After nine months of ongoing shutdowns across the U.S., Congress came together late this past December to pass a relief bill aimed at helping those impacted by the COVID-19 pandemic. Deep within the legislation were enhancements to the 7(a) loan program through the U.S. Small Business Administration (SBA). These steps are meant to stimulate the economy — and likely will.
Commercial mortgage brokers should take a close look at this program when looking for ways to help their small-business clients. Recent enhancements to the program have essentially handed money to entrepreneurs willing to start businesses, save jobs and acquire real estate.
Small businesses are the lifeblood of our economy, accounting for about half of all private-sector jobs in the U.S. When small businesses close or lay off employees, the effects ripple throughout the economy. This once-in-a-century pandemic has been especially challenging for small businesses. These companies typically don’t have a strong enough balance sheet to weather the stifled demand and lower customer-traffic counts that too many have experienced due to rolling shutdowns and social distancing.
After the initial shutdowns in March 2020, Congress passed the Coronavirus Aid, Relief and Economic Security (CARES) Act and created the Paycheck Protection Program (PPP), which basically provided loans to small businesses in amounts up to 250% of their monthly payroll expenses, not to exceed $2 million, and later to be forgiven if they followed certain guidelines.
Congress passed a second draw for the PPP in December of last year, which was aimed at helping small businesses that experienced a 25% decline in revenue. Needless to say, this was too late for some businesses and, predictably, a job-loss number of 140,000 occurred that month.
As we work toward reaching the other side of this pandemic, the U.S. must focus on further stimulating the economy and creating jobs. One of the major levers that Congress has to assist in this effort is through the SBA and its capital-access programs, primarily the flagship 7(a) loan.
Adding rocket fuel
In fiscal year 2019, the SBA approved more than 58,000 loans through its 7(a) and 504 loan programs, injecting more than $28 billion into small businesses, the agency reported. This supported about 550,000 jobs nationwide.
It’s clear from these numbers that thousands of small-business owners rely on the agency for affordable capital. The 7(a) program allows small businesses to borrow up to $5 million for business and commercial real estate acquisitions, partner buyouts, equipment, inventory, leasehold improvements and permanent working capital.
The SBA’s programs are meant for those who don’t have access to conventional financing with reasonable terms. The 7(a) loan offers some of the longest amortizations and lowest equity-injection requirements in the marketplace. It’s also free of any balloon notes and loan covenants, providing small-business owners with a level of certainty that is hard to find elsewhere.
There are three major enhancements that have energized the 7(a) program for all new loans approved between Feb. 1 and Sept. 30, 2021. First, the federal government has increased its loan amount guarantee. The SBA doesn’t fund these loans; banks and 14 nonbank lenders do. The SBA provides the lender with a guarantee that it will subsidize a portion of the lender’s losses in cases of default.
The guaranteed percentage is generally 75%. In the recent legislation, however, Congress increased it to 90%, significantly reducing a lender’s exposure. This will allow lenders to make loans to small businesses that they otherwise wouldn’t have.
Second, the government has temporarily waived the SBA guarantee fee. Historically, the 7(a) loan has been a zero-subsidy program that was paid through borrower and lender fees. This waiver translates into significant savings. The borrower’s guarantee fee on a $1 million loan is typically about $26,000. It’s calculated as a percentage of the guaranteed portion of the loan on a tiered basis. For a $5 million loan with a 75% guarantee, the fee would be closer to $140,000.
Lastly, borrowers can now qualify for three months of payment relief for new loans approved between Feb. 1 and Sept. 30, 2021. On Feb. 16 of this year, the SBA adjusted its original guidance. Initially, all new 7(a) loans were scheduled to receive six months of relief. The revised benefit, however, is still substantial. The first three SBA loan payments will be paid by the federal government with a cap of $9,000 per month.
For example, on a 10-year, $1 million loan, these enhancements equate to more than $50,000 in incentives (which is a fancy word for “free money”). Savvy entrepreneurs will see this and recognize that now is the time to act. Why? Three words — return on investment.
Congress has created SBA 7(a) loan enhancements to incentivize folks with cash who are sitting on the sidelines.
Entrepreneurship boils down to return on investment. “Cash management” is another way to phrase it. Cash is a precious commodity to a small-business owner. Each day, they must determine where to invest their dollars to achieve the highest return. Do they buy more inventory or hire a new employee? Do they invest in a new software system or buy a new piece of equipment?
Small-business owners and aspiring entrepreneurs alike have been told for the past 12 months to add liquidity as we brace for unprecedented uncertainty. Now that we’re deep into the pandemic and the election year is behind us, the outlook appears more certain for the small businesses that made it through. Congress has created SBA 7(a) loan enhancements to incentivize folks with cash who are sitting on the sidelines. They can invest in growing their business, thereby creating more jobs and stimulating the economy.
Entrepreneurs can put their capital to work with an SBA 7(a) loan in three major ways. First, they can use the funds to acquire an existing business. Acquisitions are on the rise as more baby boomers retire and sell their businesses, and the pandemic has only sped up this progression.
Second, a 7(a) loan can cover up to 90% of the acquisition costs of an existing business plus working capital to cover expenses during the transitionary months. An acquisition not only retains a company’s existing jobs but can create new ones. Sellers often get burned out toward the end of their journey. When a spry buyer comes along, they are likely to inject some fresh blood into the business and add new positions.
Needless to stay, starting a business is the quickest way to add new jobs and spur the economy, but entrepreneurs sometimes opt to open a franchise as a less risky alternative. A third option for a 7(a) loan can be to finance up to 90% of the total cost to open a franchise while providing working capital for the ramp-up period.
With the potential end to the pandemic in sight, it’s time for businesses to shift their focus from merely surviving to becoming a thriving part of their community.
These loans are a tool that a small business can use to achieve greater financial security. Owning the real estate that houses the business is the smartest move a small-business owner can make. It often becomes the cornerstone of their nest egg and puts them in control of their physical location. The 7(a) loan can only be used for owner-occupied purchases.
The 7(a) loan is intended for businesses occupying the space, but the properties can still generate rental income for the owner. As long as the business plans to occupy at least 51% of the square footage, an SBA loan can be used to purchase real estate and make improvements.
These enhancements should allow the business owner to stretch a little further and buy something that they can grow into. Best of all, SBA 7(a) loan proceeds can be used for equipment, inventory and working capital so that the business has the necessary cash to capitalize on the additional space.
There has never been a better time to pursue this option. If approved by Sept. 30, 2021, the SBA will waive the guarantee fee and cover the first three payments. The federal government is essentially paying small businesses to make investments into the economy.
The Federal Reserve also is playing an important role in keeping interest rates near historic lows, and Fed policymakers signaled that benchmark rates will remain near zero through 2023. This provided much-needed relief to borrowers early on in the pandemic and makes new loans even more affordable for small-business borrowers.
The year 2020 challenged small-business owners like no one could have imagined and many of them had to fight hard to survive. Businesses had to reduce their expenses while innovating and adapting to ever-changing situations.
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With the potential end to the pandemic in sight, it’s time for businesses to shift their focus from merely surviving to becoming a thriving part of their community. Now is the time for lenders and small-business owners, with the aid of commercial mortgage brokers, to step up to Congress’ call to action and help get the pistons of America’s engine back into motion. ●