Community Development Financial Institutions: Invaluable Capital Partners in Low-income Rural Areas

Abstract

Keywords

community development financial institutions rural community development public–private partnerships innovative rural development models persistent poverty counties alternative finance models

Systemic poverty is rooted in urban and rural areas, exhibiting similar socioeconomic crises, but with deeper impacts in more remote rural regions and communities. Rural poverty declined from 35 percent in the 1960s to 16 percent—where it has held since the early 1980s—but persistently poor and predominantly minority counties remain in areas like Appalachia, the Mississippi Delta, Indian country,¹ and the Rio Grande (Weber 2019). Recent job losses in agricultural, manufacturing, and extraction industries have fueled an outmigration of working-age and skilled individuals, leaving behind a struggling and economically deflated tax base (Drabenstott 2010). As Loabo and Kelly discuss in this special issue, as tax bases decline, local governments gradually lose the capacity to provide services, fund capital improvements, and engage in economic revitalization initiatives.

Economic revitalization and business development also require private-sector financing. But as businesses leave and populations decrease, persistently poor rural areas lose even the limited access to sources of financing, such as traditional banking and grants, that they had in the past (Green 2018; Parzen and Kieschnick 1992). Indeed, the decline of banks headquartered in rural communities has been more pronounced than that of banks headquartered in large and small cities (Tolbert et al. 2018). The number of small-asset banks fell from 18,000 in 1985 to below 6,000 in 2017 (Wiley 2019). In addition to the resulting bank deserts, many remote and persistently poor communities see less investment by foundations and other grantmaking institutions. Between 2010 and 2014, foundation grantmaking per capita to San Francisco and New York City was US$4,096 and US$1,966, respectively. During the same period, the Mississippi Delta and Alabama Black Belt received US$41 per capita, Coal and Lowcountry US$43, and the Rio Grande Valley received US$52; the U.S. grantmaking average was US$451 (Schlegel and Peng 2017).

Although no single solution can bridge the growing wealth and opportunity divide, the community development financial institution, or CDFI, holds promise for restoring investment and revitalizing communities. CDFIs are mission-oriented organizations that invest locally, collaborating with banks, governments, and other organizations to create viable project financing. Projects include housing, micro- and small business development, and community facilities like schools and medical centers. CDFIs have successfully served urban, rural, and indigenous communities since 1994, but their potential impact to date has been limited by a lack of capital. CDFIs need more resources in order to reach their full potential—more grants and funding from banks, government, foundations, and other institutions.

This article describes the work of CDFIs in underserved, low-wealth rural communities, and it explains how public–private funding partnerships can increase investment in these areas. The article concludes with recommendations for federal funding and policy support as well as for how state and local governments, foundations, and the private sector can help CDFIs reach their potential as an effective community development partner and asset.

CDFI Overview

CDFIs are community-focused organizations that provide financial capital and advisory services to underserved communities. The U.S. Treasury CDFI Fund has certified over 1,100 CDFIs to date.² They operate in markets ranging in size from a single town or city to the county, regional, state, multistate, or national level; most employ ten–fifteen people (Corcoran 2019) and operate at the local level. There are four general categories of CDFIs: community development banks, credit unions, loan funds, and venture capital funds.³ CDFIs use an array of federal, state, and local funds as well as foundation grants and bank grants and loans to provide microloans, small business loans, investments, guarantees, and mortgages, and they operate venture funds and provide counseling and advisory services, tailoring products and services to the needs of their service areas.

CDFIs have invested much needed capital across the United States. They provided over US$11 billion in lending to low-income communities and individuals in FY2018 alone (CDFI Fund 2019). Between 1996 and 2018, most CDFIs lent and invested US$74 billion nationwide, resulting in roughly 2.1 million homes created, over 1.5 million jobs created or retained, and 419,000 businesses and microenterprises developed or expanded (Opportunity Finance Network [OFN] n.d.).

Rural communities, however, are more likely not to be served by, or to receive minimal service from, a CDFI. Approximately 15–20 percent of CDFIs serve rural areas and over 70 are Native American led (Corcoran 2019; Congressional Research Service 2018); as a result, many rural communities receive little to no CDFI funding (Theodos and Hangen 2017). Between 2003 and 2017, CDFIs invested almost US$9.5 billion in rural communities and Indian country; US$3.5 billion, or 37 percent, of this loan volume went to persistently poor communities (CDFI Fund 2019; OFN 2019).

