When Should You Apply For an SBA 504 Loan For Small Business Funding?

Written by: Mark J. Krupp, Cofounder of NewBusinessCreator.com

SBA 504 loans are one of the less well known SBA loan programs that small businesses may use for business financing. In most cases, when most individuals state that they’re getting an SBA loan, it is usually an SBA 7(a) loan. Of the two major SBA loan programs, the SBA 7(a) loan program is by far the most popular. One of the main reason behind why people want a 7(a) loan instead of a 504 loan is mainly because the SBA 7a) loan has much fewer limitations about what the money can be utilized for. Furthermore, 7(a) loans usually have better rates and terms than 504 loans.

BA 504 Loan For Small Business

When Should You Apply For an SBA 504 Loan For Small Business Funding?

Some small business owners opt for an SBA 504 loan over a 7(a) loan because their financing needs exceed the maximum loan limits of a SBA 7(a) loan. The most you may borrow with a 7(a) loan is $5 million. SBA 504 loans don’t have a maximum limit. The reason for this, is because the SBA loan program is made up of two distinct loans. With a 504 loan, as much as 40% of the funding is provided by a Certified Development Company and guaranteed by the SBA. A private loan company provides the remaining debt financing. There is an upper limit to the financing that is secured by the Small Business Administration. On the other hand, there is no maximum limit imposed on the traditional loan portion of the funding.

There are a few situations when an SBA 504 loan could be a better option than a 7(a) loan. One main reason some small business owners apply for an SBA 504 loan instead of a 7(a) loan is because the collateral demands are a lot less for a 504 loan when compared to a 7(a) loan. The SBA typically only requires that the business assets bought with the 504 loan along with other fixed business assets be utilized to collateralize the borrowed funds. Conversely, 7(a) loans frequently require the borrower to provide even more assets including inventory, accounts receivables, home equity, along with other personal assets.

One of the reasons SBA 504 loans aren’t as popular as 7(a) loans is because 50% or more of the financing is a conventional loan. The rate of interest and loan terms are totally up to the discretion of the private loan company. The SBA does not set any limitations on these loans. In most cases, however, the rates are much better than 100% conventional loans. Private lenders usually reduce the rates of interest on these loans because the SBA 504 loan is put in second position to their loan. This then places them in first position to be repaid from liquidation of the collateral if a borrower defaults on the loan. Therefore, the private loan company has more protection from a default in comparison to loans where they are providing 100% of the funding.

Another downside of SBA 504 loans is that they may only be utilized for buying fixed assets. SBA 504 loans cannot be utilized to obtain inventory or goodwill. These loans also can’t be used for working capital. Should you need funds for buying inventory, goodwill or for working capital, you will need to sign up for an SBA 7(a) loan.

SBA 504 loans are mainly used for business expansion and improvements. One popular use of SBA 504 loans is for buying commercial real estate, including raw land and commercial buildings. Another use of 504 loans is for building improvements, landscaping or for putting in utilities. One other use of SBA 504 loans is for purchasing machinery and equipment which has an expected life-span of 10 years or more.

In conclusion, the main reason why a borrower would potentially prefer a SBA 504 loan over a 7(a) loan is because it has much less collateral demands. The only additional reason why a borrower might pick an SBA 504 loan rather than a 7(a) loan is that their funding requirements are more than the $5 million permitted by the SBA 7(a) loan program. Otherwise, SBA 7(a) loans are better than 504 loans simply because they have fewer restrictions and due to their offering better rates and loan terms.

When you apply for an SBA loan, you need to realize that you don’t fill out an application directly to the SBA. You must apply to banks or other special loan companies for SBA loans. In past times, the biggest suppliers of SBA loans for small businesses were neighborhood community banks. Sadly, a large number of community banks have gone out of business during the last twenty years. As a result, this source of SBA loans has dramatically decreased. Concurrently, large banks are becoming a larger part of the banking sector. This is not a good trend, because big banks are not that enthusiastic about small business lending. The good thing is that non-bank SBA loan providers are rapidly filling the void in small business financing. A good example of these non-bank SBA lenders is Newtek, the small business authority. Started in 1994, Newtek has become the biggest non-bank SBA loan provider in the US. Newtek was also ranked as the 6th most active SBA 7(a) lender of all loan providers, including banks, by the Small Business Administration. In most cases, Newtek can get you pre-qualified for as much as five million or as little as fifty thousand dollars within 2 days. The application process is simple. Newtek completes all of the loan documents for you.

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