Bail Bonds Part 1 – The Business

Like all of my favorite finance topics, this one was inspired by my daughter’s question, as we slowly drove in the car past the county correctional facility: “Daddy, what are bail bonds?”

Prior to her question, my knowledge of the industry came from watching Robert DeNiro in Midnight Run. Fun movie.

I tried to answer as best I could. “Well, first you need to be arrested for a crime. Then, you really don’t want to spend much time in jail waiting for your trial, so the judge says you have to pledge money to guarantee you’ll return for trial later. But then, you don’t have enough money to pledge. Worse still, you don’t know anybody who has enough money to pledge. So you walk into a bail bonds company trailer…”

Then I kind of got lost, thinking as a banker might, trying to underwrite this financial risk. I’m imagining how awfully risky this must be on the business side. Criminal defendants. With no money. Also, no collateral. That is a rough way to lend money, compared to a bank.

Oh, how I was wrong. Having sat down with bail bondsman David Fernandez of Jailbusters Bail Bonds, as well as Susan Monsalvo of Express Bail bonds, both of Bexar County, I’ve come to a few opposite conclusions.

First, I could see how bail bonds might be very profitable; even more so than a traditional bank.

Second, the underwriting of bail-bond financial risk harkens back to some old-school lending criteria that traditional banks won’t or can’t do anymore.

bail_bondsLet’s talk about the potential profitability first. A typical bail bond company charges a 10 percent fee to customers, meaning if a judge sets $5,000 bail, the defendant pays a $500 fee to the bail bond company, who pledges the $5,000 on his behalf. (I’m using the male pronoun for defendants because, duh, men commit most crimes.)

When the defendant shows up in person for trial, the bail bond company’s $5,000 risk is released and the bail bond business keeps the $500 fee. Now, the first thing to notice about this deal is that any finance company that can earn 10 percent on its capital for just a few weeks or even a few months of financial risk has the potential to earn an extremely high annual rate of return on its capital. This sounds potentially very profitable.

But wait, that’s not even the best part. Bail bond companies do not have to hand over the $5,000 in pledged money to the county court. In the vast majority of cases, no money ever changes hands. The bail bond company just takes the $500 fee upfront and pledges money for the future, in case the defendant skips bail. In the meantime, it keeps the money. A huge advantage.

This, you should notice, is a way better deal than what a typical bank gets. Banks have to actually give their money over to borrowers, and if all goes well they only get their money back slowly, with interest, over time. The fact that bail bond companies only virtually pledge money, but in fact don’t give any money, is pretty awesome for bail bonds businesses.

There’s even more coolness. Bail bond companies, in order to get and keep a license to do business, have to prove that they have assets, either in cash in the form of a bank CD, or in property. Their license typically allows them to underwrite bail bonds up to ten times the value of their proven cash assets. This creates what a finance nerd like me would call leverage.

One of the magic tricks that traditional banks get to do is called “fractional reserve banking,” in which a bank lends out many more times in money than it ever actually has in capital, sometimes close to 10 times its capital. Bail bonds companies get to do pretty much the same thing, because if a bail bond company has a $100,000 cash CD, its license allows the company to underwrite up to $1 million in bonds.

Finally, there’s the underwriting process, which I mistakenly assumed would be extremely difficult. Actually, according to both Fernandez and Monsalvo, they use a combination of personal judgment and reliance on the accused’s mom to take appropriate risks. That’s right, more often than not, mom (or another female significant other) is the co-signer on the bond.

Regular banks don’t do this kind of touchy-feely thing anymore. With traditional banks, it’s all algorithms, credit scores and heartless, technology-based lending.

With bail bonds, the owner often has to take a leap of faith, engaging in a sort of character-based lending. Often that’s Mom’s character. Or Grandma’s. See? This is just like George Bailey in “It’s a Wonderful Life,” or like “Leave It To Beaver” type lending.

