How Community Development Finance Institutions Can Propel Local Business

Community Development Finance Institutions (CDFIs) are vital in supporting local businesses and underserved communities. They can present an alternative option when it comes to development finance. 

CDFIs typically operate throughout the UK, giving regional funding and lending to certain types of businesses.

As UK-based social enterprises, CDFIs prioritise social impact over profits, fostering economic development and financial inclusion.

Here, we'll explain community development finance institutions and explore their significance.  

This guide can help you understand CDFIs and their role in bridging the financing gap for entrepreneurs and individuals in underserved areas. 

What are Community Development Finance Institutions? 

A Community Development Finance Institution in the UK is not a bank in the traditional sense.  

While it performs some banking functions, such as lending and providing financial services, it operates with a distinct social purpose.  

CDFIs are typically independent organisations that focus on serving communities with limited access to mainstream financial services. 

Community Development Finance Institutions are vital to the UK's economic growth and social impact.

CDFIs provide access to affordable loans and financial services to underserved communities. They aim to promote local economic development, job creation, and community empowerment.

CDFIs work to support start-ups or small businesses that may be struggling to secure funding. 

They offer tailored financial solutions, technical assistance, and financial education.  

CDFIs prioritise investments with positive social outcomes, such as affordable housing and renewable energy initiatives. They play a crucial role in reducing inequality and fostering economic resilience. 

If you're looking to start a development project as a new developer and are unsure about using a CDFI, read our blog on development finance for inexperienced developers.

How do CDFIs work? 

A community development financial institution typically operates differently from traditional lenders due to its adherence to ethical lending and financial processes.  

Here are some ways a CDFI will process an application and their overall aim when supporting an individual or business. 

Relationship-Based Approach to Lending 

CDFIs differentiate themselves from traditional lenders by adopting a relationship-based approach to lending.  

Instead of relying solely on numbers and credit scores, CDFIs take the time to understand each borrower's unique circumstances and needs.  

This approach fosters stronger connections and allows for a more comprehensive evaluation of loan applications.

Application Process and Criteria

When applying for a loan from a CDFI, borrowers must complete an application form.  

This form collects various information, including financial statements, business plans, and other relevant documents.  

CDFIs use this information to assess the borrower's creditworthiness and determine the feasibility of the loan request. 

Assessment of Loan Applications and Considerations 

While CDFIs operate differently, they still employ thorough evaluations for applicants.  

They'll consider multiple factors; the borrower's financial stability, repayment capacity, and the potential social impact of the loan.  

However, CDFIs often prioritise supporting businesses in underserved communities and those positively affecting job creation and economic development. 

By adopting a relationship-based approach, following a comprehensive application process, and considering social impact, CDFIs play a vital role in supporting businesses and communities that traditional lenders may overlook. 

What are the benefits of CDFI lending? 

Community Development Finance Institutions offer distinct benefits to businesses and communities.  

They provide access to finance for businesses that face challenges with traditional lenders. These institutions also provide flexible loan amounts tailored to the specific needs of each business.

While specific terms will vary, depending on the institution and the individual circumstances of the borrower, here are some common aspects of flexible lender terms provided by CDFIs.

Loan Amount 

CDFIs will offer a range of loan amounts to accommodate different business requirements.  

Due to their unique approach, they are more likely to accommodate the loan amount you'll need – even if you've previously been declined elsewhere. 

CDFIs generally offer loans ranging from a few thousand pounds to hundreds of thousands. 

Repayment Period 

CDFIs provide flexible repayment periods, allowing businesses to repay the loan over a timeframe that suits their cash flow and financial situation.  

The repayment period can be tailored to match the business's ability to make regular repayments. 

Interest Rates 

CDFIs often offer competitive, low-interest loans compared to traditional lenders. However, interest rates will vary and may be subject to specific criteria and the borrower's circumstances.

Additionally, CDFIs can benefit from the support and guidance they give throughout the lending process.  

They'll take a keen interest in the success of the businesses they support, taking the time to understand their unique circumstances while providing valuable insights to aid informed financial decisions. 

Which type of businesses can a CDFI help? 

CDFIs are often dedicated to serving a broad range of underserved individuals and communities, including low-income individuals, rural communities, non-profit organisations, and affordable housing initiatives.

A community development finance institution is a useful funding option for various groups, including small and medium-sized enterprises (SMEs) that need help to obtain financing from traditional banks due to limited credit history or collateral.

A CDFI can provide loans and additional financial services that grant SMEs access to capital to start or expand their businesses. 

Another group benefiting from CDFIs is businesses outside London and the South East.  

CDFIs address regional economic disparities by offering financing options and fostering economic development for those who cannot get business finance through traditional methods. 

Are there any risks associated with borrowing from CDFIs?

As with any borrowing arrangement, there are inherent risks. Depending on the loan type and purpose, CDFIs could charge higher interest rates and fees than traditional banks.  

A borrower's limited credit history or collateral is also a factor. CDFIs accept adverse credit histories, but it may still affect the rate you receive.

With that said, borrowers should carefully review the terms and conditions, including interest rates, repayment schedules, and any associated fees. 

To mitigate risk, it is advisable to review loan agreements and thoroughly seek financial advice, if necessary.  

Additionally, it is a good idea to develop a realistic repayment plan, with a solid exit strategy for the loan, before seeking funding through a CDFI.

FAQs 

What happens if I default on a loan from a CDFI?

If you default on a loan from a CDFI, similar to other lenders, they may take action to recover the outstanding debt. 

This can include collection efforts, reporting the default to credit agencies, and potentially taking legal action.  

Understanding the loan terms, repayment obligations, and consequences of default is crucial before borrowing. 

How can I assess the credibility and financial stability of a CDFI?

Before borrowing from a CDFI, it's essential to conduct due diligence. Evaluate their reputation, track record, and financial stability. 

Review their financial statements, annual reports, and certifications to gauge their credibility. 

You can also inquire about their loan portfolio quality and past defaults or delinquencies. 

Are CDFIs regulated or supervised by any authorities? 

Yes, CDFIs in the UK are regulated and supervised by the Financial Conduct Authority (FCA).  

The FCA ensures CDFIs comply with applicable laws and regulations, promoting consumer protection and market integrity. 

How do I get in contact with a regional CDFI?

To contact a regional Community Development Financial Institution (CDFI), research online for CDFIs operating in your region.  

Check industry associations, local business support organisations, and government resources for information and contact details.