The Liquidity Tool Your Small Business Clients Might Not Know to Ask For
Robert Muruli
Principal, Lending & Banking
Are you looking at both sides of the balance sheet when reviewing your small business owner clients’ financial plans? If you’re not considering their debt and liquidity alongside the equity they’ve built, you could be losing sight of their bigger financial picture – and potentially missing opportunities that may benefit them.
It’s no secret that small-business owners are facing a slew of challenges – changing regulations, rising interest rates and the potential need to refinance existing fixed-term loans due to upcoming balloon payments – all of which strain cash flow. On top of that, they must make sure their daily business operations run smoothly.
So how can you get your small business owner clients to a place where they have affordable liquidity to account for their everyday business needs while navigating a tumultuous fiscal environment? Well, the solution may be something your clients don’t even know to ask for: securities-based lending.
The History and Legislation Behind Securities-Based Lending
To find a solution, you must first understand the problem. Here, the issue lies in a lack of general awareness surrounding securities-based lending. That’s because debt and liquidity markets tend to get less attention than equity markets – but why?
One major reason is the debt product environment doesn’t fluctuate as much until an event – like the recent rise in interest rates – has a spillover effect on rates of both fixed- and variable-debt instruments.
Higher interest rates fuel higher capital costs, which in turn causes lenders to tighten their underwriting criteria like creditworthiness, collateral values and debt service coverage. This can make it harder for your small-business clients to qualify for typical debt or liquidity vehicles.
Like the Great Recession of 2008, we’re seeing a resurgence in private credit this decade. In 2020, private lenders began providing liquidity where banks could not. This space expanded even further when the Fed started increasing interest rates in 2022 and continues to grow today in 2024.
One of the most potentially impactful pieces of legislation to watch is the joint proposal Basel III endgame (no, that’s not an action movie). This Federal Reserve and FDIC regulatory rule change would cause banks to increase reserve requirements (funds that a bank should set aside to provide a buffer to meet its liabilities in case of unforeseen withdrawals). Opponents of the Basel III endgame regulatory change believe that small businesses and residential lending will be impacted the most – rather than banks – if the proposal passes. Simply put, combined with the expansion of the private credit space, this legislation could cause an increase in credit costs.
Bridging the Liquidity Gap with a Tax-Intelligent Solution
With all this in mind, how can you help your small-business clients ensure they have adequate liquidity?
When needing capital, a client’s first thought might be an SBA (Small Business Administration) loan, but obtaining these can be quite cumbersome. A client could also consider using a credit card, which have exorbitant interest rates. Another choice is selling investments (like retirement or non-retirement assets) – but liquidating assets in either registration type has drawbacks, including potentially significant tax implications. For example:
- Qualified accounts, which are taxed as ordinary income and may have a penalty applied, depending on your client’s age and if/how they take distributions.
- Non-qualified accounts, which requires a client to sell out of a position and potentially realize transaction costs, capital gains and other tax implications.
When liquidity is needed, a tax-intelligent alternative to selling assets in either qualified or non-qualified accounts is a securities-based line of credit (SBLOC). This product can be a particularly powerful choice for small-business clients because SBLOCs:
- Provide immediate cash flow unlike a term loan (but can also be established at zero cost before a client needs liquidity).
- Have a substantially lower interest rate than a credit card or a personal loan.
- Have minimal underwriting requirements that don’t change with market conditions.
- May be priced lower and have the potential to drop in rate when the Fed starts lowering rates.
- Have a much higher approval probability and possibility of a cost savings when compared to similar lending products.
- Allow the client to keep the asset with you, their trusted financial professional, instead of having to go elsewhere for their liquidity needs.
Tax-intelligent Financial Professionals know firsthand a well-constructed and closely managed financial plan involves periodic rebalancing. When rates increase and market dynamics change, it’s important to review their current situation and plan for their business’s future financial needs. Think of this as another opportunity to check in with your small-business clients to ensure their needs are being met. A credit line solution such as the Goldman Sachs Select Securities Based Line of Credit through Avantax can be an option when in the client’s best interest.