An additional support for this type of old-school personal-judgment based lending is the preponderance of repeat customers in the bail bonds business. Fernandez of Jailbuster’s usually ends his discussion with customers with the admonishment: “I don’t want to see you again,” but of course he does see them again. A combination of repeat customers and personal referrals make up the majority of his business, according to Fernandez.

Monsalvo of Express Bail Bonds describes working with her father’s criminal defense attorney business and later her mother’s Express Bail Bonds business, where “as a result I know multiple generations of [her father’s] customers. In some cases the grandfather, father, and son. Or I might see a customer who I knew in diapers and think, like, I remember you as a baby.”

If that doesn’t warm your heart, I don’t know what will. Shouldn’t we all start a bail bonds business together?

Now that I’ve helped you, like me, fall in love with the business of bail bonds, I need to warn you about the bad news for the business. 2017 so far has proved to be a terrible horrible no good very bad year for bail bonds in cities like Houston, and in states like New Jersey, where they’ve practically been banned. More on that in a follow-up, on the threats to the business.

 

See related posts:

 

Bail Bonds Part II – The Threats to the industry

Pawn Shop Audio Interview Part I – The Unbanked

Pawn Shop Audio Interview Part II – Fighting the Good Fight

 

 

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Non-Bank Lenders For Small Business

Note: This post has a Texas bias and a version of it ran in the San Antonio Express News. However, there is no open-carry here on this blog, so you can bring your children.

 

I suggested in a recent post that it’s nearly impossible to fund a new business and there’s really no good way to go about it. The best thing you can hope for is just to be born rich.[1]

However, in the interest of keeping the American Dream alive (at least until Trump wins in November) I’ll mention a few non-traditional avenues to investigate if you’re starting a new company and looking for funding.

Each of the following non-bank options are lenders, meaning you’re getting a loan rather than a direct investment in your business.

Prosper.com

prosper dotcomProsper is not a small business lender per se, but rather an online source of 3-year fixed interest rate personal loans of up to $35,000. You can apply with them online for a variety of needs, including for your small business. You create a profile, describe the size of the loan you need and your planned use of the funds, and what interest rate you’d be willing to pay. The ‘lender’ will be numerous individual investors[2] grouped together by Prosper. They agree to fund you at your proposed interest rate, for as little as $25 per lender, or up to the full amount of your request. Prosper handles all the online mechanics of funding and payback of the loan. Since there’s no traditional bank involved, but rather thousands of individuals making decisions, I see Prosper as a reasonable, small-size, alternative for startups to consider.

In my state, Texas, you cannot be a lender on Prosper, but you can be a borrower. In the mid-2000s – back when Prosper first came out and I lived in New York – I funded a bunch of small loans, including small business loans. As an investor, Prosper worked fine for me.

Back in 2007 I also once tried to borrow $10,000 and was ‘funded’ by the collective interwebs at a reasonable 7.7% rate, but could not ultimately get through their due diligence process, which included a credit check (that part was fine) and review of my taxes (for some reason that befuddled them.)

Prosper reports $5 billion worth of loans funded since their inception, so I assume my own problems were idiosyncratic. So check it out.

LiftFund

lift fundNon-profit microlender Liftfund lends money to small businesses in 13 states, although they are headquartered in San Antonio.

[Important disclosure: I do periodic consulting gigs for LiftFund, so anything nice I might say about them should be filtered appropriately.]

They may, in fact, be your startup business’s only hope of getting a loan.

Whereas your traditional bank will not talk with you about a loan until two years have passed – and frankly your bank isn’t in the business of coaching small businesses – LiftFund not only will talk to you but considers supporting startups with educational resources a key part of their role.

When I say banks will neither coach you nor even talk to you about a loan for your startup, I’m not judging banks. Some of this, including the coaching part in particular, is not a money-maker.

