Small Business Administration (SBA) loans help launch many small businesses every year. So, what does it mean to you when there are changes to their Standard Operating Procedures (SOP)?
SBA-backed loans are provided through preferred lenders, like First Financial Bank. Thanks to the SBA’s policies and procedures, the risk to lenders is reduced and loans are more readily available to fund small businesses. These “Standard Operating Procedures” or SOPs are publicly available but are written and intended for lending professionals. Yet as a prospective or current small business owner, it’s important to understand how they affect you, especially when the SBA changes or updates the SOPs.
Requirements for Equity Injections
Small business loans often require equity injections to secure financing, whether for business acquisitions, startup capital, or expansion. What are “equity injections”? These are commitments of dollars or other assets that the business owner is investing in the business. The SBA’s revised guidelines aim to provide more clarity and flexibility regarding the sources and structure of equity injections. By offering clearer guidelines, the SBA enables entrepreneurs to navigate the financing process more effectively. This includes allowing a wider range of acceptable equity sources, such as personal savings, contributions from partners, or investments from third-party investors.
The SBA changed the conditions for a Seller Note to be considered part of the Buyer Equity Injection (aka Down Payment). Under the current guidelines, the seller note must be on full standby (no principal or interest payments) until the SBA Loan is paid in full, meaning the seller is only paid back after the SBA loan is completely paid off.
Under the new requirements, a 10% equity injection is mandatory for startups and full ownership changes. Seller debt may be included as part of the equity injection only if it is on full standby and does not exceed 50% of the total required injection.
Additionally, the requirements for verifying equity injections are now more flexible. Lenders are no longer restricted to only the SBA approach for verification. The lender can now apply the policies they have established for non-SBA commercial loans of a similar size. This reduces the amount of documentation that lenders must collect to verify equity on 7(a) loans.
Facilitating Partial Buy-Ins
Partnerships are integral to the growth and success of many small businesses, but navigating partner buy-ins can be complex. The SBA has introduced streamlined procedures to help facilitate partner buy-ins, making it easier for businesses to bring in new partners or buy out existing ones.
Under the updated regulations, buyers can now acquire less than 100% ownership of the business, known as a Partial Buy-In. Previously, sellers were only allowed to remain actively involved in the business operations for 12-month consulting periods after the business was sold. Now, sellers can remain engaged beyond that first year if they retain some ownership in the business.
This change is particularly beneficial for those business owners who are seeking to transition companies with specialized licenses or intellectual property that may be difficult to transfer to the new owners at the time of sale. Additionally, if the seller plans to stay with the company long-term, their salary and benefits will no longer be treated as add-backs when calculating business discretionary cash flow. Based on the percentage of ownership, the remaining owner may also need to guarantee the loan.
