SBA Loan Primer for Small Businesses

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Joe Johnson, Ph.D.
Entrepreneur. Investor. Startup Expert.

The Small Business Administration (SBA) has been a useful resource for small business owners and has helped American small businesses to secure financing ever since it was founded in 1953. The SBA has four functions:

  • To facilitate financing
  • To provide development assistance (educational resources and training)
  • To function as a resource for government contractors
  • To act as an advocate for small business

For the purposes of this particular article, I’ll be focusing primarily on the financing assistance available from the SBA.

It’s important to note that the SBA, itself, does not lend money. Rather, it backs loans through particular lenders and provides them with a payback guarantee on a percentage of the loan, thereby reducing the risk of lending for participating lenders. In order for lenders to originate SBA-guaranteed loans, they must certify that the borrower meets the appropriate requirements and that they are creditworthy. Additionally, the lender must certify that they would not normally lend money to the borrower and are only willing to do so with an SBA guarantee. Therefore, if you are qualified to receive an ordinary bank loan, you would not be eligible for an SBA-backed loan.

Lenders who offer SBA-backed loans can be found on the “LINC” (Leveraging Information and Networks to access Capital) tool of the SBA website. However, prior to making an inquiry, it’s necessary to know the type of loan in which you’re interested, as each participating lender may not offer each specific loan type. The four loan types covered here are: the 7(a), the Certified Development Company (504) Loan Program, the Microloan Program, and the Small Business Investment Company Program. To determine which is best for your organization, carefully consider each loan’s applicable minimums and maximums, the purposes for which it can be utilized, and any additional associated terms.

Some individuals may believe that they’ll be able to find an SBA grant to start a business. This is a misconception. The SBA does not currently offer any grants for starting or expanding a business. Depending on your business type, however, you may be able to secure a grant from your state or municipality. Please note that these grants are generally limited to childcare centers, energy-efficient tech, and similar businesses.

SBA Loan Types

The SBA backs several different types of loans. Before beginning the application process, make sure that you understand the different loan types, your eligibility, and the various associated requirements. This will help considerably to smooth the process.

For a business to be considered as eligible for an SBA-backed loan, the applicant must show that the business is:

  • Operating
  • For profit
  • Located in the U.S.
  • In need of credit
  • Of the appropriate size
  • Operating lawfully with a qualified owner
  • Prepared to use the loan for the appropriate purposes
  • Not able to fund itself without the loan
  • Owned by someone of “good character”
  • Able to meet any other loan-specific requirements

7(a) Loan Program

The 7(a) loan is named after the section of the Small Business Act that authorizes the SBA to provide financial help to small businesses. This is the most common type of SBA loan, as it can be used in numerous ways. There are ten categorizations, beginning with the “basic” 7(a), which is the most popular. For a business to be considered as eligible, it must meet specific criteria regarding the size and nature of the business, the plans for the funds, and the soundness and appropriateness of the loan.

An eligible business must be within the appropriate size constraints listed by the SBA for industries. For example, manufacturing firms must have between 500-1,500 employees. A business in the service sector should have annual receipts between $2-$35.5 million. Further information can be found at www.sba.gov/size.

Eligible businesses must not be involved in speculation, lending, illegal activities, gambling, loan packaging, and other restricted activities. The business cannot be a non-profit or a private club, it cannot promote religion, and the owners cannot be imprisoned or on parole, or have previously defaulted on a federal loan.

Businesses can only utilize a basic 7(a) for approved purposes, such as:

  • Starting a business
  • Acquiring a business
  • Working capital
  • Purchasing inventory
  • Expanding or renovating
  • Purchasing machinery, equipment, fixtures, and furniture
  • Buying land and building a location
  • Refinancing existing debt

Organizations planning to use financing for other purposes must look elsewhere.

In addition to the factors mentioned above, the SBA also considers whether a business could secure funding elsewhere, whether the business seems as though it will be successful in the long-term, and whether it appears that the business will be able to repay the loan.

The basic 7(a) loan has no minimum and a maximum available amount of $5 million. Interest rates are set by the lender and may be either fixed-rate or variable. Additionally, the SBA charges a fee on the amount of each loan that they guarantee. Banks may pass this fee on to the borrower at closing. Loan maturity terms vary, though the maximum period is 25 years.

To apply for a 7(a) loan, you must submit a completed application to your lender, including:

  • SBA Application Form 1919
  • Personal background and financial statement (Forms 912, 413)
  • Business financial statements
  • Ownership and affiliations
  • Business certificate or license
  • Loan application history
  • Income tax returns, both personal and business
  • Resumés for each principal
  • Business overview and history
  • Copy of the business lease

A checklist is located on the SBA website. The current application can be found here.

For businesses which are interested in a quick decision, the SBAExpress, a variation of the 7(a), may be of interest. This loan is limited to $350,000 and is generally processed within 36 hours. Only 50% of the loan is guaranteed by the SBA and the interest rate is negotiated with the lender. The Export Express is a similar loan product that is specifically for exporters and carries a limit of $500,000.

