Buying a business using an SBA 7(a) loan is no easy task. The average SBA 7(a) loan takes 60 - 100 days to complete, and there are many requirements both the business and the purchaser.
However, utilizing an SBA 7(a) loan offers many advantages for both the buyer and the seller. Here's what buyers need to know about SBA Loans:
Terms and Cost of an SBA Loan to Buy a Business
Here are the typical rates, fees, and repayment terms of an SBA 7(a) loan to buy a business:
- Loan Amounts: Up to $5 million
- Interest Rates: SBA loan rates vary based on the current U.S. prime rate, which is typically around 6-9%.
- Fees: SBA loan fees start at 3% of the loan amount for loans over $150K. There may be additional fees as well, including application fees, third-party closing fees, or prepayment fees.
- Repayment Schedule: The standard term for a SBA 7(a) loan is 10 years for working capital and 25 years for real estate.
Qualifying for an SBA 7(a) loan
To qualify for an SBA loan, you typically need to meet following criteria:
- Credit Score: Buyers will want to have a credit score of 680 or above
- Down Payment: Generally, 10-30% of the loan amount
- Sufficient Collateral: Business and/or personal assets. Real estate is preferred
- Industry Experience: More than 3-5 years is preferred, but you could also have someone with industry experience run the business instead of you
- Buying a Financially Strong Business: The business your purchasing must be finically viable enough to repay the loan
If you can put a check next to each of the criteria above, your chances of qualifying for a loan are good. If you’re not that strong on one or two of these criteria, that doesn’t mean that you can’t get a loan, but it will be much more difficult. If that’s the case, be prepared to talk through those weaknesses in your application with your loan provider.
Other SBA 7(a) Eligibility Requirements
In addition to the requirements listed above, the SBA has other eligibility requirements, including:
- The business must be a small business as defined by the SBA
- Under 500 employees,
- Average annual revenue under $7.5 million (for past 3 years)
- Average net income under $5 million (after federal income taxes, excluding carry-over losses)
- Tangible net worth under $15 million
- Be a for-profit business with a location in the U.S. and operate primarily within the U.S.
- Buyer must use alternative financial resources, including personal assets, before seeking financial assistance
- Buyer must be able to demonstrate a need for the loan proceeds
- No defaults or bankruptcies on prior SBA loans
- Not delinquent on any existing debt obligations to the U.S. government (including taxes and student loans)
Securing a Down payment
Many buyers struggle to secure the full down payment needed to purchase a business, but there are other methods of meeting this requirement.
While not technically considered part of your down payment, seller financing is a great way to meet your down payment requirements.
Rollover for Business Startup (ROBS)
Rollover for Business Startup, or ROBS lets you roll over money you’ve saved in a retirement account without paying taxes or withdrawal penalties. We advise using a ROBS only if you have at least $50,000 in your retirement account that you plan to use. In addition, it’s best to use a professional ROBS provider to assist you with this process as the tax and legal issues involved are very particular.
Cash Out 401k or IRA
You may also cash out your IRA or 401k account, but due to the heavy taxes and penalties we don't reccomend it. Even if you’re in the lowest tax bracket, you’ll have to pay state & federal income taxes, in addition to a 10% early withdrawal penalty.
Home Equity Loans and Home Equity Lines of Credit
Homeowners can use a home equity loan (HEL) or a home equity line of credit (HELOC) to contribute towards a down payment. However, this option will reduce the amount of equity available in the property to be used as collateral for your business loan.
SBA Loan Application and Additional Documents
Before you apply for a SBA 7(a) loan, you will be asked to submit certain documents for the business. Some lenders will require you to send additional documents, but according to their standard operating procedure, here are the main documents you’ll need.
The purchase agreement is the document that states:
- Final purchase price of the business
- Deal structure (stock vs. asset sale)
- What is required by both the seller and buyer at closing
- Effective date that ownership of the business is transferred
- If and how the seller will help with transition
- Statements identifying the responsibility for existing liabilities
The lender needs the purchase agreement to verify the business’ purchase price and learn more details about the business and whether some of what is being purchased may be considered collateral.
Financial Documents for the Business
- Last 3 years business tax returns
- Year to date (YTD) profit and loss, balance sheets, and cash flow statements
- Information on outstanding business debts
- Information on any long-term contracts
- Complete list of business assets (including year, make, model, mileage/hours)
- Rent rolls if the business has tenants
- Business lease
- Organizational documents for the business (e.g. incorporation docs and business licenses)
- Business Plan