June 10

Comparing SBA 7(a) vs 504 Loans for Business Acquisitions with Real Estate

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When you're considering a business acquisition with a real estate component, understanding the differences between SBA 7(a) and 504 loans is crucial. The structure of your loan can significantly impact your financial outcome, so it's essential to start by evaluating the purchase price of the business versus the real estate. This initial assessment guides how you should structure your loan for optimal benefits.

Understanding the Purchase Price Breakdown

The first step in deciding between an SBA 7(a) and 504 loan is determining the purchase price of the business versus the real estate. If the real estate component holds a significant value, you might lean towards a 504 loan, especially if you're seeking long-term debt without major value add considerations. However, if the business itself has a higher purchase price, various options become available. You might consider a 504 loan for the real estate and a 7(a) loan for the business, or potentially an all-in-one 7(a) loan.

Creative Loan Structuring

One of the primary advantages of the SBA 7(a) loan is its flexibility. You can break the loan into two notes: one for the business acquisition and another for the real estate. This approach can extend the amortization period up to 25 years, reducing monthly debt payments. Everyone seeks to minimize monthly payments, and structuring your loan creatively can help achieve that goal.

Advantages of SBA 7(a) vs. 504 Loans

Prepayment Penalty Considerations

A significant benefit of the SBA 7(a) loan over the 504 loan is the shorter prepayment penalty period. The 7(a) loan has a prepayment penalty of only three years, compared to the 504 loan's ten years. This is an essential consideration if you're planning on value-add expansions or other significant changes. Avoiding a lengthy prepayment penalty can provide more flexibility and financial freedom.

Long-Term Fixed Rates with 504 Loans

For those planning to stay in their location for a long time, and where the majority of the purchase is real estate, the 504 loan offers a compelling option. The 504 loan consists of two parts: a first and a second mortgage. The second mortgage is the guaranteed piece with a 25-year fixed rate, currently around 6.3%. Additionally, the senior debt on a 504 loan is negotiated with the bank, credit union, or non-bank SBA lender, which can provide favorable terms.

Eligibility and Underwriting Processes

Occupancy Requirements for SBA Financing

For a business to qualify for SBA financing, it must occupy at least 51% of the purchased real estate. This occupancy requirement ensures that the SBA loans are used primarily for owner-operated businesses rather than investment properties.

Underwriting Processes

The underwriting process differs between the 7(a) and 504 loans. The SBA 7(a) loan typically involves a single underwriting process, especially when working directly with a Preferred Lender Program (PLP) lender. This means the lender handles everything in-house, streamlining the process. However, some lenders might need to send the file to the SBA for final underwriting.

In contrast, the 504 loan requires two underwriting processes: one at the bank level and another through a Certified Development Company (CDC) that packages and sends it to the SBA for approval. This dual process can be more tedious but allows for larger transaction amounts.

Refinancing Opportunities and Expert Consultation

Timing for Refinancing

If you currently have an SBA 7(a) loan with a variable rate, now might be an excellent time to refinance. Refinancing can secure a lower margin and extend the term out another ten years, providing better financial stability and lower monthly payments.


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