Using the SBA 7(a) Loan for Start-Up Funding
Being a start-up means going your own way, being free to innovate in your industry and, often, facing severe money shortages and funding challenges. That’s why the Small Business Administration (SBA) has been making loans to companies like yours possible for decades. You deserve to see your dreams come to life, even if you lack the start-up funding that your competition may have.
The most common loan guaranteed through the SBA for companies like yours is the SBA 7(a) loan. It doesn’t come directly from the SBA, but they guarantee a portion of the balance. This reduces the risk to banks that are willing to make these loans, making it easier for your business to get approval with lower credit and financial standards. It’s a big win for everybody because start-ups often face some fierce financial challenges!
Top 4 Financial Challenges for Start-Ups
Owning a start-up gives you the freedom to create and innovate in a space with nearly no boundaries—provided that you can maintain your funding. Keeping the books balanced and the money flowing are some of the most significant challenges for start-ups. This is why half of all start-ups will be out of business by their fourth year, and 71% won’t make it through their first decade.
Really successful start-ups become that way because of what they bring to the market and what they’re doing behind the scenes to keep the business end healthy. This may mean getting an SBA 7(a) loan to help properly fund operations or to focus efforts in top problem areas, like:
Sales and marketing. It’s one thing to hang out your shingle and wait for customers to find you, and yet another to pound the pavement and start paying for advertisements. The first can result in a trickle of business that may leave you unable to pay the electricity bill. The second may land you in serious debt—but ultimately pay off big time.
Contingency planning. Hope is a thing with feathers and something that every start-up owner needs. Having hope doesn’t mean that you can’t also have a plan in case something goes wrong. Some things you simply can’t control, like the weather, which can have huge repercussions for your business. Contingency planning that includes some kind of monetary cushion will help you ride out the worst storms, even as your competition tatters in the wind.
Human resources. You can certainly work without an HR department while you’re small, but as your company grows, you’ll need an objective third party to mitigate workplace disputes, enforce company policies, and evaluate new candidates. You can’t do everything yourself; hiring is a hugely time-intensive process. Just like sales and marketing are vital for bringing in new leads, HR is critical for finding the right people to handle those precious opportunities.
Scaling up. Your start-up has to get out of the garage at some point. Scaling up should be the end goal, whether you’re still in the basement/garage/spare-bedroom phase or leasing a small commercial space. Unchecked growth is dangerous for any business, but there’s a level to which you can expand to maximize profits. That sweet spot is going to take some money to reach, and maybe even to determine (with the help of big data).
Sources of Funding for Entrepreneurs
If you’ve reached out to an SBA lender before, you may have been told that you had to seek alternative financial resources before you could be eligible for an SBA 7(a) loan. This is a sticking point for many small start-up owners, as they are rightly reluctant to sell their product or service to grandma.
Though you’ll still need to show that you’ve made a reasonable attempt to fund your start-up yourself, there are places to get it other than grandma’s sewing tin. Look under a few rocks, including:
Asking friends to buy in. Maybe it’s a difficult question to ask your grandparents, but your friends are still working and making a living, so presumably some of them can afford to take a little bit of a risk on a start-up. Heck, who knows, they might even get a big return when your company turns into the next Google or Amazon!
Using your credit cards. No one wants to max out their credit cards, but if you’re just using them as a stop-gap to buy supplies or equipment, and can afford the payments after you’re up and running, it’s sort of a means to an end. Think of it as the cost of doing business.
Personal loans. The bank you already have your savings and checking accounts with may be willing to write you a small personal loan to cover some business expenses, so be sure to ask. Signature loans are often based solely on your bank’s internal policies, which can be bent to accommodate good customers.
Grants. Did you know that the government and private organizations offer free money to start-ups all the time? Just spend some time digging around Google and you’re likely to find quite a few grant opportunities. You’ll have to really sell your product or service, but the payoff can be worthwhile.
Other unconventional sources. There are several other sources that might yield some fruit, ranging from microloans to crowdfunding. Some microlenders will have minimum or maximum sales requirements, so be armed with profit and loss statements! Crowdfunding can succeed if you have a really unique product or brand voice to sell, but you’ll have to really work it.
Once you’ve looked into these funding sources and come up short, the SBA will be ready to work with you and your start-up. The loans they make are low cost and relatively low interest, designed to be easy for a small business to handle.
