Embedded lending explained: what, how, and why now

Embedded finance has grown enormously in recent years, with few signs of slowing down. This already-hot market is expected to grow at a compounding rate of 33% per year until 2030, at least. 

As open banking evolves and global financial systems weave together, consumers have more and better access to financial services. Business banking is improving too, and the possibilities to connect tools and combine services expands every day. 

As companies expect more from their core financial stack, there’s an obvious next domino to fall: financing. Getting short-term credit is still tedious and slow, and too many small businesses fail to secure the capital they need at all. 

The problem is real, the demand is obvious, and we have the technology to fix this.

In this article, we’ll explore what embedded lending is, explore its key benefits, and why this innovative approach to financing is about to boom. 

Whether you're a fintech platform, a business looking to add financial services, or even a bank there's lots to be excited about as embedded lending reshapes the financial landscape.

• ‍Want to offer a best-in-class credit journey to customers? Learn more about Defacto Core.

What is embedded lending?

Embedded lending lets businesses with no existing lending services or infrastructure offer loans and financing to customers. This applies to non-financial platforms and products without a banking license. These companies can easily incorporate lending into their product line as a way to increase revenue and retain customers for longer. 

This is already quite common in e-commerce. For example, Shopify Pro offers sellers credit to purchase new inventory, using their sales history on the platform to determine eligibility.

It can also include banks and other financial institutions using embedded services to expand into new markets or customer classes. For example, a mortgage broker could use embedded lending to offer small business loans without designing these new services entirely from scratch. 

This is made possible by “embedding” new services into an existing platform. Rather than building it from scratch, you insert a ready-built third party lending service into your own products. 

How embedded lending works 

Any platform — including fintechs, non-financial services, and even banks — can embed lending services using APIs. You find the right lending-as-a-service (LaaS) provider, and then incorporate this service into your existing platform or products.

You typically have two options: 

• White labeled lending: The LaaS provider handles all of the backend development, data management, and maintenance, but you have your own branding, look, and feel. If you want the embedded credit service to feel your own — truly a part of your existing product — white labeling is your best bet. 
• No code referral: The simpler option technically is to include a direct link to a third party lender within your platform. This could be a widget or pop-up window, or simply a link to their site. This is arguably not true embedded lending, but is an easy solution to help customers access financing via your platform. 

Building a lending business is difficult. There are regulations to conform with, and a lot of documentation and risk analysis goes into each loan. The beauty of this concept is you don’t need to worry about it. The LaaS provider has both the tools and expertise to ensure that loans are safe, compliant, and profitable. 

The main consideration for current platforms is how to smoothly integrate a new service. That’s a challenge, but one that any enthusiastic product manager will enjoy. 

The embedded loan process

So how do users access funding? And what happens next? The steps will be slightly different in each case, but the general flow looks like this. 

1. Customer requests a loan 

The potential borrower requests funds and either uploads the required documents or connects their financial management tools. Of course, most or all of the information needed may already be available in your platform itself, depending on what you offer. If so, this could be the fastest loan application they’ve ever submitted. 

2. The system assesses creditworthiness

Using the documents provided, third party or government data, and their history as your customer, algorithms instantly determine whether they’re a risky or worthwhile borrower. 

3. Loan origination

Based on the previous step, the embedded lending tools will also design and propose loan products for them to choose from. This decision is also immediate, and for the user these two steps feel like one. 

4. Acceptance and funding

The customer accepts the loan offer and in most cases the funds can be transferred right away. If your platform provides payment services, they can use the credit provided immediately. 

5. Repayment

The customer repays the loan according to the agreed conditions, plus any interest or fees.

In short, it’s just like any other loan process. But with none of the friction, back and forth, or wasted time that customers have come to expect. 

Why now is the moment to modernize lending

We’re at an inflection point for financial services. There are a handful of factors occurring at the same time which should prompt all kinds of platforms and service providers to move quickly.

Embedded finance is flying

Angela Strange famously said in 2019 that every company will become a fintech company: “Every company, even those that have nothing to do with financial services, will have the opportunity to benefit from fintech for the first time.”  

Fast forward a few years, and we can see this taking shape. Apple has a credit card, travel booking websites offer trip insurance, and buy now, pay later is available on virtually every e-commerce site. 

Lending is the next big shoe to drop. If platforms can offer working capital relief in real time, customers can keep making payments, managing their accounts, and growing their businesses. 

Bundling is back

We’re seeing it with streaming services — as prices go up and the number of logins needed grows, users are reminiscing about the cable TV experience. Business software is in a similar place. There are so many targeted, niche platforms solving one or two distinct problems (usually very well). Subscription sprawl is becoming a real issue. And the ability to integrate is crucial, by necessity. 

Every business leader would choose a small stack over a tangled web. Adding lending to your service means customers don’t have to go elsewhere when they need capital. Just another reason for them to stick with you for longer. 

Banks want to offer a better customer experience

Consumer banking has come a very long way. Mobile and online banking are the norm, international transfers are easy, and opening new accounts takes minutes. All of which were hard to imagine in the recent past. 

But small business lending isn’t quite there yet. It can take weeks or months to receive a loan, and most SMEs don’t have that kind of time. Which means there are opportunities to offer a better, faster customer experience to help banks catch up. 