I guess LiftFund can do this because of their not-for-profit mission. Like other non-profit business lenders they can do things which don’t maximize their bottom line. Loans range from as small as $500 to as large as $250,000. A bunch of friends of mine in business for less for than two years have gotten loans from LiftFund and their predecessor Accion, so I know this is a legit source.

Able Lending

able lendingFile this one under “This is a really cool theory but it’s too new for me to have experience with it yet.”

Able Lending relies on a classic microcredit lending theory – that we won’t fail to pay back friends and family – to lend to startups less than two years old.

I recently met up with Mario Cardona – the one-man San Antonio branch office for 2-year-old Austin-based startup Able Lending.

Cardona explained that business owners seeking a loan from Able must first tap their own personal networks (Uncle Bob, your college roommate Janet, and your hair stylist Sam) and get a commitment from at least three different ‘backers’ for your loan. Step two, Able funds up to three times that committed amount, at a rate between 8 and 16%, for between $25,000 and $500,000. So after Bob, Janet and Sam together agree to lend you $25,000, Able funds $75,000. If you do a 3-year business loan, Able gets its portion of the loan paid back faster than your backers do, which is kind of a neat mechanism for ensuring that your backers are taking some risk on you. I think Able Lending depends on the feeling that you really, really, don’t want to let your personal backers down, so they feel more secure with your business loan.

Does it work? I don’t know yet, but would somebody please let me know if they have experience with Able Lending? I like the idea.

NextSeed

nextseedLike Able Lending, Next Seed is a total startup, so it’ll take some time to see how it goes. Also, like Able Lending and LiftFund, it’s based in Texas. Unlike those two, it is only registered right now to do business in Texas. Finally, like Prosper, it’s a crowd-sourced platform for borrowing money.

NextSeed is taking advantage of newly liberalized national and state laws to allow companies to raise debt and equity from non-accredited (meaning, non-wealthy) investors. Small businesses can sign up with NextSeed to raise between $25K and $1 million at a set interest rate. Investors/lenders – that could be you and me – lend in increments as small as $100 via this platform. NextSeed handles the funding and regular monthly payments.

I spoke with the founders, who believe they offer a more personal, fun mechanism for investing on the one hand, and an alternative source of capital for entrepreneurs on the other. They are currently doing deal number four, so it’s early days yet. I’m thinking about signing up and sending in a small amount of money to be a lender, partly to figure out the mechanisms and partly because Texans right now are shut out of participating in Prosper.

Crowd-funding thoughts

I’ve been reading and learning lately about the liberalization of crowd-funding rules to allow for non-wealthy people to participate. I remain concerned that

  1. a) This is a not very-efficient way for business owners to access capital and
  2. b) Some non-wealthy people, at some point, will lose their shirts. There will be tears.

Right now I’m of the mind that liberalizing laws to make more types of investments available for non-accredited investors is probably a net gain for society and the economy – principally that entrepreneurs get more opportunities to access capital. But given the nature of things like this, some people will bear the brunt of the “costs” of this liberalizing – via catastrophic, unexpected, losses. We’ll have generalized, socialized gains and concentrated, private losses. Sort of the exact opposite of the 2008 crisis and bailouts of TBTF banks.

 

Please see related posts:

Funding for Small Business – All The Terrible Ways

Entrepreneurship – Getting started is the hardest part

 

 

[1] If I wrote the bible for small business owners I’d say that it’s easier for a camel to fit through the eye of a needle than it is to convince an affluent person or institution to back your startup company. I feel your pain. To take a more 21st Century analogy, raising money can be heavier lifting than you’ll find at 5:30am Crossfit gym. Traditional banks just don’t want to talk to small businesses until they’ve been in business for two years, with the tax returns and profit to show for it.

[2] Although I kind of assume that by now individual investors have been replaced, somewhat, by Prosper bots. Meaning, institutions or high-net individuals have profit-optimized the algorithm for funding X amount at Y credit rating and Z interest rate on Prosper, so things are pretty automated. An amateur individual lender like me – without an algorithm – is going to end up accepting a non-optimized interest rate for any given risk. Which is still probably fine.

