What SBA 7(a) and 504 acquisition loans require: equity, guarantees, Form 1919

What to take away

What 13 CFR Part 120 decides before you negotiate

Part 120 is the rulebook for SBA business loans. It sets what proceeds may finance, who may borrow, how much the agency stands behind, and what happens on default.

Buying an existing business, including its goodwill and intangibles, is an eligible use. So is the real estate and equipment the business operates on. Ineligible uses catch first-time buyers: repaying a personal loan, funding a distribution to the seller beyond the purchase price, or buying a business whose main asset is investment real estate.

The regulation also bars a seller who keeps voting stock and a board seat. A seller who stays on as a consultant or employee is fine.

The full text sits at eCFR :: 13 CFR Part 120 -- Business Loans. Read it before you agree a price, because it decides which deals are financeable at all.

Why the structure has to clear the regulation first

A lender's credit memo quotes Part 120 section by section. If your deal conflicts with a section, no relationship fixes it. Buyers who check the equity injection rule and the passive business exclusion early avoid paying for due diligence on a deal that cannot close.

Sellers should read the same sections. A seller expecting an all-cash exit at a strategic-buyer price may find the SBA-financed buyer pool is smaller and pays less.

The three parties in an SBA acquisition

The borrower is the new entity or the buyer taking over the business. The lender is the bank or credit union that underwrites and services the loan. The SBA is the backer behind the lender, not a party to your purchase agreement.

When things go wrong, the lender decides whether to call the loan and the SBA decides whether to honor its portion.

7(a) eligibility, loan caps and acquisition conditions in Subpart B

The 7(a) program is the workhorse for buying a small business. Collateral rules are flexible, it can fund working capital alongside the purchase, and thousands of lenders offer it.

Subpart B of Part 120 sets the 7(a) policies: maximum loan amount, the share the SBA stands behind, maturity limits and the conditions a lender must meet before an acquisition loan is approved.

The statutory ceiling is 5 million dollars for most loans, with a higher ceiling for certain manufacturing and energy purposes. The SBA generally backs 85 percent of loans of 150,000 dollars or less and 75 percent of larger loans.

Current program terms are published at 7(a) loans - Small Business Administration, the clearest starting point for a buyer comparing lenders.

Eligibility tests the borrower must pass

The business must be for-profit and operating in the United States or its territories, and must meet the SBA size standard for its industry, measured by average annual receipts or employee count.

The buyer must be of good character: no recent felony conviction, no current incarceration, no parole or probation, and no prior default on a federal loan.

The buyer must put cash into the deal. The standard equity injection is 10 percent of total project cost, from the buyer's own funds rather than a loan the buyer is also repaying.

A seller note can count toward part of the injection only if it is fully subordinated and on standby. A note requiring payments from day one usually does not count.

The intangible rule that kills deals

Subpart B limits how much of the loan can go to intangible assets. Goodwill and other intangibles cannot exceed the loan amount in a business purchase, and the buyer must inject enough equity to cover the excess.

That single rule ends many negotiations. Where a price is driven by customer relationships and reputation, most of the value is intangible and the equity requirement rises with it.

The precise acquisition conditions are set out at eCFR :: 13 CFR Part 120 Subpart B -- Policies Specific to 7(a) Loans. Lenders apply them literally.

Terms, maturity and rates

A 7(a) business purchase is typically amortized over 10 years, or 25 if real estate is included. Rates are negotiated and usually tied to prime plus a spread the SBA caps.

The SBA charges a guaranty fee based on the portion it stands behind, paid by the lender and usually passed to the borrower at closing.

Prepayment matters. A borrower who refinances or sells within three years can owe a penalty on that portion, calculated on a sliding scale.

504 loans under Subpart C: real estate, equipment and CDCs

The 504 program exists for fixed assets: owner-occupied commercial real estate, construction or renovation of a facility, and long-life heavy equipment. It does not fund working capital or goodwill on its own.

Certified Development Companies are nonprofit corporations the SBA authorizes to package, close and service 504 loans in a defined territory. A buyer in Illinois or Washington works with the CDC covering that state.

Subpart C sets the program requirements: eligible fixed assets, the owner-occupancy test and the job creation or community development criteria attached to a debenture.