Other variations of the 7(a) loan enable lenders to provide funding for activities that may not be covered under the basic 7(a). These include the International Trade Loan (ITL), the Export Working Capital Loan (EWCP), Seasonal CAPlines, Contract CAPlines, Builders CAPlines, and Working Capital CAPlines. These programs have helped American small businesses to expand overseas, export products, and manage cyclical cash flow. The terms and amount vary by loan type and lender. If a lender believes that you should apply for one of these variations, they will let you know.

504 Loan

Also known as the Community Development Company (CDC) 504 loan program, this SBA-backed loan is focused on projects that enhance the communities in which they’re located. A nonprofit CDC that is regulated and certified by the SBA partners with lenders to provide these loans in specific communities. Nationwide, there are over 260 CDCs each focused on their own respective geographic area.

The 504 loan is appropriate for businesses seeking to purchase land or real estate, to build new facilities, or to modernize old facilities. Unlike the 7(a), it cannot be used for working capital, inventory, or refinancing debt.

Loan terms have a maximum of 10 years for the purchase of machinery or equipment and 20 years for the purchase of land and buildings.

This loan is generally structured in such a way that the borrower is required to provide some equity, generally 10-20%. The SBA provides 40% and a partnered lender provides up to 50% of the loan proceeds.

To be eligible, a business must demonstrate that it:

  • Operates for profit in the United States
  • Has a net worth of less than $15 million
  • Has a net annual income of less than $5 million
  • Is not involved in speculation or rental real estate
  • Intends to use the funds for a purpose in line with 504 requirements
  • Is unable to secure the funds elsewhere
  • Is able to repay the loan
  • Is owned by reputable people with management expertise
  • Has a sound business plan

To apply for a 504 loan, you’ll need:

  • SBA Form 1244
  • Personal background and financial statement (Forms 912, 413)
  • Business financial statements
  • Ownership and affiliations
  • Business certificate or license
  • Loan application history
  • Income tax returns, both personal and business
  • Resumés for each principal
  • Business overview and history
  • Copy of the business lease

Microloan

Many businesses only require a small amount of capital. The SBA Microloan program assists small businesses seeking working capital, inventory, supplies, furniture, or machinery. The maximum microloan is $50,000 with $13,000 being the average borrowed amount. Microloans have short terms of no more than six years. They are administered by nonprofit partners in the community. Eligibility requirements are the same as for the 7(a) loan, though nonprofit childcare centers are also eligible for microloans. Interest rates vary depending on numerous factors, however, they generally fall between 8-13%. Many borrowers are required to enroll in educational programs to help them learn more about running a business. Interested businesses should contact their local SBA District Office to learn more.

Community Advantage (CA) Loan Program

This loan is focused on underserved markets and helps businesses that may have trouble otherwise securing funding. This is a temporary pilot program that is currently scheduled to expire on March 31, 2020. Similar to the 7(a), the CA loan enables a lender to loan money with an SBA guaranty. Maximum available financing under this program is $250,000 and the maximum allowable interest rate is Prime + 6%. Lenders may require that borrowers undergo training. This type of loan is otherwise similar to the basic 7(a) in regards to eligibility requirements and appropriate uses.

Other similar advantage loans include the Small/Rural Lender Advantage Loan and the Small Loan Advantage.

What the SBA Wants in a Borrower

While the SBA aims to assist small businesses, it also wants to ensure that its money is being well-utilized. Lending partners are required to perform their due diligence during the application process to determine:

  • Whether the business meets the size requirements for its industry
  • Whether the business operations are appropriate for an SBA-backed loan (list here)
  • The business’ ability to repay the loan
  • The workability of the business plan
  • The expertise of the business owners
  • The current financial situation of the business
  • The degree of the owners’ investment in the business with regard to their personal equity
  • Whether there is collateral to secure the loan

Before contacting a lender, ensure that you meet the requirements of any loan in which you’re interested and begin gathering the necessary paperwork. Update your business plan/financials and ensure that there are no errors on your credit report.

Because SBA-backed loans are partially guaranteed by the government, they do have more requirements and paperwork than traditional loans. At the same time, they offer working capital to businesses without access to ordinary bank financing with the result of increasing their growth potential.

If you don’t believe that an SBA loan is appropriate for your situation, there are other possible funding options. In addition to bank loans, there are private financing companies that can provide assistance to small businesses, as well as other alternative lenders. How you opt to finance your company matters. Make sure that you explore all of the viable options before making an informed decision.

Other Resources

If you aren’t certain of the loans for which you may be eligible, Business.USA.gov can help.

About the Author

Dr. Joe Johnson is an entrepreneur, investor, and startup expert. He is the founder and principal of GoodField Investments and the GoodField Foundation (www.GoodField.com).

Joe has a Ph.D. in Entrepreneurial Leadership and an MBA. He is the author of the upcoming book on The Science of Why Most Entrepreneurs Fail and Some Succeed.

Most importantly, he is the incredibly blessed husband of one amazing wife and father of six wonderful children. He resides in Bradenton, Florida. For more information on Dr. Johnson and his work, go to www.JoeJohnson.com.