CIT Group Inc stock and bond prices tumbled Monday as the company sought to bolster liquidity and U.S. Treasury Secretary Tim Geithner said he was keeping close watch on the lender to small and mid-sized businesses.

CIT said it was talking to regulators about how to boost its finances if it fails to win access to the government's Temporary Liquidity Guarantee Program.

The delay in getting approval to enter the federal program has driven New York-based CIT into a liquidity crunch. The two-year financial crisis has restricted CIT's access to capital markets, the company's main source of financing.

CIT, which became a bank holding company last year in order to qualify for $2.33 billion in government bailout funds, has lost close to $3.3 billion since the end of 2007 and says it faces a $10 billion funding gap in the year to March 31, 2010.

CIT shares tumbled as much as 29 percent to a low of $1.08 in morning trade, and its 5 percent notes due in 2014 fell to 48 cents on the dollar from 57 cents on Friday. Analysts warned that the company could face a rush from borrowers to draw down on credit lines.

The likelihood of borrowers drawing down on their lines has definitely increased, said David Chiaverini, analyst with BMO Capital Markets in New York.

Although the company is a key financier for small business, the government does not consider it too big to fail, The Wall Street Journal reported.

The Journal said the government has made clear that a bankruptcy by CIT would not be seen as a systemic risk to the financial system, as other lenders such as JPMorgan Chase & Co and Deutsche Bank AG can take on many of the same loans in which CIT specializes.

The newspaper said the company had hired top law firm Skadden, Arps, Slate, Meagher & Flom LLP to explore a possible bankruptcy filing. A CIT spokesman confirmed that Skadden, Arps had been retained but declined to elaborate.

MOODY'S CUTS RATING

Moody's cut CIT's senior unsecured credit rating four notches on Monday, to B3 from Ba2, citing growing concerns with CIT's liquidity position and prospects for survival of the franchise. Both the old and new ratings are below investment grade.

Geithner said he was confident the government would be able to deal with CIT.

I am actually pretty confident in that context that we have the authority and the ability to make sensible choices, he said in response to a question.

Geithner gave no hint what he expected will happen with CIT but said, We have a significant interest generally in trying to make sure the financial sector gets through this, adjusts where it needs to adjust and emerges stronger.

Analysts and industry experts warn that any disruption to the factoring services that CIT provides can have widespread impact on small businesses, particularly retailers.

Factors buy the right to collect on the invoice of a retailer or other company at a discount to the value of the invoice. Then the factor assumes the risk that the invoice will not be paid.

To boost liquidity, CIT said it was discussing a transfer of assets into its CIT Bank unit by obtaining a waiver of a Federal Reserve rule that limits such transactions. It said it may transfer vendor finance and trade finance businesses.

The lender may step up attempts to sell assets, such as its $4.5 billion railcar leasing unit, analysts said. CIT initially shopped the railcar unit last year for several months before shelving the plan after its capital position improved and commercial lender GATX Corp , which had been seen as a potential buyer, offered more than $3 billion for a similar business owned by General Electric Co .

Quick asset sales now, however, are unlikely to fetch the best prices.

They should have been more aggressive with some of their asset sales, because now their backs are against the wall and anything they sell now ... will get low-ball bids, said Chiaverini.

But without government support -- in the form of either access to the Federal Deposit Insurance Corp's TLGP or a waiver to transfer assets to its bank -- analysts said asset sales, even at unattractive prices, remain CIT's best hope for improving its capital position.

It's virtually impossible for them to attract outside capital in either equity or debt form at this juncture, said David Havens, a managing director in credit trading at Hexagon Securities in New York.

RIPPLE EFFECTS

Bankruptcy at CIT could have negative ramifications for small businesses dependent on credit to fund growth, said Melinda Crump, a spokeswoman for Sageworks Inc, which tracks and collates the financials of thousands of privately held U.S. companies.

But restructuring executives said it was unlikely that CIT's factoring business would collapse.

CIT has been an important provider of credit to not only retailers and retail suppliers but a vast array of businesses for over 100 years, said Scott Avila, a partner for corporate restructuring adviser CRG Partners.

(Reporting by Elinor Comlay and Chelsea Emery in New York and Ajay Kamalakaran in Bangalore; Editing by Muralikumar Anantharaman and John Wallace)

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