The owner-occupancy and job tests

The business must occupy at least 51 percent of an existing building it buys, or 60 percent of a newly constructed one, with plans to reach 80 percent within a set period.

The debenture also carries a public policy purpose. The project must create or retain one job for every 75,000 dollars of debenture, or meet an alternative community development or manufacturing goal.

Eligible fixed assets and current program terms are set out at eCFR :: 13 CFR Part 120 Subpart C -- Special Purpose Loans.

Why 504 suits a business that owns its building

A buyer can split the deal. The operating company purchase goes through a 7(a) loan or seller financing. The real estate goes through a 504 with a 20-year fixed rate on the debenture.

That long fixed rate is the program's main attraction. The debenture rate is set when the debenture is sold, not floated off prime, so the payment does not move with the market.

Down payment is the trade-off. A 504 real estate project usually needs 10 percent from the borrower, and 15 percent if the business is a startup or a special purpose property such as a gas station or a hotel.

Personal guarantees, collateral and the Borrower Information Form

Every owner of 20 percent or more of the borrowing entity must give an unlimited personal guarantee. Spouses who own no stake generally do not guarantee, though their financial information may still be collected.

The guarantee is joint and several. If the business fails, the SBA can pursue any guarantor for the full outstanding balance, not a proportional share.

A guarantor's primary residence is the sensitive point. The SBA generally will not take a lien on a primary residence unless the loan is small and the property has enough equity, and then only under specific procedures.

The agency's policy on guarantees and the disclosures behind them is collected on Borrower Information Form | U.S. Small Business Administration, where the current version of the form is published.

What Form 1919 asks for

SBA Form 1919, the Borrower Information Form, is the disclosure document every applicant completes. It collects the borrower's legal name, tax identification number, address, ownership breakdown and affiliate details.

Every owner of 20 percent or more signs. So does any owner who controls the business, any general partner, and any entity holding a stake. The lender submits it with the application.

Misstatements on Form 1919 are the fastest route to a denial or to a loan being called after closing. Answer every question, including the ones that invite a damaging answer.

Collateral and what it covers

A 7(a) loan must be fully secured to the extent the business has assets available. The SBA requires a lien on the acquired business's assets, filed under the Uniform Commercial Code, and a lien on any real estate involved.

If collateral does not cover the loan, the SBA does not automatically decline. It requires the lender to take all available business and personal assets, then may still approve with a shortfall.

That is the difference from a conventional loan. A bank declines an undercollateralized deal. An SBA lender can approve it and rely on the guaranty and the personal guarantee.

The file a lender actually reads

SBA lenders underwrite the borrower as much as the business. A first-time buyer with no industry history needs a plan showing they understand what they are buying and how they will run it. Assemble the file before you approach a lender, because a complete package moves through credit committee faster.

The purchase agreement deserves special attention. Lenders read the allocation between tangible assets, goodwill and non-compete as closely as the total price. An allocation that loads value into goodwill raises the equity requirement under the 7(a) intangible rule.

The Internal Revenue Service treats that allocation as binding for tax purposes when both parties agree to it on Form 8594. Buyers generally prefer value in assets they can depreciate. Sellers generally prefer capital gains treatment on goodwill. That is a tax question for a qualified adviser, not one to settle inside the purchase agreement.

The checklist a credit officer works through

That last item fails more files than any other. A gift from a family member needs a gift letter and proof of transfer. Funds that appeared in an account three weeks ago need a source. Lenders trace the injection to its origin.

The documentation expectations lenders apply are covered in more depth in businesses for sale, which walks through the file from the credit officer's side of the desk.

Where buyers get refused, and how Lender Match changes the search

Denials cluster. Knowing the common ones lets a buyer fix a file before submitting it, or walk away from a deal that will not finance.

No equity injection is the most common. A buyer who wants to finance 100 percent of the price, including closing costs, does not have an SBA deal. The 10 percent injection is a floor, not a negotiating position.

No industry experience is next. A buyer moving from a corporate job into a restaurant, a medical practice or a construction company needs a management plan and often a retained key employee or the seller staying on for a transition period.

A seller note with no standby is a close third. If the seller wants monthly payments starting in month one, the note usually cannot count toward the injection and the buyer must find more cash.

