Is an SBA loan right for your business?
Small businesses play a crucial role in our economic landscape and make up a big bulk of the market, which is why the federal government has employed an agency—the U.S. Small Business Administration (SBA)—that is dedicated to bringing capital to businesses.
It’s a loan designed for small businesses provided by lending institutions and not the SBA itself. SBA loans are an attractive funding prospect because of the wealth of advantages they offer, like low interest rates, access to quick capital, longer repayment terms, flexibility and more.
How it works is the lender partners with the SBA who partially guarantees (up to 85%) the loan. This removes some of the risk for the lender, making it much easier for small businesses to get funding.
Guaranteeing the loan essentially means that the SBA is prepared to back up the loan and pay for the guaranteed portion of the loan in the case that the borrower defaults or is unable to pay it back.
Every growing business should take time to understand what an SBA loan is and consider it as an option when looking for funding, but how do you know if it’s the right option for you?
First things first. Before moving forward, is your business eligible for an SBA loan? While lenders typically have their own requirements when issuing loans, like a credit score minimum, years in business, and annual revenue, the SBA has its own set of minimum requirements businesses must meet.
Here is a quick glimpse of some basic requirements by the SBA for an SBA loan:
Must be a for-profit business
Must be located and conducting business in the United States
The business owner must have invested equity
The business must not acquire funds from another financial lender
Choosing an SBA loan is simple
There are currently six different SBA loan types:
7(a): This is the most widely used SBA loan program and it’s also the most flexible. The funds from this loan type can be used for a wide variety of purposes, from the purchase of equipment, land, and buildings to renovations and working capital. It extends loan amounts up to $5 million. This SBA loan type is known for its affordability by having long repayment terms as well as low interest rates.
CDC/504 loan: This SBA loan type is for small businesses in the market for purchasing or building commercial property. It’s funded using a typical lender in addition to a community development corporation (CDC).
CAP Lines loan: This SBA program offers four SBA lines of credit or loan products which offer up to $5 million to small businesses in need of a revolving line of credit.
Export loan: An SBA export loan offers up to $5 million for small businesses wanting to expand into foreign markets and engage in international business.
Microloans loan: These are small SBA loans of up to $50,000 and are intended for startups and small businesses. It’s an ideal option for businesses who want a low-interest loan with good repayment terms and who don’t require a high amount of working capital.
SBA disaster loans are for businesses recovering from economic or physical disasters. The loan money can be used for working capital, operating expenses, or for fixing damaged property.
When choosing the right SBA loan type and even the right lender, there are a few key factors to consider as a business to make the best choice.
One of the first steps to take when considering a loan for your small business is to establish a business plan that clearly outlines your company’s financial goals. Having this mapped out will help give you a better idea of the SBA loan you need.
Look at what’s needed and what’s lacking when analyzing your goals and find a lender that can offer the right solution in SBA loan offerings.
Calculate the costs of your total expenses to help paint a clear picture of how much funding you may need from a lender. This should include your current expenses as well as potential expenses from business growth.
Your business cash-flow will be a significant factor in what type of loan you choose. You’ll want to consider the in-and-out cash flow, your payment cycle, and how you can maintain your revenue.
When finding the right loan for your business, understand that there will always be some risk involved. Business owners should be transparent and have conversations about these risks right from the start.
Lenders will look carefully at how much debt your business currently has, its annual revenue, and overall cash flow. The more debt you have, the riskier your business will appear to lenders and the harder it may be to obtain a loan.
Spot the weaknesses in your business early on so you can work with a lender or broker to find the right solution.
What are the typical SBA loan terms?
Unlike other types of loans, SBA loan terms depend on how you’ll be using the money and are set by the SBA, not the lender. They also come with some of the longest-term lengths out there, making it appealing to business owners who care about smaller monthly payments. Just remember that a longer loan term means paying more interest on the loan overall.
Term length based on purpose for the most common—7(a)—loans:
10 years – equipment, inventory, working capital
25 years – real estate
Paid on a monthly basis
Since microloans are much smaller, they come with shorter term lengths.
How is an SBA loan different from a traditional business loan?
Unlike an SBA loan, traditional business loans are not backed by the government, meaning they’re harder to qualify for. Since there’s more risk on the lender, you can expect them to place a heavy emphasis on factors like your credit score, cash flow, and annual revenue.
Since SBA loans are less risky for the lender, you can expect lower interest rates than with conventional loans.
Other key differences are the loan amount as well as the loan term. SBA loans offer longer loan terms, spanning from 5-25 years, whereas business loans are shorter. The loan amount on an SBA loan is up to $5 million, unlike business loans which often range from $25,000 to $250,000.