SBA Loans: Capital for Small Business Acquisitions

So you’re thinking of selling your business and prefer to be cashed out rather than be paid in installments over time. Uncle Sam wants to see your business continue as a job creator, and hence, works with lenders to make attractive loan terms available to business buyers, on loans up to $5 million.

US Small Business Administration (SBA) loans come in two types: business loans – type 7(a), and real estate loans – type 504. According to Bob Porter of Plumas Bank in Auburn, CA, who has been in the SBA lending business for a very long time, the “lending formula is complicated,” but here are typical loan terms:

7(a) Loans [Business]

• Loan-to-value ratio is typically 70-85% of the business purchase price.
• Term is typically 10 years.
• Interest rates are typically Prime rate plus 2.0-2.75%. Prime as of this writing is 3.25%, so interest rates are currently 5.25% to 6%. Interest typically adjusts quarterly.
• Banks may loan up to $5 million under the 7(a) program.
• Terms are competitive among banks and vary with perceived business risk and the creditworthiness, outside collateral and business experience of the borrower.
• Loans over $250,000 (and smaller loans when the business is being transferred between related parties) require a fair market value appraisal by a certified business valuation expert.
• To help offset risk, banks typically like to see a 4 times debt-equity ratio (80% debt; 20%cash [equity]) to the appraised value of the business, because if the business is priced at fair market value it should have the ability to service the SBA debt payments. If the buyer is paying more than appraised value, the loan amount will be reduced accordingly.

504 Loans [Real Estate]

• Loan-to-value ratios are typically 90% for general purpose properties like office and warehouse buildings, and 85% for specialized/dedicated properties such as restaurants, bowling alleys and gas stations.
• Two loans are actually made: a 50% First Trust Deed held by the bank with a term of 20 to 25-years and a fixed or variable interest rate (currently around 5%), and a Second Trust Deed from the SBA with a 20-year term and a fixed rate (currently 4.9%).
• Although rare, SBA 504 loans can also be used to purchase equipment such as printing presses, tractors, or machining equipment.

In cases where a business is being purchased with real estate, banks may offer the borrower a blended term 7a loan, or break the transaction into both a 7(a) loan for the business purchase and 504 loan for the real estate purchase.