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Funding Your Small Business – All The Terrible Ways

startup_capitalIn a recent post  I mentioned that business owners may – among other benefits of entrepreneurship – achieve some tax savings. This week, inspired by my words, you’ve decided to hang a shingle.

However, you need money. But where can you get money for a small business?

Let me tell you all the great ways.

Inherit the money

I can’t recommend this highly enough. Your first $5.45 million of inherited money comes to you tax-free! Up from $5.43 million way back in 2015! And you don’t even have to work for it! Let’s make this happen, people!

Sadly, you need to be born into the right family, which is tricky to make happen on purpose. Also sadly, a beloved family member has to die at the right time. This is impractical for most of us. Let’s review the other great ways.

A bank loan

Naturally, you could simply walk into your bank and tell them about your great skills, customers, and market plan. Your friendly banker pulls your credit report and quickly understands your business plan. You’ll walk out with the money you need to grow and expand your small business. It’s so cool. This is the best way to get money for your small business.

Ha-ha. Just kidding. This is the worst way, because banks don’t actually lend money to new small businesses.

When you try this (Actually I don’t recommend trying this, but feel free to knock yourself out) your friendly banker will ask for two years of financial records and business tax returns. Then you try to tell him about your great skills, customers, and market. He will stubbornly return to your lack of two years’ financial records. Eventually you realize this is a dead end.

A friend or family loan

small_business_financeLet’s pretend your friend or family member (hereafter known as “framily”) has money, understands you, and wants to help. Your framily1 doesn’t need to pull credit or make you wait for two years worth of business financials. Your framily lends you just the right amount of money, and she only asks for an affordable interest rate in return. Maybe best of all, when your small business succeeds wildly, by taking a loan you keep all the business ownership to yourself, so you can get rich without having to share that wealth with your framily. This is the very best sort of money for your small business.

No, wait, it’s totally not.

First of all, your small business faces very uncertain prospects in its first few years, at best a ‘feast or famine’ type of profitability. A fixed rate loan, with the obligation to make regular payments – every single month – invites disaster. Many months, especially in the beginning, you might find it impossible to pay your loan.

Which of course leads to the second issue of borrowing from your framily. Defaulting, or even asking to restructure a loan from framily will put grave stress on your closest relationships. In sum, never get a business loan from a friend or family member.

Equity investment

startup_financeWell now, wait a minute, clearly the best way to raise money for your new small business is to approach your framily, and instead of getting a loan, you get a direct equity investment. You sell part ownership in your business. Your framily believes in you and is flexible and, unlike in the case of a loan – which requires fixed monthly and possibly unaffordable payments – you only need to share profits (eventually!) with your new co-owner(s). Clearly this is the very best way to raise money for your small business.

No, sorry, this is a terrible idea. Been there, done that.

In the best case, you’ve given up too much of your future profits to someone else.

In the more probable worst case (Remember, most small businesses fail in the first few years!) you have now lost the money of your closest relationships, in addition to losing your hopes, dreams, and income source.

In my own case, I lost the money of my best friend, mother, and eight-grade English teacher, among others. This isn’t fun. Be sure to budget in money for therapy, which isn’t cheap, either.

How about instead of friends and family, you raise equity from professional angel investors or venture capitalists? This may remove the therapy part of the equation if you fail, because we may feel less remorse after losing the money of professional investors. On the other hand, the professional investors will likely negotiate a better deal for themselves than would your framily. They are the shark at the poker table and you are the fish. So if you do well with your small business you’ve probably given up too much of your future profits.

Crowd-sourcing

crowdsourcing
I don’t believe in this except for non-profits and marketing purposes

I have not yet mentioned new-fangled techniques for raising money, such as crowd-sourcing.

