How changes in PPP affected funding for underserved SMBs, in 4 charts

Policymakers changed aspects of the Paycheck Protection Program to allow better access for more underserved SMBs, but the final outcome showed mixed results – in many instances, the systemic inequities in banking prevailed, favoring large and white-owned businesses. 

Small businesses employ nearly half of the private workforce in the US, and were particularly vulnerable economically when the pandemic hit. The government sought to help through a $350 billion aid package called the Paycheck Protection Program (PPP), which ran in 2020 and 2021. 

However, many small businesses didn’t get any access to PPP funds. Big banks with assets north of $10 billion facilitated nearly half of the loans, and many of them were incentivized to approve existing borrowers or larger firms. 

Many critics also complained about the requirement to calculate eligible loan amounts by using net profit instead of gross income, which put many small businesses at a disadvantage.

And the problem was even worse for minority-owned businesses. Having to go to a third party lender to access these funds meant they had to face the existing barriers in the US banking system, such as racial discrimination and unequal access to information.

This led Congress and the Small Business Administration (SBA) to make a few changes prior to the 2021 round of funding, to try and improve the program access for underserved firms. 

Policymakers pre-allocated funds to go towards SMBs with up to ten employees, small businesses located in low and moderate-income communities, as well as first-time PPP borrowers. 

There were also funds set aside for lenders who typically provide credit to underserved borrowers, such as Community Development Financial Institutions (CDFIs), Minority Depository Institutions (MDIs), small banks, and credit unions.

Some of the changes were effective, Federal Reserve research suggests, especially for solo entrepreneurs or nonemployer applicants, and may also have encouraged more applications from minority-owned firms. But the disparities in approval rates between white and minority-owned firms still didn’t change much.

While the SBA’s reports show the rise in funding going to SMBs in the second phase of the PPP program, it’s unclear if the increase was driven by an easier application process or changes in approval rates. 

Looking at the application rates by firm size, the yearly change is evident – overall, 2021 saw much fewer applications than the year before. 

Comparing the yearly differences, the smallest reduction can be noticed at nonemployer firms, or businesses run by one single person. This segment also recorded the highest proportion of first-time applicants (36%), along with SMBs with 1-4 employees (19%), compared to the larger firms whose metric was in the single digits.

Overall, this suggests that the policy changes that pre-allocated funds to businesses with up to 10 employees might have encouraged more solo entrepreneurs to apply for funding.

And it looks like they were also more likely to get the money – nonemployer firms were the only category that saw higher approval rates in 2021 versus 2020, likely driven by the revised guidance that allowed loans to be calculated using gross income rather than net profit. 

But for SMBs with employees, the PPP program changes didn’t change the applications’ outcome for the better – approval rates were slightly lower in 2021 than in 2020.

Systemic obstacles 

Despite aiming to provide financial relief to struggling businesses, many of those that needed the help were unable to access the funds. This was particularly the case for minority-owned businesses, which had to face systemic inequities throughout the process.  

However, it’s hard to draw any general conclusions in this regard, given that around 71% of PPP borrowers chose not to report race/ethnicity information on their applications.

From the available data, the Fed observed smaller decreases in application rates for minority-owned businesses, such as black or hispanic, compared to white-owned SMBs. Moreover, nearly a third of black or hispanic-owned businesses were first-time borrowers, versus 11% of white-owned companies. 

But when we look at approval rates, these were relatively similar in 2020 and 2021, showing that the changes made to the PPP program didn’t help much with approval outcomes. One notable exception is at black-owned employer firms, where the approval rate dropped from 74% to 65%.

Fintechs were a big ally for the underserved minority small business owners looking to access PPP funds. Companies like PayPal, Square and Kabbage were some of the largest online lenders to give out financing, capitalizing on the opportunity to leverage their digital capabilities and user-friendly experiences to attract small business. 

Even though they accounted for a small share of the total PPP loan volumes, they had an important role for those that were unable to get the funds from traditional lenders, earlier research suggested. 

In the first wave of the PPP program in 2020, fintech lenders provided more small loans (less than $25,000) in counties with higher fractions of black residents. By comparison, the small loans given out by banks had little correlation with the percentage of black residents in given counties.

While it’s still early to tell if these fintechs will be able to build longer term relationships with their newfound SMB customers, having been a friendlier solution at a time of great need definitely goes a long way. And given the sector’s interest in continuing to serve the financial needs of SMBs, an area typically deserted by big banks, there is plenty of scope for fintechs to become a main financing option for those that feel left behind by the system.