CDFIs’ ability to meet both their mission and their financial bottom line is directly linked to their connections with and accountability to the communities they serve. That accountability is a component of CDFIs’ certification and a key factor in their success and growth. To ensure accountability, CDFI boards and advisory committees include bankers, local public and foundation funders, lawyers, accountants, religious institutions, and low-income community representatives (FUND Consulting 2015). These affiliations help CDFIs understand local dynamics and needs and develop effective outreach strategies and services.

While their business and community partners bring development expertise and local knowledge, CDFIs themselves provide a unique capacity to deliver results in distressed communities. Multiple bottom-line returns and different perceptions of borrower risk allow CDFIs to be flexible and patient capital providers. CDFIs may invest where conventional lenders, seeking a market rate return and low risk, and closing branches when profits decline, would not. For example, Hope Credit Union, a CDFI, partnered with an area bank to assume the branch locations the bank was vacating (OFN 2018). CDFIs deliver most of their lending (anywhere from 65 percent to over 90 percent of loan volume) to low-income minority borrowers and in areas with high poverty or unemployment. Such partnerships have shown banks, foundations, investors, and other capital providers the returns possible through CDFIs’ social investment acumen; research indicates modest positive effects of CDFI business lending in areas where conventional bank lending has declined (Swack, Hangen, and Northrup 2014).

CDFIs also educate policy makers at the federal, state, and local levels. They describe and address needs such as the impact of disappearing financial institutions and the rise of predatory lenders in low-income communities. In order to increase their impact, CDFIs also work to create new financing pathways for funding their work and to encourage financing tools, such as state tax credits, to meet local need. The Urban Institute outlined policy financing tools CDFIs have sought to further their work including grant support, low-cost debt, establishing targeted loan/loss reserve pools, and enabling state tax credits modeled on federal credit programs (Theodos, Seidman, and Edmonds 2017).

Funding and Financing CDFIs

CDFIs are funded mainly from public and foundation sources including community foundations that have supported microenterprise loan funds (Green and Haines 2016). The CDFI Fund, created under the Riegle Community Development and Regulatory Improvement Act of 1994 and housed in the U.S. Treasury Department, supports existing CDFIs and encourages the establishment of more of them to catalyze community economic investments in low-income areas. The Fund does this mainly by providing Financial Assistance (FA) and Technical Assistance (TA) monetary awards to help invest in these organizations' projects and build their capacity. It certifies and makes these awards to organizations whose principal activities include providing financial services to low-income families and communities lacking access to affordable financial products, enabling them to increase their capacity to make investments in communities and families (CDFI Fund 2019).

To capitalize their products, CDFIs leverage federal funds, including Low-Income Housing and New Market Tax Credits, with other federal, state, and local public funds and with foundation and bank investments. Some estimate the leverage at a ratio of 12 to 1 (OFN 2018). For example, Fahe (formerly known as the Federation of Appalachian Housing Enterprises) leveraged US$990 million from its initial outlay of US$11 million in FA awards.⁴

CDFIs also receive funds from banks. The Community Reinvestment Act (CRA) requires banks to invest in communities where they take deposits and to meet the credit needs of all areas they serve—including low- to moderate-income communities.⁵ Bank regulators review these institutions’ activities to assess how well they are performing, and banks get CRA credit for supporting and investing in CDFIs. For example, national, regional, and local banks have created partnerships with CDFIs to make investments, accomplishing CRA objectives by sourcing deals and mitigating risk in important projects and developing and maintaining key relationships.

The CDFI Funding Challenge

Despite their success and impact, CDFIs face challenges meeting their mission and the needs of the communities they serve. Small on average, CDFIs struggle to grow and they depend on outside funding and program proceeds. Because they typically offer a limited array of depository, financing, and equity products and advisory services, CDFIs meet only a small portion of communities’ capital needs (Kenny, McGrath, and Phillips 2018; Swack, Hangen, and Northrup 2014). Whereas CDFIs lent US$6.8 billion annually between 2011 and 2015 (Theodos and Hangen 2017), CRA-reported small business and farm lending in 2012 was US$211.1 billion—about 288 times CDFIs’ business and commercial real estate lending; bank community development lending was US$54.8 billion—28 times CDFI-reported loans that year (Swack, Hangen, and Northrup 2014). The funding gap is exacerbated because small communities, CDFIs’ primary targets, typically receive less community development funding than larger communities. Federal housing support between 2011 and 2015 for those below 200 percent of the federal poverty level was US$31 per person in counties with populations below 100,000 and US$100 per person in counties with populations of 300,000 or more; impact finance investments were US$84 and US$333, respectively (Theodos and Hangen 2018). In order for CDFIs to start, or significantly expand, their activities in rural underserved communities, the industry needs greater support. Solutions include capacity building, partnership building, and investment capital supports from states, localities, and foundations as well as federal leadership and support (Theodos and Hangen 2017).