Call me old school, but I have yet to hear of a legitimate for-profit business that effectively crowd-sourced money. I believe in crowd-sourcing as a great marketing tactic, and possibly great for non-profit or charitable projects as a result, but I don’t think it works for most small businesses.

My point

What’s my point in raising and then rejecting all of the available small-business financing options?

Simply this. It’s really, really hard to raise money for a small business. If you know a successful small business owner, give her a hug. She deserves it.

In an upcoming post – just so I don’t leave you bereft of hope – I’ll mention a few small business financing alternatives that you could try.

 

Please see related posts:

Entrepreneurship – Getting Started is the Hardest Part

Entrepreneurs: Pack Half The Luggage, Bring Twice The Money

Entrepreneurship And Its Discontents

Entrepreneurship Part I – Equity v Fixed Income

Entrepreneurship Part II – Lessons From Finance

Entrepreneurship Part III – The Air, The Taxes, The Retirement

Death (Estate) Taxes and Fairness

 

 

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  1. After I wrote this I Googled ‘framily’ and found it’s a phrase used by Verizon to pitch their phone plans. Ugh. Really didn’t mean to be promoting them.

Tax Avoidance – All The Feelings

tax_avoidanceOne thing worse than paying our taxes is the idea that other people avoid paying their fair share of taxes.

On the subject of tax avoidance by other people, I can think of at least three principal feelings. As the kids say, I feel all the feelings.

Outright tax fraud

People everywhere on the political spectrum can get angry about outright tax fraud, whether it’s hiding income in offshore accounts to avoid income taxes or shielding inheritances from estate taxes.

A new book by Gabriel Zucman The Hidden Wealth of Nations estimates the size of offshore wealth at $7.6 trillion worldwide, or 8 percent of global wealth. In the US, Zucman estimates $35 billion in lost tax revenue per year due to hidden assets.  Meanwhile, governments worldwide lose up to $200 billion in annual revenue from hidden tax havens, with a significant burden of this $200 Billion in fraud falling on developing countries’ governments.

Wealthy folks hold financial assets principally in Switzerland, Luxembourg, and known tax havens such as Cyprus or a myriad of islands in the Caribbean.

One exception to my outrage, I suppose, is petty tax fraud such as when my barista fails to report to the IRS each and every dollar she removes from the tip jar at the end of the day. In that sense the minor scale of her tax fraud diminishes my outrage, as well as the fact that the barista isn’t herself wealthy. Also she supplies my drug of choice. Still, fraud is fraud, and it’s never cool.

Clever tax avoidance

My feelings slide from “outrage” over to the milder “envy” when I read about some billionaires’ strategies to legally avoid taxes, such as the strategies explained recently in the New York Times. In an article titled: “For The Wealthiest, A Private Tax System That Saves Them Billions” the authors describe leading hedge fund founders whose investments in Bermuda-based insurance companies reduce their tax bills.

tax_avoidance

Their ability to guide tax legislation through Congress and to finance presidential campaigns does stick in my craw quite a bit, and should offend those of us who still hold out hope for our democracy. On the other hand, most of the specific clever tax avoidance that the article describes can be described as the benefits of simply owning a business – albeit in their cases, big ones.

Now, of course, you could decide to hate the fat cat hedge fund guys who simultaneously write the rules on creating income tax loopholes and then nimbly leap through those holes to the tune of billions in annual savings. I think generating that outrage is the main point of the New York Times article, and I don’t blame you too much for feeling that way.

Alternatively, you could decide not to hate the player and just to hate the game. By that I mean, understand that a major part of the ‘scandal’ exposed by the article is simply the trick of turning ordinary (high tax-rate) income into long-term (lower-tax rate) capital gains. The other trick – and this is really simple – is to invest in a business that appreciates tremendously in value over a long period of time but that only gets taxed when you sell it. And then don’t ever sell it. Like, to take an example I recently wrote about, buying a stock and holding it for thirty years, or for forever.

