Unlocking SBA Loans to Buy a Business (also known as Business Acquisition)
By: Jim Frey, Senior Vice President – Business Development Officer at Gulf Coast Small Business Lending
Are you eyeing that dream business acquisition? Perhaps you’ve found the perfect venture, but how do you know where to start? We know it can be confusing to sort out the financial requirements but fear not, we are here to help you navigate the process. This article will provide some useful information if you are considering utilizing an SBA loan to finance your business acquisition. For the purposes of this article, an “SBA loan” refers to a loan provided using the SBA 7(a) loan program.
First, let’s consider the flexibility (and beyond) of an SBA loan: An SBA loan isn’t your run-of-the-mill loan. It’s a chameleon, adapting to your unique needs. Picture this: you’re eyeing a business without real estate or substantial assets—just the intangible magic of goodwill. The SBA loan nods approvingly. It’s your flexible companion, ready to make that deal happen.
Next, use an SBA loan to solve the collateral conundrum: Conventional loans require collateral, and plenty of it — real estate, liquid assets, etc. But what if your target business lacks such assets? That’s where the SBA steps in. SBA loans are guaranteed in part by the U.S. Federal Government and that guarantee acts like a superhero cape, shielding banks from collateral anxiety. Suddenly, business acquisitions with minimal collateral become feasible.
Another benefit of SBA loans is what I call “the 10% magic”: Brace yourself for the equity injection (a/k/a cash down payment) twist. While conventional loans raise an eyebrow at anything less than a hefty down payment (often 20%-25%), an SBA loan doesn’t even twitch at a considerably smaller equity injection. In fact, a mere 10% from the buyer is often completely acceptable! And here’s the plot twist: that 10% can be a combo deal — 5% from the buyer’s pocket and 5% from a generous seller in the form of a seller note. Imagine the possibilities of an SBA loan!
But wait, there’s more! Let’s talk about time travel: loan edition: Buckle up; we’re time-traveling. Conventional loans offer a brief ride — typically terms of only 5 to 7 years. But an SBA loan? It’s the DeLorean of loans, whisking you to a 10-year business acquisition journey. And if you’re eyeing owner-occupied commercial real estate, strap in for a 25-year odyssey. Longer terms mean lower monthly payments and happier cash flow.
Next, we need to cover the “no strings attached” feature of SBA loans: Forget about loan covenants breathing down your neck. An SBA loan is the cool teacher who says, “Express yourself!” No restrictive clauses, just business freedom.
Lastly, I’d be remiss if I didn’t mention fees and valuations as part of an SBA loan: Every adventure has its costs. An SBA loan includes a guaranty fee (up to 3.75%), but fear not – this in place of the points that most borrowers are accustomed to paying. And sometimes the SBA waves its wand and reduces fees. You should always ask if any of these specific fee reduction offers is currently being offered or even contemplated. When your timeline is flexible, sometimes it can save you thousands of dollars if a new fee reduction offer is about to take effect! With respect to required third-party business valuations (which cost around $2,500), they’ll assess the value of the business you are planning to purchase. While $2,500 may seem pricey, it is well worth the money to confirm that the value is there before you proceed with closing on an SBA loan!
Now that you understand some of the key benefits of an SBA loan, I’d like to share a couple of helpful hints as you prepare to embark on the SBA loan process to buy a business.
1. Two examples that demonstrate ways to improve your personal liquidity:
Example 1 – A business owner in his 20’s was running his company for two years and doing well. An opportunity came up for him to buy another business in that same niche that would drastically increase revenues and profit and allow for some economies of scale. He had some personal liquidity (think cash reserves) but not enough to make the deal happen. An uncle stepped in and invested sufficient capital and was given 10% ownership in the firm. While it can vary, the uncle’s ownership was passive and didn’t involve any decision making or voting status but provided the owner with the resources to proceed with the acquisition deal.
Example 2 – A married couple was going to acquire an existing business in the wedding niche. They had great experience, but they didn’t have enough personal funds to for the equity injection (cash downpayment) required to secure an SBA loan. Their parents and a sibling provided gifts of funds, allowing the buyers to complete the deal. Typically, the SBA lender will require a simple gift letter stating that the funds provided are not a loan but instead a gift (the difference being that gifts do not require repayment!), the total amount of the gift, and any other relevant details.
2. Relationship with the seller: personal liquidity:
Picture a seasoned business owner, ready to pass the torch and ease into retirement. With an SBA loan, they can gracefully exit the business by selling 100% of their business ownership. But wait, there’s a great option you should consider that smooths out the process for everyone! Consider arranging for the seller to moonlight as an independent consultant, guiding the new owner(s) through the labyrinth of business intricacies. For up to 12 months, they share wisdom, train successors, and weave a web of relationships that spans generations.
In another option, our eager buyer steps forward, eyes fixed on a slice of the business pie. They can acquire a portion, leaving the seller in place with as little as 1% ownership. This can provide an easier, seamless transition and relationships with clients and vendors remain unbroken.
How to qualify for an SBA loan to purchase a business
All of this is well and good and now you are on board – an SBA loan is the way to go! The next most common question I get is “what does it take to qualify?” Aside from the details I’ve already provided here are a few more requirements to take into account:
- The business you are acquiring must be a for-profit business;
- The business must be operating within U.S. borders or its territories;
- The industry must also be eligible (most are, a few aren’t, it is easier to ask me than it is to take up a page or two with lists);
- The business buyer generally needs to have a personal credit score of 680 or higher;
- Lastly, at least 51% of the business must be owned by a U.S. Citizen or a Green Card holder.
Of course, this is a bit of an oversimplification, but these are the key requirements. I always encourage prospective borrowers to reach out to me early in the process so I can review all of the details of their unique situation and confirm that an SBA loan is the best option. In addition, many other frequently asked questions are addressed on our website here: https://gulfcoastsba.com/faqs/.
In summary, an SBA loan isn’t just a loan; it can be your golden ticket to business ownership. So, grab your briefcase, channel your inner entrepreneur, and give me a call. Together we can work on putting together an SBA loan that paves your path to success!
If you have any other questions, I am always happy to talk with prospective borrowers. In addition, you can find additional information about many of the industries and loan purposes offered by Gulf Coast Small Business Lending by visiting the SBA Loans section of our website.
Jim Frey has over 21 years of financial services experience, including an exclusive focus on SBA lending since 2012. Jim enjoys working with many referral sources across the US and he takes particular satisfaction in helping business owners reach their goals through SBA financing. Over the years, Jim has developed a specific expertise in structuring SBA loans for business acquisitions, franchise lending, expansions and construction. Jim has a Master of Business Administration from the University of Pittsburgh’s Katz Graduate School of Business and a B.S. in Finance from St. Vincent College. When not working on deals, Jim’s hobbies include hiking, volunteering, golfing, and traveling with his wife and two daughters.
Products and services offered by Gulf Coast Small Business Lending, a division of Gulf Coast Bank & Trust Co. Nothing herein shall be construed as a commitment to lend. All loans are subject to credit and collateral approval. Additional terms, restrictions and limitations may apply. Loans are only available to U.S. citizens and residents. Member FDIC – Equal Housing Lender.