About Microloans
Microloans entered the minds of average consumers in 2006 when economist Muhammad Yunus and Grameen Bank were given the Nobel Peace Prize. Yunus and fellow economists and financiers in Bangladesh established the Grameen Bank in 1976 to help poor people get loans. These loans were distributed in small chunks in recognition of the impact a few dollars could have on low-income entrepreneurs. Over the last three decades microloans have been introduced in Africa, Eastern Europe and Asia to improve economies from the ground up. As microloans become more prevalent in North American and Western Europe, small business owners should learn more about this form of financing.
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Function
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Microloans fund businesses and non-profit ventures that are deemed unlikely to produce profit by banks. These loans have become necessary as lenders tighten their control over credit, hedge against risky investments and look for applicants with histories of repaying loans. Traditional lenders overlook young entrepreneurs and families living in poor economies who have little or no credit history and no collateral. The microloan process encourages innovative products and services by giving money to new entrepreneurs who want to serve their communities.
Considerations
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Entrepreneurs and investors who partake in microloans should think about transparency as well as repayment mechanisms before filling out paperwork. Nonprofit microlenders like Kiva ask entrepreneurs to keep citizen lenders updated on repayment progress as well as the products and services created using microloans through online diaries. An entrepreneur should stay in touch with the lending party as much as possible to ensure faith in the microlending process. In recognition of the financial straits of most microloan recipients, lenders offer longer repayment schedules and lower monthly payments to avoid default. Small businesses should set aside more than the minimum amount to create better credit histories and ensure approval for future microloans.
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Size
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The size of a microloan depends entirely on the organization providing the funds. Kiva is a microlender that connects average citizens to small businesses in Africa, Eastern Europe and Asia. This organization asks for minimum loans of $25 from individual lenders and multiple individuals can contribute to a single recipient. These loans are repaid over time to the lender, allowing average citizens to fund multiple ventures at a time. Government agencies like the Small Business Administration (SBA) offer microloans averaging $13,000 with a $35,000 ceiling. The SBA's Microloan Program uses tax money to help aspiring entrepreneurs in underserved groups bring their products to market.
Types
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Microloans can be distributed as contributions, guaranteed loans and securities depending on the amount of risk acceptable to the lender. Organizations like Wokai allow average people to contribute funds to entrepreneurs without expectation of repayment. The benefit of a microcontribution is the ability to cite this money on state and federal income tax forms as a charitable contribution. A guaranteed microloan protects the investor against total loss and allows international lenders to work with local banks to fund businesses in regional or national currency. The latest trend in microlending is the use of securities offered by companies like MicroPlace that give investors interest while funding businesses in the developing world.
Features
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Every microloan features an investor, a local bank and an intermediary financial institution or organization. The investor informs the intermediary of the type of business, geographical location and microloan amount desired. The intermediary searches for local banks in places like Mongolia and Liberia. These banks are able to take the investor's money, convert it into local currency and solicit applications from interested entrepreneurs. The local bank works with the intermediary organization to set guidelines for accepted applicants who can receive microloan investments. All three parties are involved in repayment of the microloan as the intermediary party transfers information from the local bank to the investor when possible.
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Resources
- Photo Credit Photo by Curtis Perry (Flickr)
