SBA 504 loans offer a public-private solution for real estate financing

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September 21, 2017


Key Points

About the Small Business Administration 504 loan program

  • Designed specifically for financing land, building and other fixed assets
  • Requires a loan from a private lender and an SBA-approved nonprofit development company
  • Down payment as low as 10 percent, interest rate typically under 5 percent
  • Loans are long-term at relatively low interest rates
  • Borrowers must show they will create jobs or meet other goals

If you're a small-business owner planning on investing in land, buildings and other fixed assets, and can show that your investment will create or preserve jobs, the U.S. Small Business Administration (SBA) has a program designed to help you find long-term fixed-rate financing.

Under the 504 loan program, an SBA-approved nonprofit corporation known as a certified development company (CDC), joins with a private lender to provide financing. Typically, the lender covers 50 percent of a project's costs, the CDC issues a separate piggyback loan covering 40 percent, and the borrower provides a 10 percent down payment. The private lender obtains the senior lien position, and the CDC loan is funded through the issuance of a SBA-guaranteed subordinate debenture. The borrower makes one payment that is then passed through to the private lender and the holders of the debenture.

Loan eligibility and uses

The 504 loans are available to any small business that operates in the U.S., and whose owners can demonstrate necessary management experience, a feasible business plan and an inability to find the necessary funding elsewhere. To qualify, a business must have a tangible net worth of less than $15 million and average net income of less than $5 million, after taxes, for the prior two years. There are some industry-specific limitations on who can do business with the SBA, but for the most part the 504 program is open to any business that meets the agency's income requirements.

Proceeds from a 504 loan can be used to buy land or buildings, make property improvements and finance new construction. Real estate financed by a 504 loan must be 51 percent owner-occupied for existing buildings, and 60 percent owner-occupied for newly constructed buildings.

Hotels, nursing homes and restaurants can be financed under the program, but businesses engaged in speculative or rental-property investment are excluded from eligibility. Long-term purchases, such as machinery and equipment are allowed, but short-term uses, such as working capital and inventory purchases, are not eligible for financing.

In addition, businesses must create or retain one job for every $65,000 guaranteed by the SBA, although the requirements are less stringent for small manufacturers. In some cases, borrowers can forego the job-creation requirements if they prove they meet public-policy and community development goals, such as promoting exports or increasing the number of minority- or veteran-owned businesses.

Loan terms

The SBA does not set a limit on a project's size or the total amount that a bank and CDC can loan. But it does limit CDC participation to 40 percent of a project's cost, and limits the SBA guarantee on CDC loans to $5.5 million for manufacturers and $5 million for most other businesses. Interest rates are tied to changes in 5- and 10-year U.S. Treasury Bonds. The 504 loans come with maturity terms of 10 and 20 years, and there is a prepayment penalty during the first half of the term of the loan.

One of the biggest appeals of the program to borrowers is the low 10 percent down payment required of borrowers. But that's not available to everyone. For startup businesses and those without a track record of profitability, the down payment rises to 15 percent to 20 percent.

Application process

Be prepared for a cumbersome application process. For starters, you're applying for two separate loans, as well as SBA approval of the loan guarantee. You can start by finding a CDC — the nonprofit economic development company approved by the SBA to provide up to 40 percent of your funding. There are 270 CDCs in the U.S. — some do 504 loans exclusively, some also work on other economic development projects. The SBA keeps a state-by-state list of them.

Banks, which provide the largest portion of the 504 loans, often have well-developed SBA specialties, so you can start the process with one of them as well.

No matter what route you take, you'll need to submit extensive documentation that eventually will be forwarded to the SBA as part of your application package. You can start by downloading the SBA's standard application form. You'll also need personal and business financial statements, profit-and-loss statements for your business, a projected profit-and-loss statement, income-tax returns and resumes from all of the business partners or owners applying for the loan. The full list of required paperwork can be obtained from the SBA.

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