The U.S. Small Business Administration (SBA) offers two options for borrowers looking to purchase real estate for their business – the 7(a) program and the 504 programs. We will discuss each but note that the 7(a) program is utilized by most potential borrowers who come to SbaLenders.com due to efficiency and effectiveness of the program.
Short Summary
- SBA real estate loans offer small business owners lower interest rates and smaller down payments.
- Businesses must meet credit requirements, business size criteria, and owner occupancy to qualify for SBA 7(a) or 504 loan programs.
- Successful businesses have leveraged these financing options to acquire land, finance construction & purchase equipment with low down payment & long repayment terms.
Understanding SBA Real Estate Loans
When it comes to financing commercial real estate, SBA real estate loans offer small business owners a valuable opportunity. These loans are designed to help small businesses purchase or improve commercial properties, with two main types available: SBA 7(a) and 504 loans. SBA express loans are another option, but they’re not specifically tailored for real estate purposes.
SBA real estate loans have lots of advantages. Lower interest rates than non-guaranteed commercial real estate loans and smaller down payments are just two of them. To be eligible for these loans, businesses must be for-profit, located and operating in the US, and meet the SBA’s definition of a small business. Additionally, good credit, at least two years of operation, and strong finances are required. For existing buildings, the real estate must be predominantly owner-occupied – specifically over 50%.
SBA 7a Loans: A Closer Look
As the most widely utilized SBA loan guaranteed by the Small Business Administration, the SBA 7a loan is a part of the SBA loan program and offers a flexible financing option for a variety of purposes, including:
- Acquiring owner-occupied commercial real estate
- Funding working capital
- Purchasing a business
- Covering startup costs
With more lenient qualifications than other loan types, SBA 7a loans can be used for a range of objectives and feature repayment terms of up to 25 years for real estate investments.
SBA 7(a) loans are commonly used for real estate purchases such as land acquisitions or leases, building purchases, expansions or renovations, new building construction, equipment purchases, inventory purchases, working capital, and debt refinancing in certain scenarios. However, these loans do come with various fees, including loan packaging fees, collateral appraisals, environmental investigation reports, and legal fees, among others.
Advantages of SBA 7a Loans for Real Estate
One of the main advantages of SBA 7(a) loans for real estate is the ease of qualification. The SBA sets more lenient criteria compared to other loan types, making it easier for many small businesses to qualify. Moreover, SBA 7(a) loans are versatile and can be utilized for a variety of real estate purposes, including the acquisition or renovation of a property that will be at least 51% owner-occupied.
Another key benefit of SBA 7(a) loans is the non-recourse feature. This means that if the borrower defaults on the loan, the lender can only seize the collateral pledged for the loan, and not the borrower’s personal assets. However, it’s important to note that SBA 7(a) loans require significant documentation and are not available for investment properties.
Eligibility Criteria for SBA 7a Loans
To qualify for an SBA 7(a) loan, borrowers must meet several eligibility criteria. For instance, credit requirements, business size, and owner-occupancy are all important factors. Having acceptable credit is essential for most 7(a) loans or 504 loans offered by the SBA. There is no minimum credit score requirement set by the SBA, but in practice we see lenders wanting credit scores of 680 or higher.
Certain types of businesses, such as real estate investment companies or those engaged in speculative activities, are not eligible for SBA 7(a) loans for commercial real estate. For new construction properties purchased with an SBA 7(a) loan, businesses must occupy a minimum of 60% and work towards achieving 80% occupancy within a period of ten years.
Common scenarios where SBA 7a Loans are used to purchase real estate
SBA 7(a) loans are frequently employed for commercial real estate acquisitions, business expansions, and property enhancements. For instance, businesses seeking to acquire land, finance construction, purchase equipment, and obtain working capital can benefit from these loans.
When it comes to business expansion, SBA 7(a) loans can help finance the growth of existing businesses, including:
- The purchase of additional equipment
- The hiring of more personnel
- Property improvements, allowing businesses to remodel or repair existing commercial real estate.
SBA 504 Loans
SBA 504 loans provide financing for commercial real estate and large equipment, with a unique structure involving a collaboration between a lender and a certified development company (CDC). With competitive interest rates, low down payments, and favorable terms, SBA 504 loans can be an attractive option for small businesses in need of financing.
The maximum loan amount for an SBA 504 loan, funded with the help of a lender and a 10% contribution from the borrower’s business, is $12.5 million. To be eligible for an SBA 504 loan, borrowers must satisfy the criteria of the lender, the Small Business Administration, and the Certified Development Company, as well as provide the necessary documentation.
Benefits of SBA 504 Loans
One of the main advantages of SBA 504 loans is their lower interest rates, which typically range from 3% to 7%. These loans can also be used for investment properties, provided that the majority of the asset is occupied by the business.
