Business Owners Finding It Difficult To Secure Real Estate Loans

As a result of the mortgage crisis, business owners can no longer reliably count on homes or commercial properties to secure financing.

Even as some segments of the economy recover, the lagging pace of improvement in the real-estate market continues to hamper owners' efforts at landing credit. Because business owners used real estate to support financing endeavors in a variety of ways, the subprime mortgage crisis hit Main Street particularly hard as it rippled through the credit markets. Before the real-estate bubble burst, home and business properties were a reliable source of collateral for many businesses.

People that were ineligible for a traditional mortgage loan could often draw capital from home values by writing loans against home equity. Unlike traditional loans, home equity loans and lines of credit are determined by the appraised value of the home, minus the mortgage, and are not issued on the basis of credit history or credit scores.

Experts say it will be a long time before real estate becomes a dependable borrowing mechanism again. Part of the problem is the inability to define what is normal, given the surge in property values that happened for years leading up to the meltdown. In August 2007, the Discover Small Business Watch survey showed that 30% of respondents tapped home loans for funding.

Business owners expecting to offer personal and business properties as collateral for bank loans are hitting walls. Nearly 30% of business owners with a line of credit said their financial institution changed conditions last year, including requiring more collateral, according to a survey published earlier this year by the NFIB. The stiffer terms are "hugely tied" to falling real-estate values, NFIB's Mr. Dennis says.

Even though "cash flow is the number-one reason for getting declined," according to Kathie Sowa, a commercial banking executive at Bank of America, "the value of the commercial building and the home—the combined net worth of the business and the owner—has been reduced, so collateral becomes more important in order to make sure that it's in line with the loan."

According to the NFIB, 7% of business owners used their personal homes and 11% used their commercial property as collateral for their business in 2009.

With real estate fluctuating in value, Bank of America and other lenders are issuing credit based on borrower's non-real-estate assets, such as inventory and accounts receivable. So-called borrowing-base credit lines increase or decrease in tandem with the value of those assets, which the lender monitors regularly to extend an appropriate line of credit.

Business owners who don't have sufficient collateral in homes or commercial properties to satisfy banks are also turning to alternative lenders for asset-based loans. A drawback: Such lenders generally exert a certain degree of control over the business's assets and can seize them if the borrower misses payments.