Buying A Business
Is an SBA Loan Best for Buying a Business?
Most employees dream of escaping the rat race and becoming their own boss. However, only few actually go for it. One reason for this is the disappointing statistics regarding startups. Have you ever heard that 9 out of 10 startups fail? It’s no wonder people find the idea of taking over operations of a successful business so appealing.
Buying a business can be a great option for those with direct industry experience, significant managerial experience, and those with a clear plan to grow an existing business. Purchasing an existing business often means you’re getting a business that has proven itself to be stable and profitable. That track record allows you (and potential lenders) to more accurately gauge the risks and opportunities involved in a purchase.
But, in most cases, purchasing a successful small business isn’t cheap. Sometimes, even after pooling together one’s personal savings and negotiating a portion of seller financing, you might still find yourself short on funding. One option is funding your business purchase using an SBA loan. Is an SBA loan a viable option for your business acquisition? Read on to find out.
What Are SBA Loans?
Before we get to the reasons why SBA loans can be a good option for financing the purchase of a small business, let’s first discuss what an SBA loan is. The SBA, otherwise known as the Small Business Administration, is a government agency that has been tasked with supporting and growing small businesses nationwide. The SBA offers several loan programs geared towards individuals who want to start, buy, or expand a small business.
There are actually six types of SBA loans. The most common type of SBA loan is the SBA 7(a) loan. 7(a) loans can be used for a wide range of purposes, including working capital, debt consolidation, and business acquisition. To be eligible for this type of loan, the proceeds of the loan must be for a legitimate and sound purpose, and the business in question should fall under what the SBA regards as a small business.
Why SBA Loans?
One of the reasons why many people, especially first-time buyers, attempt to get SBA financing for their business acquisition, is because the SBA enables lenders to take on more risk. The SBA guarantees the loans made by a lending institution (assuming the loan meets SBA guidelines). This SBA guarantee greatly reduces the lender’s exposure to potential loss. That reduced risk allows lenders to offer financing on riskier deals (like new business owners, borrowers with low collateral, etc.). Because the SBA acts as a guarantor, the chances of your loan application succeeding are greater.
Now of course, this means that in addition to impressing the lenders, you need to impress the SBA. Luckily, their requirements are quite straightforward. Like other financial institutions, they will ask for your credit history. Generally, you will need a credit score of 660 or higher with no red flag events (like a bankruptcy or tax lien). Additionally, the SBA requires that all principals be of “good character” which is partially evaluated in Form 912.
The acquisition’s assets can serve as collateral for your financing. However, in addition to a personal guarantee, SBA loans also require the lender to take personal assets (like a home) as collateral if they exist. You must submit documentation for the business you are trying to purchase, such as tax returns, balance sheets, and profit and loss statements. If the business’s financials show a stable, profitable business, they can help convince the lender and the SBA that there is sufficient cash flow to afford the loan be made and that the risk of default is low.
Also, since the SBA is a government agency, they set certain policy objectives. While the primary objective is to support small business writ large, they also have policy objectives to protect and expand local employment as well as help women- and minority-owned businesses.
When it comes to interest rates and repayment terms, SBA loans are often some of the most competitive out there. As of June 2017, the maximum allowable interest rates lenders can charge on SBA 7(a) loans is 6.25 % – 8.75 %. Qualified borrowers who come to their lender prepared with the proper documents can expect to be pre-approved for financing in about one week. However, funding will often take 60-90 days.
With competitive interest rates and repayment terms, SBA loans can be an appealing option for anyone considering purchasing a business. The SBA’s loan guarantee opens these financing options up to a far larger pool of entrepreneurs than traditional financing alone. Check out current SBA loan rates before applying, put together the necessary paperwork, then speak with your local SBA lender. You’re one step closer to owning that business you’ve always wanted.