The Uplift America Fund—Part of the Solution to the CDFI Funding Challenge

In the early 2010s, a group of statewide, regional, and national CDFIs, along with the Mary Reynolds Babcock Foundation, started exploring ways to increase the flow of low-cost capital to underserved rural areas.⁶ This consortium of CDFIs, philanthropies, banks, and the U.S. Department of Agriculture (USDA) launched the Uplift America Fund (UAF) in 2016 with USDA’s commitment of US$405 million of its Community Facility (CF) funding authority. USDA’s CF Relending Program provides low-cost loans to develop community facilities in rural areas with populations up to 20,000.⁷ Banks provide loans and loan guarantees; Bank of America committed up to US$100 million in guarantees over the initial five years. Foundations provide investments and operating support to the mission-based financiers; key foundations backed the Fund with US$23 million in grant commitments, thereby strengthening USDA’s willingness to lend (OFN 2018).⁸ States may provide tax credits, low-cost loans, and grants. Localities and regional jurisdictions may help with permitting and other noncash contributions. CDFIs and other community organizations with a demonstrated development financing track record use their expertise to attract additional public, private, and foundation capital for eligible projects.

The UAF’s framers leveraged their existing policy, financing, and philanthropic partnerships to gather sector leaders; understanding their respective interests, tools, and assets, they secured policy, grant, and financing commitments relatively quickly to launch the Fund. By leveraging CF financing with bank guarantees and grant funding from foundations, the UAF founders created a real estate development financing pathway for delivering critically needed projects. As of December 2018, 20 UAF grantees operating in rural regions across the United States had implemented 80 projects totaling US$231 million in loan volume. Approved and potential projects include health-care facilities, community support services, and educational facilities (Uplift America 2019). The following are two examples of successful projects:

1. High School for Health Professions (Orangeburg, SC)

Located in what was considered “the corridor of shame” because of a lack of school funding, the nine-year-old Orangeburg Consolidated School District 5 (OCSD5) High School for Health Professions, which introduces its 370 students to health-care career opportunities, operated in a substandard building requiring intensive repairs and upgrades. The South Carolina Community Loan Fund (SCCLF), a statewide CDFI, loaned US$3.825 million to OCSD5 from its US$10 million CF financing to develop a state-of-the-art school. The Piedmont Companies provided a second mortgage of US$425,000. State, county, and local governments also supported the project. The school moved into its new 16,500-square-foot home in 2017 and employs twenty-nine full-time and two part-time educators. It maintains a high graduation rate of 98.5 percent compared with the statewide average of 80.3 percent (SCCLF 2018). SCCLF’s James Chatfield says UAF “is a powerful tool that gives [the borrower—school district] the ability to leverage capital in the future to make renovations or improvements.”⁹

2. Livingston Health-care Campus (LCHS; Livingston, CA)

LCHS, the primary health-care source for a largely rural and migrant area, sought to expand its services for Merced County—where most of the population lives in poverty. Operating in a severely crowded 15,000-square-foot structure, LCHS received funding from RCAC (formerly known as Rural Community Assistance Corporation), a UAF re-lender, to expand its services into a 35,500-square-foot campus. In addition to UAF long-term financing of US$6.6 million, California Statewide Communities Development Corporation (CSCDC) and JP Morgan Chase provided US$11.07 million in New Markets Tax Credits to finance the development of the new campus. The project was anticipated to create 50 construction and 59 permanent jobs, and LCHS expects to serve an additional 4,000 residents annually (CSCDC n.d.; OFN 2019).

These two projects would not have happened without the UAF. UAF reflects how CDFIs can work across sectors to educate and collaborate with policy makers, lenders, philanthropies, and others to fund projects like these. Approximately 1,200 individual projects at various stages of completion, ranging from inquiries to closing USDA loans, were in the pipeline as of December 2019. The complexity of such a framework, however, poses challenges for small CDFIs and others navigating multiple underwriting criteria and other requirements; these challenges will need to be addressed if the UAF is to have maximum effect. Nevertheless, the UAF, by aligning policy makers and public–private capital providers in a new way, is a potentially important part of the solution to capital gaps in persistently poor rural communities.

