How to Get a Loan to Buy a New Business
To get a loan to buy a business, an individual must first select what business to buy. Then they must pick the type of financing which best suits their needs and means. It’s important to investigate the history of the business and get a projection of future profits and consider those numbers concerning the cost of the business. The borrower typically needs a credit score of at least 650 to qualify for a loan, and most loans ask for a down payment of at least 20%. Most lenders will ask for a letter of intent signed by both you and the owner you are planning on buying from. The letter of intent works as evidence for lenders that you will purchase the business under the condition that you get the necessary funding.
It’s important to shop around for the loan that works best for your particular situation. We’ve broken down some different financing options for you below.
Business Line of Credit
If you already own a similar business and want to use its cash flow to purchase another business, a business line of credit might be the ideal option. The maximum limit of the line of credit you qualify for and the interest rates are mainly going to be determined by a combination of your business and personal credit rating. As with personal lines of credit a business line of credit can be drawn upon and paid off freely, and you are only charged for the interest on the money you owe.
Refinance Your Home
If you are making payments on your home, you may be able to get a home equity line of credit to fund the acquisition of the business. A home equity line of credit using the equity (the difference between the value of your home and the amount of debt you have on your mortgage) of your home as collateral. Using your home as collateral can help you qualify for a larger loan with more favorable terms. However, it’s important to remember that many business acquisitions are risky ventures, and it’s not always wise to risk your home.
Rollover for Business Startups (ROBS)
In most cases, if you have more than $50,000 in a 401(k) or a retirement account, you may use it to qualify for an SBA loan. You can do this while avoiding penalties or taxation by basically declaring the business you’re buying as part of your retirement plan, the business is technically owned by your plan and not you the individual. While this is a cost-effective way to buy a business, it is also a high-risk way to buy a business. If the business fails, then you not only lose the income from the business, you lose your savings as well.
SBA 7a Loans
If your business meets the size standards and is a “sound business idea” it could be accepted by the SBA. SBA loans are backed by the Small Business Administration (SBA) which guarantees the loans lowering the risk for lenders. This leads to lower rates than most conventional business loans, but also more restrictions. There is also a notable increase in paperwork, as you need the approval of both the SBA and the private lender. To qualify for an SBA 7(a) loan the business you’re buying needs to have fewer than 500 employees and have an annual revenue of less than $7 million. SBA 7(a) loans can be up to $5 million.
While SBA loans can be more complicated to navigate, they are most often worthwhile as the saving are significant.
The Seller agrees to take financing of the loan. In this way, if the Seller is not paid, they can take-over the business again. Since this is an agreement between the seller and the buyer no bank needs to be involved (although it’s a good idea to involve a lawyer). All aspects of this form of financing are decided in negotiation between the seller and the owner. If you don’t know the seller personally you are very unlikely to get 100% financing, but you can on occasion get 75% of the purchase financed by the seller, and financing of the final 10-20% is quite common. Interest rates are also to be determined in negations, but they are not often below prime. Generally, the less you pay down for business, the more interest the seller is going to ask for to compensate them for their risk.
Starting a new business can be a lot of work, and getting the funds to get things going doesn’t make things any easier. With some dedication and the right information, however, you can get the financing you need and start the business you’ve always wanted.