Although a relatively new phenomenon, online lending partnerships have the potential to bring a host of benefits for the lender, the community bank and the loan applicant alike
By Collin Canright
Online lending platforms don’t have to be the competition. In the past year or so, some community banks have started to take advantage of online lenders’ technology, which can make lending and other financial services easier and more efficient for both banks and their customers.
These partnerships also can enable community banks to compete for loans—and customer relationships—that they’d traditionally decline. Online lenders can help a bank provide credit to consumers and small-business owners who would typically be too risky or expensive to service, generating loan-referral fees and deposits. They also can cut a bank’s internal underwriting and application costs, allowing the bank to review and make more loans on its own books.
That said, most of these partnerships are in the early days, says Peter Renton, cofounder of the LendIt online lending conference. “Most are less than a year old, so it’s too early to tell how they are going, and the companies don’t divulge much.”
Nor do the banks involved. Yet recent research shows that a large majority of regional and community banks are working with financial technology companies. According to an October 2016 survey conducted for the law firm Manatt, Phelps & Phillips, some 81 percent of respondents are working with fintech firms.
Partnerships are dominated by payments and mobile services. The number involved with online lending specifically is smaller but not insignificant. In the survey, 40 percent of bank participants said they take advantage of online lending platforms.
“Online lenders are at the front of the demographic shift. I strongly believe partnerships are the way forward.”
—Peter Renton, LendIt
Online lending on the rise
Online lenders are firms that use internet technologies to lend to consumers and small businesses. They have been around since at least 2006, and the industry grew some 900 percent in California in four years, according to a California Department of Business Oversight report. This growth shows little sign of slowing, despite some highly publicized missteps last year by some lending firms, such as Lending Club, which have led to calls for increased regulation.
What’s driving partnerships with community banks, according to online lenders, is the twin desires of satisfying tech-savvy customers and filling gaps in credit criteria. Rather than lose any relationship with a potential depositor by declining a loan, a bank can potentially gain or retain a customer relationship by providing access to credit through an online channel. That way, while the bank may not want the loan on its own books, it can still keep the customer’s other banking business.
“The goal is to enhance revenue,” says Stephen Sheinbaum, founder of online business financing lender Bizfi, based in New York. “You
can find other solutions that keep
Community banks often partner with online lenders when they don’t have the internal expertise to create their own small-business lending systems, online lenders say. Plus, small-business loans are notoriously expensive and time-consuming to underwrite, process and service.
900% Growth in online lending
in California between 2010 and 2014
“This technology allows us the ability to engage a broader marketplace almost immediately,” says Brian Meek, senior vice president at Burling Bank, a $122 million-asset community bank based in Chicago. “We will be able to review far more loans than we could six months or two years ago.”
At the same time, lending is moving online and going mobile, and that’s also providing challenges for community banks. “Online lenders are at the front of the demographic shift,” Renton says. “I strongly believe partnerships are the way forward, particularly for community banks. The online lenders can help them with a bridge to the future.”
How online lending partnerships work
Online lending partnerships tend to take three forms. Many lenders specialize in one type of partnership, but some provide all three.
1 Referral sources. Here, the online lending partner provides a simple referral service for a bank for loan applications the bank has declined for whatever reason. Perhaps the applicant didn’t meet credit-quality criteria or fell outside of a bank’s loan limits on either the high or low end, or the loan would be too costly to underwrite or service.
Several online lenders that handle referrals compare themselves to Kayak, the travel shopping website that searches offers on other travel sites and compiles them, providing a way for consumers to compare prices.
At a glance: the three types of online lending partnership
1. Referral sources. Banks refer loans they decline to online lenders in exchange for referral fees and to maintain depository relationships.
2. Lending relationships. Online lenders make and service loans on behalf of a bank partner, either on a white-label or co-branded agreement.
3. Technology providers. Banks buy a white-label version of an online lending platform to automate their own loan process.
In a referral partnership, a banker working with a declined applicant can enter the required information into an online lending partner’s system. “Our matching algorithm determines which lender or lenders are the best fit for the borrower,” says Brock Blake, founder and CEO of online business-lending marketplace Lendio, located just outside of Salt Lake City, Utah.
Alternatively, a bank can make a direct connection between its system and the online lender’s system and receive offers for its customer immediately. Offers can be presented directly to the customer online. Referral partnerships can be co-branded, where the online lender and the bank are both known to the customer, or done on a white-label basis.
2 Lending relationships. These are more complex and have multiple flavors that meet different strategic goals and appetites for risk, because business models, funding mechanisms and loan terms vary. These partnerships provide banks with access to the technology platform and decision-making criteria
Some online lenders can write loans on their own balance sheets, putting emphasis on cash-flow quality in their underwriting, rather than securing loans through collateral. Other lenders provide a person-to-person marketplace in which investors can review and fund loans based on applications.
“This technology allows us the ability to engage a broader marketplace almost immediately.”
—Brian Meek, Burling Bank
Lending platforms also are optimized for different types of loans, including unsecured consumer loans. Radius Bank partners with the online lender Prosper on this basis. Others are designed for the kinds of small-business loans that community banks cannot make profitably.
“From the perspective of the borrower, it’s a really fast, fair way of getting access to financing, and from the perspective of the investor, it’s a way to get yield,” says Sam Hodges, cofounder and U.S. managing director of San Francisco-based Funding Circle USA.
3 Technology providers. Community banks generally don’t have the resources to build their own interfaces, so they turn to partners that can provide the lending application and integrate with core systems. Licensing partnerships seem to be the most popular. “A lot of banks are looking to license the actual technology to offer loans faster than the manual process that they have now,” Blake says.
Under this type of partnership, the bank seeks better technology to serve different markets or to become more efficient. Many smaller banks still make loans in branches using paper applications, using people to review applications and pull credit files. “It’s not the experience that millennials are looking for,” says Vince Passione, CEO and founder of LendKey in New York. Akouba Credit in Chicago also licenses lending technology to community banks.
A bank might want to have a technology partner build a credit interface that does nothing more than put its loan application online. At another level, a bank can provide criteria to the technology provider so that potential borrowers get an instant decision based on the bank’s own underwriting criteria.
At still another level, technology partners can provide a complete digital lending experience, with all documents provided online. Some technology providers will also service loans for the bank, further reducing costs on consumer and small-business loans.
A case in point
Burling Bank is working on a partnership that will see it use online lending technology to enhance the efficiency of its small-business lending and underwriting process, including tasks such as pulling credit reports, gathering financial statements, and sending reminders to applicants. Burling Bank will hold the loans on its books, and underwriting will be based on its criteria.
According to both bankers and lenders, the underwriting criteria are crucial to technology partnerships. Fintech is not the proverbial silver bullet. It may provide higher conversion rates and better efficiencies, but it doesn’t necessarily provide better lending decisions.
“I’m not the lender,” Passione says. “I have an opinion, but the bank is the lender of record, and the ultimate underwriting and pricing relies on the financial institution.”
How partnerships with online lenders work in the end remains to be seen, but most of the difficulties reported by online lenders lie in the area of culture, not technology or even regulation. “The pushback we get is that change is hard,” Sheinbaum says. “It’s hard to break the inertia.”
Collin Canright is a financial technology writer in Chicago.