The SBA 7(a) Loan for Start-Ups
The SBA 7(a) loan can be an excellent option for start-ups looking to inject some cash into the ledger. These government-backed loans aim to help small businesses like yours, without sufficient external funding sources, get off the ground and running with enough capital to really succeed. Money shouldn’t be the thing that’s standing between your start-up and success.
How the SBA 7(a) Loan Works
You don’t get SBA 7(a) loans directly through the SBA. Instead, they simply guarantee a percentage of a loan made through a regular bank, credit union, or other lending institution.
Once you’ve shown that you need the funds, and have given the lender a business plan that’s deemed both reasonable and sound, they’ll process your loan and give you the funding. Hopefully you’ve drawn up a careful budget for using those funds, otherwise you could end up in an even bigger pickle!
What Start-Up Costs Can I Use the SBA 7(a) Loan For?
The SBA 7(a) loan can be used for a surprisingly wide range of start-up costs, many that you may not have even realized you could use a hand with. Along with buying merchandise and paying employees, you can also finance these items in many cases:
Land. Now, to be clear, you can’t buy investment land and sit on it; this land has to be the future home of some aspect of your business. But, whether it’s the new warehouse or the new HQ, you can finance it with your SBA 7(a) loan. You can also wrap construction costs into that package.
Existing debt. If your existing debt is becoming a crushing mountain of bills, the SBA 7(a) loan can help you tame it. Instead of 15 payments, you’ll have one—and it’ll have a lower interest rate and a longer term, and the check will be much easier to cut.
New equipment or furniture. Whether you need a conveyor system or a cubicle farm, your SBA 7(a) loan is ready and waiting for you. Maybe one of each?
SBA 7(a) Loan Terms: What the Entrepreneur Needs to Know
There are several things to keep in mind about SBA 7(a) loans before approaching a bank about taking one out. They’re a great product for many businesses, but like any financial instrument, they aren’t ideal for everyone. Here’s what entrepreneurs should note before signing on the dotted line:
Loan amount. SBA 7(a) loans of up to $5 million can be made, but most small businesses won’t qualify for this much money as start-ups. Still, if you can prove that your income potential is there, your bank might consider giving you a million bucks.
Guarantee percentage. SBA 7(a) loans aren’t like home mortgages; you’ll have to put up substantial capital to help buffer any loss that the bank may experience. Loans under $150K are guaranteed by the SBA for up to 85%, leaving you to provide the extra 15%. Loans over $150K are only guaranteed for up to 75%, so you’ll need to put 25% on the table.
Interest rate. SBA loans are subject to SBA interest rate maximums and tied to the prime rate, LIBOR, or another optional peg rate. Generally, if the loan is under $25K and matures in under seven years, you’ll pay base plus 4.25%; a $50K loan maturing in more than seven years will be base plus 2.75%. Rates can be both fixed and variable, so make sure you know exactly what you’re getting before you agree to it. A fixed-rate loan is generally a safer bet, even if the payment is higher initially, since the payment never changes.
Maturity term. Your loan’s maturity rate is based on how much you borrow and your ability to repay the loan, but maximums are set. Real estate loans are capped at 25 years, and equipment loans at max 10, as are loans for working capital or inventory.
Fees. SBA 7(a) loans may be subject to a guaranty fee and a servicing fee. Currently, loans under $150K have no guaranty fee, loans between $150K and $700K will be subject to a 3% guaranty fee, and loans greater than $700K will require a 3.5% fee. Any loans greater than $1 million include an additional 0.25% guaranty fee for any amount over the $1 million mark. All loans are charged an ongoing service fee of 0.520% of the outstanding balance for the life of the loan.
Prepayment penalties. Loans with a maturity of 15 years or more are subject to a prepayment penalty when the borrower prepays 25% or more of the loan within the first three years of disbursement of the loan proceeds. In the first year, it will be 5% of the prepayment amount; during the second, 3%; and in the third, 1%.
Finding the Perfect SBA 7(a) Loan Lender
The perfect SBA 7(a) loan lender is a bank or credit union that you’re comfortable with and that also works with other businesses like yours. It’s important that they understand your business model and how you make money, especially if you’re not opening a standard operation. Your start-up deserves its very best shot at life!
At SBA7a.Loans, we’re all about connecting you with the right lenders to help you maximize your SBA 7(a) loan and get your start-up off on the right foot. You shouldn’t have to worry about money—you should be worrying about all the new customers that are knocking down your door! Get started by grabbing a free quote by clicking the button.