The SBA 504 Loan Program is designed to support small businesses by providing long-term, fixed-rate financing for major fixed assets such as real estate or equipment. For lenders, participating in the SBA 504 program presents an opportunity to reduce risk, demonstrate community involvement, and build stronger relationships with borrowers. This guide will walk you through the essential steps and considerations when preparing for an SBA 504 loan.
1. Overview of the SBA 504 Loan Program
The SBA 504 loan program was established to foster the growth of small businesses by expanding access to affordable long-term fixed-asset financing. The program allows businesses to obtain up to 90% financing for eligible projects, with contributions from three sources:
50% from a conventional lender
40% from a Certified Development Company (CDC)
10% from the borrower
This structure reduces the risk for lenders while offering borrowers competitive rates and terms.
2. Benefits of SBA 504 Loans for Lenders
Reduced Risk: The SBA 504 loan program allows lenders to finance up to 50% of the project cost, reducing the loan-to-value ratio and associated risks.
Community Reinvestment Act (CRA) Compliance: Participation in the program can help lenders meet CRA requirements by promoting community lending and economic development.
No Interest Rate Restrictions: Lenders have flexibility in setting interest rates and fees on their portion of the loan, with no caps imposed by the SBA.
Access to the Secondary Market: High-quality SBA 504 loans can be sold in the secondary market, providing additional liquidity for lenders.
Streamlined Processing: The CDC handles much of the loan packaging and processing, saving lenders time and administrative costs.
Enhanced Customer Relationships: Offering SBA 504 loans enables lenders to provide a valuable service to their small business clients, strengthening customer loyalty.
3. Preparing for an SBA 504 Loan
Project Eligibility
Eligible Uses: SBA 504 loans can finance the purchase of land, construction of new buildings, renovation of existing facilities, and acquisition of machinery and equipment.
Refinancing: Existing debt can be refinanced as part of an expansion project, provided the debt was originally used for 504-eligible assets.
Size and Structure
Minimum Project Size: $100,000
Maximum Loan Amount: Up to $5.5 million for standard 504 loans, with higher limits for certain manufacturing and energy projects.
Down Payment Requirements
Established Businesses: Typically require a 10% down payment.
Startups and Special-Purpose Properties: May require up to 20% down, with adjusted loan proportions.
4. Loan Processing and Underwriting
Documentation Required from Borrowers
Financial statements and tax returns
Personal financial statements of owners with 20% or more ownership
Detailed project costs, including estimates from contractors
Environmental and appraisal reports
Lender’s Role
Interim Financing: Lenders typically provide interim financing covering up to 90% of project costs. This loan is later replaced by the SBA-guaranteed debenture.
Loan Commitment Letter: A formal letter detailing the terms, interest rates, and collateral requirements for the loan.
5. Closing and Funding
Once the SBA approves the loan, the CDC will coordinate with both the lender and borrower to gather the necessary documentation for closing. The lender’s interim loan is paid down with the proceeds from the SBA 504 loan.
6. Servicing and Post-Closing Considerations
Loan Servicing
Annual Financial Reviews: The CDC will request annual financial statements from the borrower to monitor the health of the business.
Loan Assumptions: SBA 504 loans can be assumed with SBA approval, providing flexibility if ownership changes.
Prepayment Penalties
10-Year Term: Prepayment penalties apply for the first 5 years.
20- and 25-Year Terms: Penalties apply for the first 10 years, calculated as a declining percentage of the outstanding principal.
Conclusion
The SBA 504 loan program is a valuable tool for lenders looking to expand their small business lending portfolio while minimizing risk. By participating in this program, lenders can contribute to community development, enhance their CRA compliance, and build stronger customer relationships.
MMCG is a company that specializes in providing comprehensive feasibility studies for SBA loans, helping lenders gain a clear understanding of the financial performance and risks associated with projects. Our expertise allows lenders to make well-informed decisions, ensuring that each deal aligns with their financial goals and risk tolerance. Contact us today to learn how we can assist you in evaluating the potential success of your SBA loan projects.
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