Driven by lackluster economic conditions, banks in New England are looking for innovative ways to structure small-business loans. Some have started using home equity loans to lure entrepreneurs and decrease their costs.

"We encourage our branch staff to do that because the pricing is cheaper, and it is better for the customer," said Jim Rudgers, senior vice president for Citizens Bank, Providence, R.I.

While no hard data exist on how many New England small-business loans are structured as home equity loans, balance sheet data from June bear out just how few small commercial loans are structured in the traditional manner.

According to data from June 30, 1996, call reports, the $7.6 billion outstanding in 148,000 bank small-business loans in New England equaled just 4.2% of those nationwide. But these data would not include small- business credits structured as home equity loans.

By comparison, the Southwest has eight times as many small-business loans, with almost three times more in dollar volume, as New England. But that's not because bankers aren't interested in making small-business loans in the six-state New England region.

"We compete strongly with other banks to continue to grow our small- business portfolio," said Robert Griffith, executive vice president of Eastern Bank Corp., Lynn, Mass.

The relative scarcity of small-business loans in New England is greatest for those less than $100,000-another indication that small-business borrowers are using home equity loans because these are usually much less than $100,000. Rhode Island, New Hampshire, Connecticut, and Vermont rank as the four states with the smallest amounts outstanding in small-business loans of less than $100,000.

The primary difference between the two types of loan is that small- business credits are most frequently secured by the business' assets, whereas home equity loans are secured by the business owner's personal assets.

The region's largest bank lender to small business, Fleet Financial Group Inc., does not use home equity loans to finance small business. Instead, the bank relies on credit scoring to reduce its costs and make unsecured small-business loans of less than $100,000, said Filomena Soyster, a Fleet executive vice president who directs small-business banking.

But many smaller institutions do not use credit scoring for small- business loans, which could lead them to push home equity loans.

"For a (small-business) loan with collateral, there are days, if not weeks, tied up with a tax attorney and a record keeper," Ms. Soyster said. "We are able to skip those steps, which makes it cheaper and easier for the customer."

Although the use of home equity loans may free up capital for entrepreneurs, skeptics say the procedure could be riskier than conventional commercial lending because small businesses have a relatively high failure rate.

"It could be a tough-guy type of lending," said Charles Wendel, president of Financial Institutions Consulting in New York.

In the worst-case scenario, New England entrepreneurs could lose their homes, and their banks could be left with mounds of real estate to liquidate, Mr. Wendel said.

"It's a step that a lot of businesses have to take that makes them nervous," said Julie Weeks, director of research for the National Foundation of Women Business Owners. "There's a 'what am I doing?' type of feeling."

James Conlon, senior vice president and senior lending officer for Bangor Savings Bank in Maine, said his bank doesn't structure small- business loans as home equity loans because entrepreneurs and homeowners would use credit differently to build a garage.

"We may choose to let a small-business owner secure a loan with their residence," Mr. Conlon said, "but we wouldn't underwrite it as a home equity loan."

Indeed, some large lenders have shied from the practice. Boston-based BayBanks offered home equity loans designed for entrepreneurs, but the product was eliminated after the bank was acquired by Bank of Boston Corp. last year, a spokeswoman said.

But Mr. Rudgers, the Rhode Island banker, said the risks are limited because banks are more likely to let entrepreneurs with steady income from a working spouse or a second job use home equity loans for their businesses.

"We write them with the same underwriting standards we would use for any other home equity loans," he said.

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