Buying a business? Read this before you sign a letter of intent.
By the AceTheSBA team
Buying an existing business is one of the most common uses of an SBA 7(a) loan, and the most tightly regulated. Appendix 15 of SOP 50 10 8.1 sets rules for every change of ownership. Most of them matter before you agree on a price.
Six rules that shape the deal
- Equity: at least 10% of total project costs, and for an initial acquisition it cannot be reduced.
- Seller notes: a seller note on full standby counts toward your equity, but limited sources like it can cover no more than half of the requirement.
- Coverage on history: the business’s last fiscal year, or the average of its last two, must cover all debt after the purchase at least 1.25 times. Your projections cannot be used to meet it.
- Valuation: every purchase needs an independent valuation, and total debt cannot exceed it. Anything you pay above the valuation comes from equity.
- The seller leaves: the seller cannot stay as an owner, officer or employee. They can consult for no more than 24 months in total.
- No earnouts: seller earnouts are prohibited.
The lender’s view
A purchase that only works on your projections does not work for an SBA lender. The seller’s tax returns, verified with the IRS, are the starting point for every acquisition file.
Your move this week
Before you sign a letter of intent, ask the seller for three years of tax returns and financial statements. Test the price: take the business’s cash flow and divide it by a full year of payments on the loan you would need. If the answer is below 1.25, the price or the structure has to change.
Where do you stand?
The SBA Readiness Report recognizes a business purchase, matches you to the right program and flags the equity and coverage issues a lender will raise. It takes six minutes and costs $19.99.
This week’s tool
Business Valuation Estimator
Tests whether an asking price is supported before you make an offer.
$29.00