds availability and when exceptions can be made is essential for financial institutions to balance regulatory compliance for AML and consumer interests. 

In a pilot program, Abrigo Fraud Detection correctly identified 93% of a Southeastern U.S. bank’s total fraudulent check value, equating to more than $330,000 in potential fraud loss avoidance.

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Avoid fraud losses from investment schemes called 'pig butchering' scams

FinCrime professionals looking to prevent 'pig butchering' scams in the age of cryptocurrency can follow these steps to tighten security.

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Takeaway 1

Investment fraud schemes known as pig butchering scams contributed to $3.3 billion in fraud losses in 2022. 

Takeaway 2

Financial institutions can protect themselves and their customers by implementing preventive measures.

Takeaway 3

Consider providing resources teaching your customers red flags to watch for to avoid pig butchering scams.

Modern investment fraud

What is a pig butchering scam?

Investment fraud schemes significantly threaten financial institutions and their customers in the ever-evolving financial crime landscape. One such scheme that has gained attention in recent years is known as "pig butchering." What exactly is a pig butchering scam? In the context of financial crime, this troubling analogy refers to a manipulation technique used to exploit vulnerabilities in a victim through frequent interactions and social engineering. Today’s pig butchering scams usually involve investment schemes and cryptocurrency fraud.

Pig butchering scams originated in Southeast Asia and have escalated significantly in the United States. A scam usually begins with online contact via social media or dating apps. Scammers build up a victim’s trust and gain access to their online account information, sometimes “fattening the pig” by soliciting more investment in cryptocurrency before “slaughtering the pig” and stealing the cryptocurrency.

The analogy is crude but accurate. “It’s a sophisticated con, and you can see that because it’s a long-term con,” said James Barnacle, who runs the FBI’s Financial Crimes Section. According to Barnacle, there were well over $3.5 billion of reported losses due to pig butchering in 2023 and around 40,000 victims in the United States. He's even seen losses as large as $4 million. 

In a recent NBC News report, Barry May, a divorced and retired insurance adjuster living in Mississippi, recounted his personal experience with “Anna,” who reached out to May over social media. The two started chatting on Facebook. Soon, Anna was sending explicit photos. May was smitten. She told him they could be together, but first, she needed a favor. Her aunt, she said, was holding $3 million of her money, and she needed May to invest in cryptocurrency so her aunt would release that money to her. 

She promised huge returns. May sold property and liquidated his 401(k), sending the woman more than $500,000 — his life savings. An account on a website appeared to show his holdings. May was about to take out a loan to send more until an FBI agent called. “They said this is a major fraud situation, and I’m not the only one,” May said. 

FinCEN updates

New FinCEN pig butchering advisory

An advisory released September 8, 2023 from the Financial Crimes Enforcement Network (FinCEN) underscores the growing concern about pig butchering scams. According to the advisory: 

  • The scam tactics have evolved, frequently including aggressive promotional campaigns and cold calls to potential victims. 
  • There has been an increased use of "money mules" in these scams. Money mules are individuals who, knowingly or unknowingly, transfer money acquired illegally on behalf of others. 
  • The advisory noted that fraudsters now use new financial products, such as decentralized finance (DeFi) platforms, to move illicit funds and obscure their transactions. 
  • FinCEN has identified red flags and behavior patterns that may indicate pig butchering scams, such as sudden and high-value investments from elderly customers, rapid withdrawal of funds after a large deposit, and the frequent use of privacy coins or mixers. 
  • Financial institutions are advised to report suspicious activities related to pig butchering scams using specific terms like "Pig Butchering Fraud Advisory" in the SAR narrative to streamline the processing and analysis of reports. 

Tightening security

Preventing pig butchering schemes

Pig butchering scams are a concern because they can go unnoticed for a long time, causing significant financial losses and damaging customers’ and institutions’ reputations. Crafty scammers exploit weaknesses in fraud and anti-money laundering (AML) compliance programs such as outdated technology, human error, or inadequate monitoring systems. 

Financial institutions can tackle the threat of pig butchering scams and other investment schemes to protect their clients. Below are some critical steps they can take:

  • Strengthen fraud detection and AML programs: Financial institutions must have a solid financial crime detection program. This means following regulatory guidelines, conducting thorough customer due diligence, assessing risks, and implementing a robust system to monitor and report suspicious activity. Regularly reviewing and improving policies and procedures is essential to stay one step ahead of emerging threats. A good first defense is investing in fraud detecting software that detects specific fraud in their clients' accounts, such as account takeover, ACH, new account, kiting, debit card, and check card fraud, along with following cybercrime security tips from the FBI. Fraud detection programs should also include the red flags identified in the FinCEN advisory on pig butchering.
  • Enhance data analytics capabilities: Data is a powerful tool. Banks can leverage data analytics to identify unusual patterns and anomalies. Financial institutions can monitor customer behavior and transactional data by implementing robust data analytics tools, like Abrigo Connect, and spot potential pig butchering activities. Establishing baseline customer behavior patterns and promptly investigating deviations can help detect and prevent fraudulent activities.
  • Conduct regular employee training and include pig butchering scams: Financial institutions should educate their employees about the risks associated with pig butchering scams, other fraud schemes, and the FinCEN red flags. Building a culture of awareness and accountability empowers employees to be the first line of defense against fraudulent activity. Staffing shortages in AML and fraud departments of financial institutions are well publicized, so make sure you have adequate staffing levels to perform well.
  • Educate customers and members: Provide educational opportunities for your community so they know when to say “no” to investment scams. Explain the types of fraud schemes circulating. Help them understand cryptocurrency so they don’t fall victim to these scams. The goodwill your institution will gain in the community will be invaluable.

Customer awareness

Educating customers on pig butchering scams

The FBI identified potential ways individuals can recognize and deter cryptocurrency investment schemes. Use the following list to educate your customers on best practices for protecting their assets:

  • Verify the validity of any investment opportunity from strangers or long-lost contacts on social media websites.
  • Be on the lookout for domain names that look like legitimate financial institutions, especially cryptocurrency exchanges, but that have misspelled URLs or slight deviations in the name.
  • Do not download or use suspicious-looking apps as a tool for investing unless you can verify the app’s legitimacy.
  • If an investment opportunity sounds too good to be true, it likely is. Be cautious of get-rich-quick schemes.

Pig butchering scams not only result in financial losses for clients; they can also lead to personal hardships, damaged credit scores, and even identity theft. The consequences can be dire for financial institutions. Massive financial losses can destabilize their operations, impact profitability, and harm their reputation. By combining fraud detection software, robust fraud and AML programs, employee education, and client awareness training, you can stay one step ahead of fraudsters, ensuring the security and trust of your institution and its stakeholders.

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