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Home»For Buyers»Retail News»Home Equity Loans in the Boom Led to Today’s Small Business Credit Problems
Retail News

Home Equity Loans in the Boom Led to Today’s Small Business Credit Problems

PublisherBy PublisherMay 1, 20112 Mins Read
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Many small business owners finance their companies by borrowing money personally and putting the proceeds of their loans into their businesses, or by pledging personal assets as collateral to obtain business loans. Yet because the biggest asset most people have is their homes, this means that a sizable chunk of small business owners rely on home equity to finance their companies. With that in mind, did small business owners’ borrowing against their homes during the real estate boom sow the seeds of their current problems getting credit? A survey of about 1,000 small business owners, conducted by Barlow Research in 2007, shows that one quarter either used their homes as collateral for business loans or took personal loans against the equity in their homes to finance a small business. Moreover, during the pre-recession part of the 2000s, small business owners increased their reliance on their homes as a source of business capital.

The decline in home prices has reduced small business owners’ access to credit. In response to the higher level of non-performing real estate loans in their portfolios, banks have tightened lending standards for home equity loans, while at the same time falling home prices have weakened small business owners’ personal balance sheets, reducing their creditworthiness. In addition, the 28 percent decline in housing prices since March 2006 has wiped out the equity that the typical small business owner borrowed against, given a standard loan to value ratio of 80 percent.

The reliance on homes as a source of business capital was greater in the states with larger declines in home prices. In short, small business owners’ use of their homes to finance their businesses during the real estate boom contributed to the contraction in small business credit markets during the recession, particularly in the states hardest hit by housing price declines. The preceding is by Scott Shane of Case Western Reserve University, available at http://tinyurl.com/49xl9b6.

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