Weak cash flow relative to debt service is the fourth. Lenders want the business to cover the new loan, the seller note and a reasonable owner's salary with room to spare. A business that barely breaks even after debt service will not clear credit committee.

Industry exclusions are the fifth. Adult entertainment, gambling, lending, speculative real estate and businesses earning more than a third of revenue from alcohol sales are restricted or ineligible. Confirm eligibility before signing.

How Lender Match works

The SBA operates Lender Match, an online tool that connects a borrower's short profile with participating lenders who have indicated interest in that industry, loan size and location. It is not an approval and it is not a broker.

The borrower submits basic information about the business, the loan amount and the use of funds. Matched lenders contact the borrower directly, usually within two business days.

The tool broadens the search beyond the buyer's own bank. A buyer in Colorado may be matched with a lender specializing in their industry but headquartered in another state, which matters because SBA lending is not restricted by geography.

Comparing channels before you commit saves time, and seller financing terms business sale breaks down what each type of lender actually lends against. Running your own numbers first helps too, and business brokers cost will show whether the debt service fits before a lender tells you it does not.

What sellers should know about SBA buyers

A seller accepting an SBA-financed offer is accepting a slower close. Expect 60 to 90 days from application to funding, sometimes longer if the deal involves real estate or a business valuation the lender orders.

The seller may also be asked to sign a standby agreement on their note, which delays payments. That is a real cost, and it belongs in the negotiation rather than treated as a formality.

Cost of borrowing compared between 7(a) and 504

The two programs carry different cost structures. A 7(a) loan is one loan with a floating rate and a guaranty fee. A 504 project is two loans with a fixed-rate debenture on the second and higher closing costs overall.

The 7(a) rate floats, so the payment rises if prime rises. The 504 debenture rate is fixed at sale, so the second loan payment never moves. Over 20 years that difference is significant, but it applies only to the portion of the project the debenture covers.

The 504 has more moving parts. The borrower deals with a bank and a CDC, pays two sets of closing costs, and waits for a debenture sale on a set schedule outside their control.

A buyer acquiring a business with real estate should run both structures: a 7(a) loan for the operating company and a 504 for the building.

Worked examples help here. business brokers requirements shows how the same deal looks under different structures, and a general review of acquisition financing covers the points worth checking before you sign a term sheet.

Fees and who pays them

The SBA guaranty fee is paid by the lender and typically passed to the borrower at closing. It is calculated on the dollar amount the SBA stands behind and the loan term, so a larger loan carries a larger fee.

On a 504, the borrower pays a CDC processing fee, a bank origination fee, and the costs of the debenture sale. Those add up to more than a 7(a) guaranty fee on a comparable project.

The borrower also pays third-party costs either way: appraisal, environmental review, business valuation, title work and legal fees.

Which program fits which deal

A pure business purchase with no real estate goes to 7(a). There is no 504 path for goodwill alone.

A business purchase where the target owns its building can use both. The 7(a) covers the operating company and working capital; the 504 covers the real estate on a 20-year fixed debenture.

Equipment-heavy businesses, such as a machine shop or a trucking company, can use 504 for equipment with a useful life of at least 10 years.

A buyer who needs speed and flexibility takes 7(a). A buyer who wants a fixed rate on real estate and can wait for the debenture sale takes 504.

Common questions

Can an SBA 7(a) loan fund the entire purchase price of a business?

No. The buyer must inject equity, typically 10 percent of total project cost, and it must come from the buyer's own funds. A fully subordinated seller note on standby can count toward part of it in some structures.

Does the SBA require a personal guarantee from every owner?

Yes, for any owner of 20 percent or more of the borrowing entity. The guarantee is unlimited and joint and several, which means the SBA can collect the full balance from any one guarantor.

Can a 504 loan be used to buy a business rather than a building?

No. The 504 program funds owner-occupied real estate and long-life equipment. Goodwill and working capital are not eligible fixed assets, so a business purchase without real estate goes through 7(a) or seller financing.

What disqualifies a business from SBA financing?

Passive businesses, lending businesses, gambling, adult entertainment and speculative real estate are restricted or ineligible. Nonprofits, businesses earning more than a third of revenue from alcohol sales, and businesses that fail the size standard are also excluded.