The unique loan structure of SBA 504 loans, involving a CDC, third-party lender, and the borrower, can provide businesses with a more flexible financing solution. This structure can be especially appealing in an environment of rising interest rates, as the fixed low rate on the CDC portion of the loan provides stability and predictability for borrowers.
Comparing SBA 7(a) and 504 Loans
While both SBA 7(a) and 504 loans are designed to help businesses acquire or improve commercial real estate, they differ in several ways, making them suitable for different financing needs. SBA 7(a) loans are more flexible in terms of use cases and have more versatile eligibility criteria, whereas 504 loans offer more competitive interest rates and larger loan amounts. In addition, 504 loans must be fully collateralized whereas 7a loans do not.
Choosing between an SBA 7(a) and 504 loan will depend on your specific business needs, the amount of financing required, and the type of project you’re undertaking. Due to the collateral requirements of 504 loans and the added loan complexity, many more 7a loans are underwritten for real estate versus 504s.
Navigating the SBA Real Estate Loan Application Process
To apply for an SBA real estate loan, you’ll need to find a lender approved by the SBA and submit the necessary documentation. Required documents include the SBA’s borrower information form, statement of personal history, personal financial statement, personal and business tax returns, business license, business financial statements, lease agreement (if applicable), real estate appraisal, environmental investigation report questionnaire, cost breakdown, and a copy of any purchase agreements.
The processing time for SBA real estate loans varies depending on the loan type and project complexity. Typically, SBA 7(a) and 504 loans have a processing time of 2-3 months. To expedite the process, you can use our Lender Connect tool, which connects borrowers with lenders within eight hours of submitting a request.
SBA lenders typically require numerous reports before approving an SBA loan. The real estate appraisal assesses the value of the property, while the business appraisal evaluates the worth of an existing business. Environmental studies help identify any potential environmental risks or liabilities associated with the property, and equipment appraisals determine the value of machinery and equipment. Understanding the time and cost ranges involved in obtaining these assessments can help borrowers prepare for the loan application process and ensure a smooth transaction with an SBA lender.
The table above provides a breakdown of the estimated time and cost ranges for several essential items commonly requested by SBA lenders lenders during the loan underwriting process:
| Item | Time Needed | Cost Range |
|---|---|---|
| Real Estate Appraisal | 2 to 4 weeks | $2,000 – $5,000 |
| Business Appraisal | 2 to 6 weeks | $2,000 – $5,000 |
| Environmental Study | 2 to 6 weeks (or more) | $1,500 – $3,000 |
| Equipment Appraisal (1) | 1 to 3 weeks | $1,000 – $2,000 |
| Total | 7 to 19 weeks | $6,500 – $15,000 |
(1) Equipment appraisal is only needed if a large portion of the loan’s collateral.
The total time needed ranges from 7 to 19 weeks, considering the longest time frame for each item. The total cost ranges from $6,500 to $15,000, considering the highest cost range for each item.
Owner-Occupied Commercial Property Requirement
The owner-occupied requirement is important SBA loans, and this requirement not being met is the top reason why see SBA real estate loans are declined by lenders. Borrowers must occupy at least 51% of the commercial property they intend to purchase or refinance using the SBA loan. This requirement ensures that SBA loans are primarily targeted towards operating small businesses and not passive investments.
Here are a few examples of real estate loan ineligibility:
Real Estate Investor – Suppose an individual who primarily engages in real estate investment activities applies for an SBA loan to purchase a commercial property. However, their intention is to lease the entire property to third-party businesses without occupying it themselves. In this case, the loan may be declined as the borrower does not meet the owner-occupancy requirement.
Personal Use Property – If an applicant intends to use an SBA loan to purchase a commercial property but plans to use it for personal purposes or lease it to non-business entities, it would not meet the owner-occupancy requirement. For example, if someone seeks an SBA loan to acquire a building and convert it into residential apartments for rent, the loan would be declined.
Change in Occupancy: Suppose a business owner has been approved for an SBA loan based on their intention to occupy the majority of the property but later decides to change their plans and lease a substantial portion of it to other businesses. If the change in occupancy violates the owner-occupancy requirement, the SBA may decline the loan or call the loan due, depending on the circumstances.
Business owners should carefully review their plans for the property and consult with an SBA lender or advisor to ensure they meet the necessary criteria for an SBA loan. With our Lender Connect tool, we ask borrowers questions about their real estate plans to assist in ascertaining eligibility.