And this isn’t just the domain of neobanks like Revolut and N26. Embedded lending lets the right service provider step into this void, almost no matter their industry. 

SMEs are being left behind

According to a Goldman Sachs survey, only 40% of US small businesses that applied for a loan received the capital they requested. In Europe, banks’ willingness to lend to SMEs is declining, while an increasing number of French small businesses are failing, largely for funding reasons.

In his Fintech Takes newsletter, Alex Johnson offers two reasons why small business lending is difficult:

1. Small businesses are inherently risky, and lenders are allergic to risk; and
2. “Small business lending is difficult because it is rife with information asymmetry.”

The time it takes to risk assess potential customers and sort through all their documents is overwhelming. If the potential reward is too low, banks won’t commit the resources. 

Embedded lending — and automated underwriting in particular — completely removes this effort/reward equation. The effort to assess customers and originate loans is now close to zero. But most banks still don’t see it that way.

The platforms that step in to serve small businesses efficiently both perform a clear public good — we need SMEs to succeed — but also tap into a vast and growing market segment. 

Key benefits of embedded lending

More modern, streamlined services are always a good thing. But embedded lending isn’t innovation for innovation’s sake. There are clear, tangible benefits for all parties involved. 

For tech platforms

The most common use for embedded lending is a non-financial institution adding lending services to their existing offering. This has several clear benefits:

• Expanded product range. You can go from offering no lending today to having financing built into your products or platform in short order. Building a lending service can easily take quarters or years, and then there’s the ongoing maintenance, getting a license, and ensuring that loans are issued responsibly. It makes more sense - and lets you get moving faster — to embed an existing lending-as-a-service product than build your own from scratch. 
• Acquisition and expansion. Lending has traditionally been (and continues to be) a slow process. SMEs regularly wait weeks or even months to secure funding, even for relatively small projects. Many others are left behind altogether. AI and automation now make underwriting, loan origination, and even onboarding virtually instant. New customers can assess their own eligibility and select products themselves, while providers can ensure that each loan is safe and profitable with no human intervention. 
• Customer retention. As a basic rule, if a customer needs a particular service, you’d rather they get it from you than go elsewhere. That’s true whether you’re a bank, a fintech platform, or another service altogether. If they’re already coming to you for payments, accounting, or marketing services, why not help them fund their own growth with short-term financing?
• Customer longevity. This is of course linked to retention, but at an even more primitive level. If your customers fail, you lose your customers. SMEs in particular struggle to access capital and fold as a result. In the EU, financing issues account for 25% of SME failures. 82% of US small businesses fail for cash flow reasons, with financing challenges chief among them. These failures aren’t just the result of market forces. Yes, some companies fail because there’s not enough demand or their business model doesn’t make sense. But too many simply don’t get the support they need. 

For banks

It’s not only fintech and SaaS platforms that benefit from embedded lending. Banks can also jumpstart their own innovation by bringing in systems built elsewhere. The potential upside for banks includes: 

• Easy SME lending. 99% of companies in the EU are small businesses. In the US, it’s 99.9%. The opportunity for banks that serve this market efficiently is enormous. But efficiency has always been the big challenge — the time and labor to screen and onboard small customers eats into profits. Embedded lending lets banks automate these interactions and serve SMEs at scale. 
• Tailored financing. Every business has its quirks and specificities. And customers want (and need) products that fit their exact circumstances, which makes one-size-fits-all lending a non-starter. Automated, AI-enhanced underwriting and loan origination let banks design the perfect offering for each customer, without the hours and effort this would normally take. 
• Far better user experience. Customer expectations have changed dramatically. They want more self-serve, fewer calls and meetings, and above all, fast access to capital. All of which is easily achievable with embedded lending systems available today. 
• Better profit margins. Overall, lower-touch lending with more automated steps means less human effort and more customers. Whether they’re serving SMEs or enterprise clients, banks can dedicate fewer resources to manual processes (and ticking boxes). This means more revenue at lower cost.

For borrowers

We can’t forget the borrowers in this equation. Business customers are crying out for faster, easier access to capital. This could come through streamlined services at their existing bank, or by borrowing through the platforms they rely on to manage their companies. Embedded lending provides: 

• Faster access to capital. Businesses don’t have the luxury of waiting weeks or months for funding. But most bank loans and factoring arrangements take a long time (and significant effort) to secure. Process automation and self-serve loans give borrowers what they want most: the capital they need now. 
• More flexible funding. Underwriting and origination admin forces lenders to offer standardized loans that don’t always fit a company’s particular needs. Automation removes these admin headaches. Guided by new lending tools, borrowers can design the loan parameters that fit them best. 
• An enjoyable loan experience. Again, the thing borrowers want most is fast, flexible financing. The speed and personalization that embedded lending allows means that not only is their first loan a great experience, but they’ll come straight back when new needs arise. 

Support new & existing customers with lending

Great platforms have always built on and integrated other services. Netflix couldn’t dominate without AWS, and AirBnb relies on Klarna to keep payments flowing. 

Lending-as-a-service turns any company into a lending company. You can embed safe, efficient, regulated lending services into your products with relative ease. You needn’t concern yourself with maintenance or keeping on top of financial regulations — your LaaS partner does all that. 

In return, you offer a better user experience, more engaged customers, and keep clients happy for longer. 

See how easy it is to add lending to your platform.