Recommendations

CDFIs represent a small financing sector with significant ability to attract and leverage capital. Although their scale is too small to completely replace the banks leaving underserved rural communities, CDFIs provide important investments to local businesses and service providers. To deliver on projects in underserved rural areas, these providers require greater access to capital with flexible rates and terms. The following recommendations can help policy makers, banks, and foundations enable CDFIs to ensure and promote reliable, flexible, and affordable financial capital flows to these communities and regions.

Federal Government

UAF

The UAF is a good tool that has started to show results and should continue to receive an ongoing allocation of USDA CF authority; it is also an existing opportunity through which the federal government can increase investments in underserved communities. For the Fund to continue and expand, improved communication and clarity on program requirements, such as construction and refinancing being ineligible uses under USDA’s CF, which has caused delays, is necessary. USDA and other potential federal agencies’ program directors must critically identify lending requirements that might deny or delay reviews or approvals. UAF’s framers must also continue to advise re-lenders and borrowers on best practices on managing their projects through the government review process.

CRA

Federal banking regulators must strengthen the CRA to reward those institutions that invest and maintain a physical presence in persistently poor rural communities and that invest in financing institutions like CDFIs. Under the current CRA, banks have a direct responsibility to serve all communities where they take deposits, including communities that are remote and persistently poor. Recently, the Office of the Comptroller of the Currency and Federal Deposit Insurance Corporation proposed a CRA reform rule. Unfortunately, this proposed reform would dilute or eliminate banks’ obligation to invest in and otherwise support these low-wealth communities. Policy makers must support smart reform that will benefit all underserved communities. They must increase, not eliminate, incentives that support CDFI lending and investing, which strengthen their capacity to grow, evolve, and respond to the local and regional need for capital. Policies need to ensure that banks serving rural markets explore best practices in partnering with CDFIs, including co-lending, to maintain physical branches in rural areas.

CDFIs

The CDFI Fund should design and capitalize flexible project financing targeted specifically for investing in persistently poor rural communities. The Fund should also increase capacity-building support for CDFIs, ensuring their ability to expand and offer products and advisory services to serve as many rural clients as possible, particularly in persistently poor areas.

State and Local Government

State and local governments should create financing and funding sources with the flexibility to enable CDFIs to meet borrowers’ specific needs. These jurisdictions should create or expand long-term debt, equity, and grant resources; expand tax credits and credit enhancements offering CDFIs an array of financing tools (Theodos, Seidman, and Edmonds 2017). These levels of government should also create working groups to identify opportunities or challenges to promote and support community economic projects. This will be helpful for political leaders seeking to recruit allies for these efforts and identify multiple sources of affordable capital.

Banks

Banks should continue to support and invest in the UAF and CDFIs in general. Conventional lenders should also offer long-term loans to CDFIs to provide greater flexibility for these borrowers to invest and utilize their balance sheets.

Foundations

Foundations have a crucial role to play in advancing strategies to extend investments in persistently poor communities and regions. Large and regional foundations, as well as national banks, have committed grants to support the UAF. These leaders should engage other philanthropies and banks to contribute, showing why investing in rural communities matters. Community, regional, and national foundations help plan, collaborate with, invest in, and support efforts that result in improved outcomes for target populations and communities (Partners for Rural Transformation 2019). In this case, foundations should engage with their peer institutions and banks to contribute, showing the importance of investing in rural communities, including support for capacity-building and supporting innovation (Swack, Hangen, and Northrup 2014).

According to Justin Maxson of the Mary Reynolds Babcock Foundation, “Investing in persistently poor rural communities is just different. And even though we often know what to do, it’s hard, slow, usually requires patience, and is sometimes expensive.”¹⁰ Because CDFIs provide essential support to local efforts to create and restore businesses and community facilities, state and local government, banks, and foundations must invest in CDFIs to ensure their performance and impact. And policy makers, banks, foundations, private stakeholders, and CDFIs working in rural communities must continue to make the case for taking a long-term, place-based partnership approach to community revitalization and for the importance of CDFIs in achieving that goal. The visionary leadership from each of these sectors to collaborate with, plan, encourage, and invest in CDFI-related efforts like the UAF is critical to achieving results—especially in remote, rural, persistently poor communities. Without such vision and support, successful projects like the High School for Health Professions and LCHS would likely not have occurred.

Footnotes

Declaration of Conflicting Interests

The author declared no potential conflicts of interest with respect to the research, authorship, and/or publication of this article.

Funding

The author received no financial support for the research, authorship, and/or publication of this article.

ORCID iD

Jeffrey Mosley

Notes

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