For many businesses, the first line of financing is a loan backed by the SBA (U.S. Small Business Administration).
Small business is a big contributor to the nation’s economy, generating 50 percent of the private, nonfarm gross domestic product. Many budding businesses turn to the SBA for help.
“An SBA loan — provided to a business by a bank — is guaranteed in part by the SBA,” says Michael Benson, senior vice president and Small Business Segment manager for FirstMerit Bank. “SBA provides a guaranty to the bank up to a certain percentage of the loan balance that the bank will be made whole if the loan defaults.
Smart Business asked Benson for help getting familiar with the SBA process.
Does the SBA actually provide money?
No, the SBA does not provide grants or do any actual lending. All of the money is provided by the participating bank in the form of a commercial loan to the business. SBA provides a guaranty (up to a certain percentage of the loan amount) that the bank will be repaid if the loan is not paid as agreed. When the SBA provides direct funding, it is generally related to disaster situations, like Hurricane Katrina.
To get an SBA loan, do I start with the SBA or my bank?
You always start with a participating bank, primarily one with a preferred SBA lender status. This indicates that the bank is deemed to have the expertise to work with the client directly.
Is there an SBA pre-qualification program?
Not necessarily. Experienced small business bankers generally do a good job of pre-qualifying a business, but it is by no means a credit decision.
The bank makes the initial decision on the loan. If the loan is otherwise creditworthy, but perhaps lacks collateral or is a start-up enterprise, the bank may approve the loan, subject to an SBA guaranty. Then the application is submitted to the SBA for its approval. Generally, if an SBA preferred lender makes an initial approval, then the SBA will approve the deal as well.
Is a written business plan required?
A written business plan is very helpful to the credit decision process, both for the SBA and the bank. While it is not required in every instance, any loan request that will significantly impact the future income statement of the business should have a business plan that tells the story of the company and includes pro forma financials that are realistically predictive of the company’s future financial performance.
Situations where business plans and projected financial performance are definitely needed include: loans to any start-up business, loans that represent relatively large capital injections for buildings or equipment, and loans that help finance a firm’s expansion into a new line of business.
Customers can receive assistance in preparing their business plans from local Small Business Development Councils or the Service Corps of Retired Executives (SCORE), an organization that helps people start new businesses. Some universities also sponsor business incubators.
Will they demand my personal property as collateral?
The personal guaranty of the business owner is a given.
Banks and the SBA are generally unwilling to lend to an entity that does not have the guaranty support of its owners. The SBA requires that all useful collateral is pledged. If the owners are not willing to carry the weight of risk personally, the bank and the SBA will not be willing to take on all of the risk.
Business owners often are asked to pledge their personal residence as collateral. This is especially important when lending for intangible items or items that are difficult to secure. These things include: franchise fees, goodwill on a transfer of business ownership, inventory and receivables.
Who sets the interest rates and terms on SBA loans?
The bank sets the interest rates and terms. Loan limits generally are $2 million under 7(a), $350,000 under Express, $250,000 under Community Express and as high as $4 million under 504.
How do I know when I’m ready to graduate to a non-SBA situation?
Once the bank is comfortable enough with a loan request to approve it conventionally, it does so. Some of the conditions include: being an established business, having a history of making positive cash flow, having collateral, and having experience in the industry.
It should be noted, however, that an SBA loan should not be regarded as a substandard path for financing. It is a conduit for quality businesses or individuals with realistic business plans to obtain needed funds to grow or expand their business.
MICHAEL BENSON is senior vice president and Small Business Segment manager for FirstMerit Bank. He specializes in small business banking and merchant services. Reach him at Michael.firstname.lastname@example.org.