President Obama has announced a proposal to encourage small business lending by creating a small business lending fund to provide capital support to community banks, which tend to make more small business loans in proportion to all business lending than larger banks. A summary of the proposal released on February 2 indicates that a new Small Business Lending Fund would provide low-cost capital to banking organizations with less than $10 billion in assets. More institutions would be eligible for a capital investment under the new proposal than under a similar idea floated by the administration in October 2009 for banks with less than $1 billion in assets. The proposal would require legislation to transfer $30 billion out of the Troubled Assets Relief Program (TARP) to the Small Business Lending Fund. The new fund would be separate from TARP, so participants would not be subject to TARP restrictions, unlike institutions that received capital investments under the U.S. Treasury Department’s Capital Purchase Program (CPP). The cost of capital provided by the Small Business Lending Fund would be reduced as small business lending is increased to provide an incentive to improve access to credit for small businesses. The administration has not yet issued a draft of the legislation that would be necessary to implement the program, and it announced that it will work with Congress on additional ideas to enhance credit for small businesses through the fund.

Nutter Notes: Qualifying banking organizations would have to be approved by their primary federal banking regulator to be eligible for a capital investment from the Fund, according to the summary of the proposal. Organizations with less than $10 billion in assets that participated in the CPP would be permitted to repay the Treasury and withdraw from the CPP with capital from the Fund. Banking organizations with less than $1 billion in assets would be eligible to receive an investment equal to a maximum of 5% of risk-weighted assets. Those with between $1 billion and $10 billion in assets would be eligible for investments of up to 3% of risk weighted assets. The dividend rate on the capital would begin at 5% on an annual basis, but the rate would be reduced by 1% for every 2.5% increase in incremental business lending activity achieved over a 2-year period (on the basis of new lending beginning on January 1, 2010). The dividend rate could be reduced to a rate as low as 1% as a result of increased small business lending. If the capital investment has not been repaid after 5 years, the dividend rate would be increased to encourage return of the capital to the Fund. While the administration emphasized that the Fund would be separate and distinct from TARP to encourage participation, it is not clear from the administration’s summary whether and to what extent participants may be subject to reporting obligations, or executive compensation or other restrictions.