How to Purchase a Business Using SBA Financing

Author: Scott Allex, Vice President, Business Development Officer 04/06/2023

If you are considering purchasing a business, there are several financing options available to you. Certain SBA loans can be used to purchase a business but you should be aware of the criteria you must meet to qualify. It’s often easier to qualify for a loan to purchase an existing business with a record of profitability than to start a new business.

Identify the Type of Business You’re Purchasing

The Small Business Administration has certain requirements for what types of businesses qualify for financing. In order to purchase a business using an SBA loan, it must be:

  • For profit
  • Based in the United States
  • Offering a product or service that is available to the general public
  • At least 51% owned by US citizens or Legal Permanent Resident Aliens
  • A small business, by SBA standards

Be aware that not all types of businesses are eligible for financing. For a full list of ineligible businesses, refer to the SBA website.

Qualifying for an SBA Loan

Every loan has risks, and lenders must manage those risks when providing financing. The SBA is an enhancement that helps both small businesses and lenders by lowering the amount of risk lenders must take on when approving a loan. But the financial health of the business and the borrower is still the main consideration. There are five areas that lenders look at:

  • Credit – You should have a good personal credit history with a score of 650 or above and no present tax liens, delinquencies, or defaults on any government-guaranteed debt.
  • Cash Flow – Lenders are interested in the repayment ability of the business so they will look at the past performance and projected cash flows of the business.
  • Collateral – To leverage the risk of financing your purchase, lenders will want assets of the business as collateral, but it can be acceptable to have a collateral shortfall.
  • Experience – An ideal candidate will have relevant experience in the same area of business as the one they are purchasing, but any prior entrepreneurial and management experience in related industries is beneficial.
  • Equity – The SBA requires that you contribute some of your own money to the purchase of the business, generally between 10% and 20%.

These factors will play into whether or not you are approved for financing, regardless of the type of loan you are requesting.

Determine Which SBA Loan is Best for Your Business

The two most common types of SBA loans are 7(a) loans and 504 loans. Both loans have different benefits and limitations so choose the option that best fits your needs.

7(a) Loan

A 7(a) loan is a government-partially guaranteed loan that is provided by a financial institution, such as a bank or credit union. The SBA does not provide a 7(a) loan directly, but they will partially guaranty the loan in the event of default. 7(a) loans will provide up to a $5 million loan for business purposes, including business acquisition. A 7(a) loan is a good option for business purchases that include goodwill, working capital, and even fixed assets such as real estate.

504 Loan

A 504 loan can be used to purchase a business provided the value of the fixed assets supports the purchase price. The 504 loan program includes participation of a lender and Certified Development Company (CDC) which allows for much larger projects than can be achieved under the 7(a) loan program. The 504 loan is a good option for larger projects with fixed assets. In addition, the CDC’s portion of the financing provides fixed interest rates for 10, 20 and 25 years.

Apply for an SBA Loan

For the easiest application experience, it is a good idea to go through an SBA Preferred Lender—a lender that has been approved by the Small Business Administration to make loan decisions. This allows for a much faster loan approval process.

Once you’re ready to submit your application, you will need to provide your lender with the following documentation for the business you are purchasing:

  • Business overview and history
  • Business lease
  • Current balance sheet and profit and loss statement on the subject business for the interim period dated within 120 days of your application
  • Federal income tax returns for the subject business for the previous three years
  • Personal Financial Statement for any 20% or more owner
  • Federal income tax returns for any 20% or more owner for the previous three years
  • Letter of Intent or Draft Purchase Agreement that includes terms of sale
  • Franchise, jobber, or licensing agreements
  • Proof of equity injection

When purchasing an existing business, an SBA loan is often a better option than traditional financing. PlainsCapital Bank has dedicated SBA specialists that can help you get prequalified for a loan and they provide guidance before, during, and after the application process. To learn more or to speak to an SBA loan specialist, visit our website.

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