Look, I don’t intimately know all their tax tricks, but hedge funders investing in offshore insurance companies mostly just extend this year’s short-term income (a nearly 40 percent tax rate this year) into long-term capital gains (a 20 percent tax rate, eventually). It’s legal. It’s clever. I’m envious, but I’m not particularly angry.

This is basically how Warren Buffett famously pays a lower tax rate than his secretary. When you read about Buffett or Facebook’s Mark Zuckerberg merely claiming the proverbial $1 per year in salary, you really shouldn’t be impressed with their admirable lack of avarice. Rather, you should note their tax savvy. They make their money through (tax-advantaged) business ownership rather than through (tax-disadvantaged) wages.

It’s an open debate – actually it’s not, but maybe should be? – whether labor ought to be taxed at a higher rate than capital, as it is today. But those are the rules. And remember the Golden Rule you learned in Kindergarten, “He who has the gold, rules.” So save your hate for the player and just hate the game.

Imitation: Own a Business

By the way, if you personally want to start to save money on taxes like a baller, you need to own your own business.

I’m not your accountant, and you really shouldn’t take tax advice from some blogger you found online. But you should set up your own business – like today – if you want to reduce your personal tax bill.

Will you use a cellphone and monthly internet service for your business? What about a computer for record-keeping? Or perhaps a car with your business logo on it? If you are in the 25 percent income tax bracket, and those are legitimate business expenses, all of these will cost you 25 percent less, in after-tax terms.

If the business you own happens to pay you annual profits in dividends, you might enjoy favorable income tax treatment, when compared to taxes on ordinary wages.

workers_of_the_world

If you can control the timing of when you actually get paid by the business you own, you may realize considerable income tax savings through timing your income from one year to the next. If your business makes an expensive investment this year that happens to reduce your annual profit, you may end up paying little to no taxes this year, even as your business grows.

So, my journey from outrage, to envy, to imitation can be summed up as:

Workers of the World, Unite! Start up your business today! You have nothing to lose but your chains (And your top tax rates!)

Unfortunately, as Marx and others discovered with the Communist Revolution, this is easier said then done.

Frankly it’s pretty difficult to find money for starting up your small business.

 

A version of this post ran in the San Antonio Express News.

 

Please see related posts:

Startup Finance – All The Terrible Ways

Getting Started – Entrepreneurship

Entrepreneurs: Pack Half the Stuff and Twice the Money

Entrepreneurship Part III – The Air, Taxes, Retirement

Entrepreneurs – Are you a touch funny in the head?

 

 

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Video – Intro To Business Budgeting

lift_fundHere’s an introductory video we did for LiftFund, a not-for-profit business microlender, based in San Antonio, TX. 1 LiftFund targets lending to small business owners who have otherwise not been able to get capital – or have already been turned down – from traditional banks. They offer not just loans but business training, financial education, and coaching. It’s a very cool mission that I feel good about being part of.

We did these videos for a site to be rolled out soon, called “LiftFund.” Everything’s free and meant to just get you as a first-time small business owner started with the basics of tracking your financials.

This video (and related ones to follow) walk you through the initial process of starting a small business budget.

I’ve occasionally posted other videos I’ve done for LiftFund, many of which walk you (as a small business owner) through the basics of building business financials on a spreadsheet. If you’re interested in sample spreadsheets, lots of these videos, and sample spreadsheets, are here.

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  1. Clarification – LiftFund is a not-for-profit organization, the businesses they lend to are for-profit

Video – Instructions on Bank Reconciliation

Sometimes I help produce educational materials for LiftFund, a large business micro-lender based in my hometown.

This video is for small business owners who want to know what ‘Bank Reconciliation’ involves, and why and how you probably need to do it yourself as the business owner. Hint: Bank Reconciliation has nothing to do with confessing your sins to a Catholic priest through the sacrament of reconciliation.

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