Black Entrepreneurs Continue to Receive Inferior Loans and Service from Banks, Despite Better Qualifications than Peers

A study conducted nearly a decade ago by researchers from Brigham Young University, Utah State University, and Rutgers uncovered the disheartening reality of discrimination in bank loan services, which has been affecting the American Dream for minority entrepreneurs.

Unfortunately, even in 2023, not much has changed. A recent paper published by the same group of authors reveals that banks continue to provide inferior loan products and service to Black customers, even when these customers have stronger financial profiles and FICO scores compared to their white counterparts.

“Despite the passage of time and social reckoning, we are still witnessing the same patterns of discrimination that have plagued us in the past,” said study co-author Glenn Christensen, a professor at the BYU Marriott School of Business. “This problem hasn’t improved or changed; it remains a persistent issue.”

However, the study offers a glimmer of hope. While financial institutions are primarily responsible for eliminating discrimination, the research identifies specific strategies that minority small business owners can employ to signal sophistication and increase their chances of securing business loans.

“Individuals may not even be aware that they are being treated differently,” said study co-author Sterling Bone, a marketing professor at USU’s Huntsman School of Business. “We don’t want to burden the consumers, but we have found ways to counteract bias.”

To investigate and develop mitigation strategies for racial bias in financial lending institutions, the researchers conducted three field studies:

• Study 1: Black and white testers, with twelve individuals from each group, visited 52 bank branches in the Atlanta metro area. These testers posed as potential customers seeking loans for small businesses, with Black testers given stronger business profiles. Despite the superiority of their financial profiles, Black testers were offered business lines of credit (BLOC) significantly less often than white testers.

• Study 2: Black and white testers were assigned high or low socioeconomic profiles and instructed to inquire about small business loans in the Washington, D.C., metro area. The study revealed that white customers with low socioeconomic profiles received more favorable treatment than their Black counterparts with the same profiles. However, Black testers with high socioeconomic profiles received similar treatment as their white counterparts.

• Study 3: The researchers surveyed 266 small business owners nationwide to examine how the structures of their companies impacted loan approvals. The study found a significant bias against Black-owned sole proprietorships, with approval rates less than half that of white-owned sole proprietorships. However, when Black entrepreneurs operated joint proprietorships or partnerships, the racial bias was mitigated. Furthermore, when Black entrepreneurs had LLC, S corps, or C corps, the racial bias was reversed, with 75% of Black owners having their loans approved compared to 42% of white owners.

“We still have underlying problems to address. Banks need to acknowledge and address the existing bias,” said Bone. “However, there is hope as we have found ways to empower consumers through interventions to improve the situation. There are additional steps individuals can take to signal their legitimacy and sophistication.”

Christensen suggested that small business owners can register their company as an LLC, which potential lenders perceive as a sign of sophistication. He also emphasized the importance of minority business owners with high FICO scores making this clear when seeking a loan.

“Everyone should present their very best story,” Christensen advised. “The data supports this approach: if minority loan seekers can present themselves effectively, the outcome can be more favorable.”

In addition to individual actions, the researchers call on financial services executives to acknowledge the need for change and take proactive steps to address employee biases. They recommend implementing policies that ensure uniform loan product offerings to all customers and requiring independent evaluation of each loan application by at least two employees. They also suggest enhancing internal compliance with legal frameworks, designing more inclusive products, and utilizing self-service technology to reduce bias.

The study also highlights the role of policymakers, urging them to create standardized small business lending forms, fund programs that provide technical assistance and education for minority-owned businesses, and increase oversight and enforcement.

“Bias training at banks is no longer effective; it’s time for a different approach,” Bone concluded.

 

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