University of Massachusetts Amherst

Family Business Center

Having the Government Involoved in Your Financing Isn't Necessarily a Bad Thing

Over the years Business owners have often frowned when their Banker recommends a loan in conjunction with the SBA (U.S. Small Business Administration). In fact many Bankers are reluctant to even recommend the programs due to the fear of dealing with red tape, loan fees, and general overall aggravation. It may be time for both Bankers and Business owners to reconsider this outlook as some of the programs may end up being very advantageous for even the most successful Business owner.

One program in particular bears serious consideration for established or growing companies looking to finance major equipment purchases, fund real estate purchases or to expand their existing operating facility. The SBA’s “504” program is geared toward owner occupied real estate but can also include equipment financing, assuming the useful life of the equipment is ten years or more. The biggest advantages of the program include the ability to finance up to 90% of project cost while at the same time securing low, long term, fixed interest rates for periods of up to 20 years.

The SBA’s 504 loan is essentially two loans. Your Bank provides a first mortgage for 50% of the project costs and the SBA makes a direct loan for the other 40% typically in the form of a second mortgage. The SBA portion of the transaction is underwritten by a third party known as a Certified Development Corporation, several of which are licensed in western Massachusetts. These specialists can work through the paperwork with relative ease. Fees are rolled into the SBA’s portion of the financing and rates are quoted on an effective basis, therefore include consideration of virtually all costs.

Another advantage of the program is the extended fixed interest rate available. Commercial Bankers are typically reluctant to offer interest rates fixed for more than five or ten years. Under the 504 program, the SBA portion is provided at a fixed rate for up to 20 years. The 20-year effective rate as of February 15, 2006 was a very attractive 6.98%. Given the general consensus that rates are historically low, the ability to secure a long-term fixed rate appeals to many borrowers. Furthermore, the loan is assumable and may actually have added value if the property and Note is sold at a time when interest rates are higher.

There are certain considerations that must be addressed before entering into a 504 transaction. Loans under the program do have extended prepayment penalties (which are not incurred if the loan is assumed) and subsequent increases to the original mortgage amount may be subject to more stringent underwriting requirements than originally required. Projects financed under the program are typically between $500,000 and $5,000,000 with larger amounts available for manufacturers.

In summary, the SBA’s 504 program offers increased financing with long-term attractive fixed interest rates for company’s ready to expand. If this program seems like a good fit for your business, be sure to ask your Banker or Accountant for more information.

Michael R. Grandfield is VP-Commercial Lending for Hampden Bank, a sponsor of the UMass Amherst Family Business Center

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