On 1 November 2016, the UK government launched a new mandatory bank referral scheme to make it easier for UK firms to access alternative finance. Conrad Ford of Funding Options gives an insider’s view on what the new bank referral scheme means in practice.

Why is the bank referral scheme needed?

It’s no secret that business lending fell precipitously in the years following the global financial crisis, with Bank of England statistics showing the amount of loans outstanding to UK small- and medium-sized enterprises (SMEs) falling by billions of pounds.

Since then, successive governments have been determined to leave SMEs better protected from future financial shocks. Initially, the government subsidised the major banks to encourage them to lend more, and more recently, a new state-owned bank called the British Business Bank has directed capital into promising alternative finance providers.

The bank referral scheme arose from growing recognition among policymakers that the issue wasn’t always a lack of supply of lending capital, but simply that SMEs and alternative finance providers weren’t finding each other. In fact, the government’s own research shows that most firms only approach their main bank when seeking finance, and if rejected, most will simply give up.

How did the bank referral scheme come about?

In 2014, the government consulted on the idea of forcing the banks to refer their rejected SME loan applicants to alternative finance providers. The idea met with widespread support, but with an overwhelming caveat that the process would only work if the SME was in control. The government also resolved that it would encourage competing private sector platforms to play the role of connecting SMEs with lenders, because industry schemes had failed and innovation was required.

One of the last legislative acts of the coalition government before the 2015 general election was to pass the Small Business, Enterprise and Employment Act 2015, which included the bank referral scheme. Legislative momentum was maintained with the Small and Medium Sized Business (Finance Platforms) Regulations 2015, which gave ministers the powers to designate finance platforms and banks.

In parallel, the British Business Bank began selecting private sector finance platforms on behalf of HM Treasury. Dozens of companies expressed an interest, with three platforms eventually chosen after an in-depth assessment process which covered areas such as proposition, compliance and security.

The bank referral scheme launched on 1 November 2016, to significant press attention.

Who is impacted by the bank referral scheme?

In all, nine major banks are impacted by the new law, with the usual suspects of Barclays, Natwest, Lloyds, HSBC and Santander (the ‘Big 5’) supplemented by less well-known names such as First Trust and Danske Bank (selected for their importance in Northern Ireland).

Three companies have been designated to carry out the role of finance platforms connecting unsuccessful SMEs with alternative finance providers: Funding Options, which I founded, Funding Xchange and Bizfitech. Further platforms are expected to be designated, probably in 2017.

The bank referral scheme is available to UK SMEs with up to £25 million turnover, and who are seeking more than £1,000 in a bank loan, overdraft, credit card, invoice finance facility or hire purchase.

How does the bank referral scheme work in practice?

If an SME is unsuccessful in its application for finance with its bank, they are offered a referral. A key principle is that the SME is in control, meaning that the bank will only refer with explicit consent. If this consent is given, a package of information about the SME is sent to the designated finance platforms to enable them to seek alternative finance for the SME. Also reflecting the principle of putting the SME in control, designated finance platforms will only reveal identifying information about the SME to alternative lenders with explicit consent.

In practice, nothing prevents SMEs from approaching the designated finance platforms directly, rather than being formally referred by their bank. Indeed, at Funding Options we’re already seeing lots of firms come directly after hearing about us from their bank.

Types of finance available through the finance platforms include term loans, invoice finance, hire purchase, equipment leasing, commercial mortgages, property development finance, peer-to-peer lending, revenue loans, and online short-term lenders, as well as government-backed start-up loans and not-for-profit social lenders. None of the three finance platforms currently help with equity finance (selling a stake to investors), so the bank referral scheme isn’t an online Dragons’ Den.

Will the bank referral scheme actually make a difference?

There is no single silver bullet to solving SME funding issues, because the funding challenges facing a sole trader hair salon are fundamentally different from a haulage company employing 20 staff.

That said, with an estimated 100,000 firms rejected each year for finance, it’s reasonable to assume that tens of thousands will take advantage of the bank referral scheme. Of course, not all SMEs will be suitable for any kind of alternative finance, and many of those that are suitable will not take it. That said, our own experience at Funding Options is that it’s often high growth firms who benefit most from our support, so we expect a positive economic impact.

Perhaps most excitingly, the Competition and Markets Authority (CMA) has made the new designated finance platforms central to recent remedies to improve choice and competition in SME banking; the bank referral scheme may be just the start of a journey of transforming business finance.

About the author

Conrad Ford is the founder and chief executive of Funding Options, an online marketplace for business loans that is one of the three finance platforms designated by HM Treasury for the bank referral scheme. Conrad regularly appears in major national press such as the Times, FT, Telegraph and BBC discussing SME finance, and can be found on Twitter as @FinanceConrad.

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