Popular uses of SBA real estate loans
There are many industries in which SBA real estate loans are utilized. Here are the top industries based on last year’s loan data:
| Rank | Industry | Avg Loan | Avg Interest | # of Loans |
|---|---|---|---|---|
| 1 | Hotels and Motels | $2,766,352 | 5.9% | 640 |
| 2 | Full-Service Restaurants | 1,324,133 | 6.2% | 275 |
| 3 | Child Day Care Services | 1,504,360 | 6.2% | 168 |
| 4 | General Automotive Repair | 1,025,844 | 6.1% | 158 |
| 5 | Limited-Service Restaurants | 1,118,511 | 5.9% | 123 |
| 6 | Lessors of Nonresidential Buildings | 1,386,010 | 6.0% | 118 |
| 7 | Homes for the Elderly | 1,291,041 | 6.1% | 116 |
| 8 | Offices of Dentists | 1,077,621 | 5.0% | 109 |
| 9 | Car Washes | 2,078,204 | 6.0% | 98 |
| 10 | Doctors Offices | 1,084,797 | 5.0% | 95 |
Hotels
Hotels and restaurants are the top two industries for SBA loans. In general, SBA lenders prefer flagged hotels to unflagged hotels. If an independent hotel, lenders prefer a unique property – e.g., an 40 year-old hotel right on the beach in a tourist town – as opposed to a run-of-the-mill hotel which may struggle with customer demand.
Restaurants
Restaurant owners and hotel operators traditional take out more SBA loans than any other industry. Restaurant owners in unique locations often prefer to own their locations outright to build real estate over a long period of time as opposed to being a tenant on a real estate lease.
Car Washes
Car wash businesses have also benefited from SBA real estate loans. By securing financing through SBA 7(a) or 504 loans, these businesses have been able to purchase or improve their properties, purchase equipment, and obtain working capital for expansion.
These loans have enabled car wash businesses to expand their operations, increase their customer base, and improve their operations.
These businesses have been able to take advantage of the SBA’s loan programs to expand their business.
Nursing Homes
Long-term care facilities, skilled nursing facilities, and residential care facilities – informally called nursing homes – have also taken advantage of SBA real estate loans, such as the SBA 504 loan program. These loans have provided nursing homes with the opportunity to acquire essential fixed assets, such as real estate, buildings, and new equipment, while benefiting from competitive interest rates and long repayment terms.
Current leasing tenant looking to acquire occupied real estate
SBA real estate loans are commonly used by operating businesses to purchase properties they have historically leased for several reasons. Here are a few key benefits that make SBA real estate loans an attractive option for business owners in such situations:
1. Stability and Control: Owning the property provides stability and control over the business’s location. By purchasing the property, the business is no longer subject to potential rent increases, lease terminations, or changes in lease terms. This stability allows the business to plan for the long term and invest in improvements to tailor the property to its specific needs.
2. Equity Building: When a business leases a property, it essentially pays rent to the landlord, providing no long-term value or equity. However, with an SBA real estate loan, the business starts building equity as it pays down the mortgage. Over time, this equity can be leveraged for future expansion, renovations, or even as a down payment for additional properties.
3. Potential Cost Savings: In some cases, the monthly mortgage payments for an SBA real estate loan can be comparable or even lower than the monthly rent for a similar property. This can result in significant cost savings for the business over the long term. Additionally, mortgage interest and property taxes may be tax-deductible, providing additional financial benefits.
4. Asset Appreciation: Real estate has the potential to appreciate in value over time. By owning the property, the business can benefit from any increase in its market value. This can serve as a valuable asset that may contribute to the overall financial health of the business.
5. Customization and Expansion Opportunities: Leased properties often come with limitations on customization and expansion. However, when a business owns the property, it has the freedom to modify and expand the space according to its specific requirements and growth plans. This level of flexibility can be crucial for businesses that anticipate future expansion or changes in their operations.
6. Access to SBA Loan Programs: The SBA provides favorable loan terms and lower down payment requirements for eligible businesses seeking real estate financing. SBA loans typically offer longer repayment terms and lower interest rates than conventional loans, making them more accessible and affordable for small businesses.
Final Thoughts
SBA real estate loans, including the 7(a) and 504 loan programs, offer small business owners valuable financing options to purchase or improve commercial properties. With their government-backed guarantee, lower interest rates, smaller down payments, and flexible terms, these loans can be a game-changer for your business. By understanding the differences between SBA 7(a) and 504 loans, their respective benefits, and the application process, you can make informed decisions and take advantage of the opportunities these loans provide to help your business grow and prosper.
Frequently Asked Questions
What is the interest rate for SBA real estate?
The current SBA 7(a) loan interest rate is set according to the Wall Street Journal Prime + 2.75%, 3.75%, or 4.75% depending on the loan amount; with the prime rate currently set at 8% as of May 2023.
When must SBA real estate loans be repaid?
SBA real estate loans must be repaid within 25 years. This repayment period is applicable for both 7(a) and 504 loans, with the exact terms of the loan being dependent on factors such as the applicant’s credentials and the lender.