Financing Expansion with SBA 504 The 504 loan program can provide assistance in financing fixed asset acquisitions, such as land, equipment or buildings.
By Teresa Commerford
Taking on a multi-million dollar expansion is intimidating to even the fiercest business owner. Many sleepless nights will pass as the business owner works to accurately budget the project while contemplating future business cycles and economic downturns, along with interest rate adjustments that may occur anytime after the first piece of steel goes up. Also essential to success is the preservation of precious capital to fund the growth in revenues that will generally trail an expansion. SBA 504 The U.S. Small Business Administration’s 504 loan program is specifically designed for fixed asset acquisitions. Banks historically have preferred to offer short-term debt with floating interest rates. Even with a rate adjustment at three years or perhaps five, it is difficult to project what debt servicing obligations will be after an adjustment and whether the business can truly service the debt given potential changes in the marketplace. Banks typically are not willing to fund 100 percent of a project. They usually discount project collateral and prefer to lend, as an example, 50 percent on equipment and 75 percent on real estate. This forces a business to inject more of its limited capital into a project, depleting capital reserves needed to fuel the growth of operating assets that typically follows an expansion.
Low Down Payment In recognizing the needs of an expanding business, the 504 loan program offers two primary benefits: it requires a low down payment—generally only 10 percent—and mitigates interest rate risk by providing a long-term fixed rate on up to 40 percent of the total project cost. A typical 504 project is structured with 50 percent of the project cost funded by the borrower’s financial institution, 40 percent from a “certified development company” (CDC) and 10 percent cash injection. New businesses and special purpose facilities will require additional injection. Injection is not always cash, but may be land or other business assets. To entice banks, the bank has the first lien position on the assets, with the CDC holding a subordinate position. As enticement to borrowers, some soft costs can be included in the project, such as interim interest, title insurance, appraisals and environmental audits. This preserves additional cash.
Selecting a CDC CDCs are designated to serve specific geographical areas by the SBA. Many CDCs serve Missouri and Kansas. Often CDCs have overlapping service areas, which provide business owners a choice. Not all CDCs are alike; some are intertwined with local jobs and tax credit services, some offer government loan packaging services to assist businesses and community banks, and some also offer revolving loan funds to targeted businesses. To identify a CDC serving your area, contact your lender for a recommendation or call the SBA’s district office at (816) 426-4900 for a list.
Good Candidates To be eligible for the 504 loan program, you must be a for-profit company, have a net worth under $7 million and net profit after taxes below $2.5 million annually including affiliates. Loans are for fixed assets only, such as land, buildings, equipment, leasehold improvements, plus eligible related soft costs. Two or more unrelated small businesses may make a 504 request to buy or construct a building. Buildings must be owner-occupied, with the owner using 51 percent or more of an existing building or 60 percent if new construction. Projects cannot be below $125,000. Maximum project size is significantly higher, with a maximum debenture (typically 40 percent of total project) at $4 million for manufacturers, $2 million for companies meeting defined public policy goals, and a $1.5 million cap for a standard project. The average 504 loan exceeded $500,000 in 2006, with projects typically exceeding $1 million.
Process The 504 loan application process is complex, but straightforward. Contact a CDC or your bank to get started. You provide the same basic information to both the CDC and the bank and complete a few SBA-required specialized forms. Both the bank and CDC work to gain approval on the loan request, each contingent upon the other. SBA reviews all documents. It is very important to have a well-defined project with firm bids and cost estimates, as any substantive changes will impact—and may delay—the process toward the 504 closing. For a smooth experience, seek a bank that has experience in 504 lending and both a bank and CDC with seasoned professional lenders to guide you through the process. Then relax, and sleep through the night again.
Teresa Commerford is executive director of EDC Loan Corporation, which provides 504 loans in Missouri, and she is certified by The National Development Council as an Economic Development Finance Professional. Previously, she was senior vice president in commercial lending at US Bank, working the “other side” of 504 lending. You can reach her at (816) 691-2111 or
