When applying for a Small Business Administration (SBA) loan, it’s important for borrowers to be aware of the insurance requirements set forth by the SBA. These requirements ensure that the loan collateral is adequately protected in the event of unforeseen circumstances. In this article, we will outline the insurance requirements for SBA loans, covering hazard insurance, flood insurance, and life insurance. For all three types of insurance, coverage must contain a mortgagee clause/lender’s loss payable clause in favor of the SBA lender.
Hazard Insurance (aka Business Property Insurance)
The SBA requires hazard insurance on all assets pledged as collateral. Additionally, if the business is located in a state that mandates additional coverage such as wind, hail, earthquake, or other perils, the borrower must maintain a separate policy. The coverage must be in the amount of the full replacement cost. If full replacement cost insurance is not available, coverage must be for the maximum insurable value. For SBA loans under $500,000 for non-real estate collateral (personal property), SBA requires hazard insurance in accordance with the lender’s hazard insurance policies for their similarly-sized non-SBA guaranteed commercial loans.
SBA flood insurance requirements are based on the Standard Flood Hazard Determination and the National Flood Insurance Program (NFIP). Borrowers must obtain flood insurance if any building (including mobile homes), machinery, equipment, or inventory is located in a special flood hazard area.
Private flood insurance will be accepted if it meets the same requirements as the standard NFIP policy. It must provide coverage that is at least as broad as the coverage provided under the NFIP policy. The insurance coverage must be at least equal to the outstanding principal balance of the loan or the maximum limit of coverage made available under the National Flood Insurance Act of 1968, whichever is less.
Life insurance requirements apply to all SBA 7(a) loans. Lenders must follow their internal policies for similarly-sized non-SBA guaranteed commercial loans. If life insurance is required, the lender must obtain a collateral assignment that identifies the lender as the assignee.
If the business is located in a state that requires additional coverage for natural disasters like wind, hail, earthquake, etc., the borrower must maintain a separate policy that includes these additional coverages. In addition, the SBA lender may require other insurance, such as industry-specialized insurance, e.g. malpractice insurance or product liability insurance.
It’s crucial for borrowers to understand and comply with these insurance requirements to ensure the protection of their assets and to fulfill the SBA loan terms. Failing to maintain the required insurance coverage may result in defaulting on the loan and potential financial loss. Therefore, it’s advisable for borrowers to consult with their SBA lender and insurance providers to ensure they meet all the necessary insurance requirements for their SBA loans.