The government's recent Bounce Back Loan Scheme has been a lifeline for small businesses struggling under the economic pressure of the pandemic. With more than £14bn lent to SMEs and sole traders, there are growing concerns within the banking sector for increasing default rates in the years ahead. In our latest article we discuss what the outlook could be for both lenders and the taxpayer and how lenders can take a digital first approach to compliance.

Lifeline for UK businesses

Recent data from UKFinance indicates that £22bn of Government-backed loans have been dispersed to almost half a million businesses.

Over £14bn has been issued through the Bounce Back Loan Scheme, (BBLS), which has given businesses a much-needed lifeline to maintain their business continuity (source).

The Government has given a 100% guarantee on the BBLS handed out by banks under the scheme – which could leave the taxpayer exposed for the losses if SME’s go bust or fail to make the repayments.

According to a recent survey, by the Business Banking Resolution Service (BBRS), many of the borrowers do not intend to pay the debt back. This could mean that firms will need to be pursued through the courts, whilst the banking industry could face the prospect of being blamed for providing firms with unstainable debt in the first instance.

With minimal effort required for the application process, many firms see the loans as easy money, with no interest payable in the first year and low interest payable over a period of a further 5 years.

The question is: could this be seen as the most-costly loan scheme in the UK Governments history?

Following criticism of previous coronavirus loan schemes being too complex, with long lead times, and to avoid Banks refusing to lend to SMEs, the BBLS was designed by the Treasury with the stipulation that ‘lenders will not assess affordability’. Additionally, to help ensure the fast and efficient release of funds, the Financial Conduct Authority (FCA) state that loan applicants be approved under a ‘simplified’ due-diligence process if money laundering and terrorist financing risks are low. 

The FCA have recommended there is no need for Lenders to carry out further checks on applicants previously subjected to a due-diligence process. However, financial crime risk can increase with new applications and firms should continue to carry out a standard Client Due Diligence (CDD) process in accordance with Money Laundering Regulations.

Understandably Banks are concerned that the £50,000 BBLS limit, and ease of application, will increase the levels of fraudulent claims and potentially give access to credit to unsuitable borrowers.

The BBRS survey of 500 SMEs showed that of the 60% of businesses accessing government-guaranteed loan schemes, 43% have no expectation of paying it back (source).

Under the new BBLS, there will almost certainly be loans awarded to applicants who are either already in debt, or possibly even on the verge of bankruptcy and already failing to service existing debts. Although repayment won’t be an immediate problem, as businesses have until next year to start the repayment of their loans with a fixed 2.5% interest rate per year, it is inevitable that defaults will become an issue.

Digital-first approach 

With Lenders under pressure to distribute funds quickly, existing manual due diligence processes have been stretched and exacerbated by social distancing measures and concerns. Lenders now need to look at a digital-first approach and deploy technology solutions to meet demand, whilst delivering compliance, and limiting the number of defaults when repayments become due on these loans. By adopting a digital verification solution, both human error and time to approval is reduced dramatically, resulting in a streamlined process with reduced operational costs.

RegTech solutions quickly provide informed decisions and highlight risk factors by linking company data and history with digital verification tools.  Risk factors could include a lack of trading record; directors with links to multiple dissolved companies; or complex corporate structures to name but a few.

By using remote facial recognition tools, Lenders can verify an applicant’s true identity within minutes, by analysing facial features against a database and comparing these to identity documents. Most facial recognition solutions are simple to use and can be accessed via a mobile phone, meaning the applicant can sign-up and be verified at their own convenience, at any time.

To further reduce the threat of identity fraud, ‘liveness’ detection can also be used alongside facial recognition software. Liveness detection determines whether the face presented is that of a live person, rather than a 3D mask or a cut-out photo, which helps to prevent any ‘spoofing’ attacks by criminals. The technology uses machine learning algorithms trained on large data sets, to identify potential presentation attacks which have seen an increase during the pandemic.

Ongoing client monitoring

Over the coming years, Banks could be forced into an expensive process of recovery, on a huge volume of only moderately profitable loans, whilst their conduct during this time is likely to be closely scrutinised.

Ongoing monitoring can be used to help streamline the collection process and identify those that can’t pay, or have no desire to pay, from the many businesses that think they will be able to service these loans due to an uplift in business and the low rates of interest. Lessons will need to be learned and the use of digital technology and tracking, alongside carefully monitored audit trails, will enhance the capabilities to identify issues as they arise

In Summary

The BBLS loan scheme is a much-needed lifeline for many small businesses at a time of extraordinary economic uncertainty. However, understandably, there are significant concerns within the financial sector around the level of defaults that may arise, alongside the mounting debts these loan schemes may cause across British business, especially for the SME sector. 

However, by utilising digital-first and remote technology, to perform due diligence, lenders can help minimise the risk of fraud, whilst delivering swift access to funds for legitimate borrowers. This will not only help the SME economy prosper but also make the economy more resilient in the face of future crises.