Conformity is the jailer of freedom and the enemy of growth. — John F. Kennedy.
So you’re running a small business, or perhaps working on starting one up. Either way, there will be days you feel like you’re standing on the plank of a pirate ship with a horde of angry buccaneers pushing you further and further toward the open sea.
These pirates don’t have swords — they have outstretched hands, looking for cash. You possess enthusiasm, and may have crafted a great business plan, but cash is one thing you have in very short supply. Better be wearing your swim trunks, matey.
But maybe you don’t have to swim with the sharks after all. Almost six years after the near-collapse of the U.S. financial system, the U.S. Small Business Administration rose to the challenge created by a badly damaged banking system and delivered.
Over the past few years, the SBA helped facilitate near-record numbers of loans to small businesses throughout the United States, providing tens of billions of dollars of credit to start-ups and existing businesses alike. How does this process work?
The SBA Doesn’t Make the Loans — Commercial Lenders Do
Ironically, one of the keys to the success of the SBA’s business model is that the SBA does not make the loans themselves. Instead, they craft the rules and commercial lenders (banks, credit unions, non-bank lenders) provide the funds to the small business borrowers. Why is that important? Stand in line at the Department of Motor Vehicles for a few hours and you’ll get a front row seat as to why it matters. Banks have stockholders to whom they must answer, so they develop systems and procedures to get the loans out the door as quickly as possible.
The most popular types of SBA loans fall under the 7(a) program, which assisted in providing $17.9 billion of credit to America’s small businesses during fiscal year 2013. Underneath the 7(a) program are a myriad of term loans and lines of credit. Over the past several years, the SBA has made a concerted effort to add flexibility to their programs and products so that lenders and borrowers not only have more choices, but simpler delivery mechanisms.
Keep in mind: Thousands of lenders across the country provide SBA-guaranteed loans, but only a relative few do so enough that they are proficient at processing these loans.
Check with your bank first, of course, but don’t make the mistake of being the borrower that serves as the guinea pig for the guy with the wide tie and asymmetrical mustache. Make sure you’re dealing with someone who understands exactly how SBA loans work.
Small Business Loans: What Are the Features?
Although SBA loans are highly popular tools for financing new or younger companies, banks make a substantial number of loans to more seasoned businesses. And why not — the SBA’s size standards rank over 99% of companies in the United States as ‘small.’ When obtaining term loans, all can benefit from the longer repayment periods, which are typically far greater than what a commercial lender can do on its own.
Standard loan terms are as follows:
- Working capital: 7 years
- Inventory: 7 years
- Equipment: 7-10 years
- Business acquisition: up to 10 years
- Debt refinance: 7-25 years
- Owner-occupied commercial real estate: 25 years
Many SBA requests have multiple uses of proceeds, such as purchase equipment, refinance debt and provide working capital, all in the same loan. Regardless, the longer terms keep the payments down, which can substantially improve overall cash flow for the small business borrower. Additionally, loans of less than fifteen years have no prepayment penalties, meaning borrowers can pay extra against the principal as often as they like. Even when lenders attach a prepayment penalty, it only lasts for the first three years.
Interest rates are usually variable and tied to the Prime rate. Fees depend on the size of the loans but average between 2-3% of the loan amount, not including things like appraisals, title reports, credit reports and other standard loan costs. Recently, in an effort to encourage more small loans, the SBA waived their fee (called a ‘guaranty fee’) for loans of $150,000 or less.
What Are the Benefits?
There are a number of tangible benefits to an SBA loan.
- First and foremost, the longer amortizations (pay-back periods) as mentioned above.
- Secondly, down payments are often lower than what a bank would require for a standard commercial loan.
- Thirdly, collateral requirements are often less stringent.
On the lender’s side, the SBA guaranty can help the bank get comfortable with things that they might not be willing to do without it, such as financing a newer business, overcoming one or two credit factors, or financing a type of business they might not normally consider.
As for lines of credit, although they are priced and administered similarly to a standard commercial product, the SBA guaranty can make the difference between approval and denial. It adds that extra oomph the bank may need to get over the hump.
How Do You Apply?
As mentioned above, try your bank first. They may be willing to provide financing based on your relationship with them, perhaps even without utilizing the SBA. However, if that doesn’t work, contact your local SBA office and ask them for their opinion of who you should go see.
If you’re a new business, bring your business plan with you to your first meeting with the lender and be prepared to discuss it in great detail. Know your plan backwards and forwards and cover as many of the what-ifs as you can. If you’re an existing business, have your financial statements at the ready, along with your plan for the coming year.
In either scenario, the lender will want tax returns, personal financial statements, and other information to complete the application. Keep a ‘plan B’ in your back pocket if need be, as the lender might not want to do the loan the way you want it, but might be willing if you add something else to the equation — more collateral, a smaller loan, or something else altogether.
The SBA: A Great Resource for America’s Small Businesses
In the wake of the Great Recession and with still-recovering businesses looking to grow again, the SBA is a great alternative when you need lower payments, or if something about the request doesn’t make it a good fit for a standard commercial loan.
There’s a bit more paperwork and the timetable may take a little longer, but fear not: it’s your friendly local banker doing the work, not your federal government. Just don’t tease him about his asymmetrical mustache.