Washington’s recently enacted tax reform included, among other things, rate reductions designed to help small- and mid-size businesses. But for these reforms to be truly effective, Congress also needs to free up investment capital for Main Street from nontraditional lenders that will help expand these engines of economic growth.
There was a time when Main Street businesses looking to grow turned to their local or regional banks for funding. However, times have changed after decades of bank consolidation and the “Great Recession.” Many smaller banks were absorbed by larger financial institutions or closed, and the banks that survived reduced their small-business lending by more than 40 percent.
Today, small businesses confront serious challenges trying to obtain investment capital. Small business owners report that they receive only about 40 percent of the funds they request from traditional lenders, which limits their ability to expand. In fact, according to one study, more than 80 percent of businesses fail because of cash-flow problems that arise as they attempt to grow.
When Main Street companies faced similar challenges accessing capital 37 years ago, Congress created business development companies (BDCs), lenders that operate in ways like both traditional investment funds and a typical operating companies, but which are specifically charged with lending to small- and medium-size businesses that may struggle to obtain financing through traditional sources. Since Congress first created BDCs, those companies have invested more than $80 billion of capital in Main Street businesses and have become a primary source of small- and medium-size business financing.
BDC’s hybrid nature, however, means they are often like fish out of water under current regulatory structures. For example, while BDCs often take the place of banks, they are not permitted to leverage their assets the same way in order to provide more capital to the companies they support. In addition, because some publicly traded BDCs provide one of the few opportunities for many Americans to invest in their local and regional businesses, they are often regulated like typical investment funds, even though they are required by law to provide direct operating advice and hands-on coaching to their borrowers.
Earlier this year, an overwhelming bipartisan majority of the House Financial Services Committee approved legislation — the Small Business Credit Availability Act — that would modestly ease leverage restrictions and streamline BDC reporting and disclosure requirements. If Congress approves the bill, it could free up millions of dollars of investment capital and allow BDCs to more quickly respond to funding requests.
Tax reform can help small-business owners invest more of their earnings back into their businesses. But without increasing the ability of these businesses to access credit, tax reform alone is unlikely to overcome the major obstacles holding back these businesses.
After tax reform, Congress should take up the Small Business Credit Availability Act, which could empower business owners to expand their businesses and create thousands of jobs. To truly grow America’s Main Street, Congress needs to augment tax reform with regulatory reform designed to modernize outdated rules constraining small-business investment.