Many owners of small businesses have a difficult time obtaining traditional loans at terms that are reasonable to them. Lenders face increased levels of uncertainty when dealing with small firms since these companies have not had the time to build up a credit history.

By offering guarantees to lenders of between 75 and 85 percent of the loan amount in the event of failure, the Small Business Administration (SBA) makes it easier for small enterprises to have access to various sources of finance. In addition to this, it imposes stringent regulations on the terms of loans, making it a cost-effective choice for owners of small enterprises, including franchises. 

To be qualified, you need to fulfill a number of standards, one of which is to use the money in a manner that is consistent with the particular type of SBA loan. For instance, you may put the money into starting a franchise or funding one that already exists. Let's take a look at how two different SBA loan programs could be able to give the financial backing you want for franchisees.

Is Financing a Franchise Possible With an SBA Loan?

You may enjoy the autonomy of running your own business while taking advantage of the support and direction offered by a bigger firm by purchasing a franchise. Owning a franchise might be an excellent choice for you as an investment, depending on your prior work experience and your current financial standing.

SBA loans are aimed for small, independent enterprises. Even franchisees have to meet the criteria for being considered a small business in order to get finance. When the Small Business Administration evaluates a franchise based on criteria such as sales, number of workers, net worth, and income, the franchise must either be completely autonomous or its affiliations must also be taken into account. 

In the last step of the due diligence process, both the franchisee (the owner of the small firm) and the franchisor (the established business) will be scrutinized. The lenders will look at a variety of aspects, some of which include whether or not the franchisor has expertise working in the sector, the geographic reach of the firm, the formation of the brand, and the company's financial soundness.

The following are some examples of applications for SBA loans:

Launching a franchise in a brand-new territory.

Acquiring an existing business from its previous owner as a franchisee

Developing larger franchises

Options for SBA Loans Available for Franchises

The 7(a) loan program and the 504 loan program are the two primary lending choices that are made available to borrowers by the Small Business Administration (SBA).

The 7(a) loan program is well-liked by proprietors of companies since it provides funding of up to $5 million to pay a variety of costs, including working capital, refinanced debt, and the acquisition of supplies. The 504 loan program provides funding of up to $5 million on a long-term basis at a fixed interest rate for substantial fixed asset expenditures such as the acquisition of land, equipment, and real estate.

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SBA Loan 7(a)

Because it is possible to put the money toward a wide range of different things, the 7(a) loan program is one of the most popular types of SBA loans. The owners of businesses have a variety of options available to them, including increasing their operating capital, purchasing machinery or property, constructing new structures, and furnishing offices. This form of loan can fund the initial franchise costs connected with franchises, but it cannot cover the fees related with the development of franchises.

When you take out a 7(a) loan, the amount of money you can obtain is capped at a maximum of $5 million, and both the guarantee and the payback are based on the financed amount. The Small Business Administration (SBA) will guarantee up to 85 percent of loans for amounts of $150,000 or less, and up to 75 percent of loans for greater amounts. The repayment period on loans for real estate and other important fixed assets can be as long as 25 years, while the repayment period on loans for working capital might be as long as 10 years.

SBA 504 Loan and CDC Loan

Although the qualifying requirements and maximum loan amounts for the 504/CDC loan program are comparable to those of the 7(a) program, the focus of these loans is often on more extensive real estate development projects. Because one of the primary objectives of this program is to encourage economic growth within communities, Section 504 loans are disbursed through Certified Development Companies (CDCs).

When building a new franchisee location, business owners can access up to $5 million in funding to purchase long-term equipment, finance construction, or purchase real estate. These are typical costs associated with launching a new location. The following components are often included in the framework of a 504 loan:

The lender will pay for fifty percent of the total project expenses (non-guaranteed)

The CDC will pay for forty percent of the total project expenses (100 percent guaranteed by SBA)

Borrower contributions equaling 10% of the total cost of the project

These loans have maturation rates that range from ten years for machinery and equipment to twenty years for real estate, with the average being ten years. This loan also comes with a charge that is equal to three percent of the total amount borrowed and can be repaid with a loan at a fixed interest rate.

Which Alternative Is the Best Fit for Your Business?

You may be able to satisfy the financial requirements for your franchise by utilizing either the 7(a) or the 504 loan programs. When picking between the two, the scope of the project and the purpose for which the loan money will be put should be your primary considerations.

Let's imagine you've decided to launch a franchise in a different part of the country. It's possible that real estate, building, and long-term equipment may make up the majority of your costs. Since a 504 loan may cover both the property and the machines, this type of loan might be the best choice.

If, on the other hand, you plan to utilize the money for the day-to-day operations of a franchise or for the purchase of an already existing franchise, a 7(a) loan could be a better choice for you. When it comes to working capital, starting expenditures, inventory, and real estate, you have practically limitless options for how to put these cash to use.

Instructions on How to Make an Application for an SBA Franchise Loan

The application process for an SBA franchise loan is quite similar to the application process for a standard loan. On the other hand, you must be prepared to present your papers to the franchise as well as the lending institution.

The following is an outline of the primary stages involved in the application process.

Collect the Necessary Documentation:

To begin the process of applying for a loan, you must first acquire all of the required paperwork. The first part of the procedure will go more quickly and easily if you are as well prepared as you possibly can be. Determine what forms of documentation are required by using either the 7(a) checklist or the 504 Authorization File Library. This contains documents such as individual and company tax returns, financial statements for businesses, and resumes.

Collect the Documentation Regarding the Franchise:

The subsequent significant stage is to collect documentation that are specific to the franchise. You will want to make sure that you have all of the necessary documentation from the franchise prepared and ready for the lender. This may contain franchise licensing agreements, profit and loss figures, and the amount being asked for the franchise.

Locate Your Neighborhood Lending Institution:

When you have all of the necessary paperwork in order, the next step is to search for a lender or Certified Development Company to whom you may submit your application. The Small Business Administration (SBA) offers an online local help tool that can locate certified agencies in your area.

Put in Your Answers and Get Ready for Some Questions:

The actual application will serve as the final stage. If you have took the time to obtain all of the relevant information, you should be well prepared. Nevertheless, you might need to be ready for additional inquiries because of the requirements of the lender. After that, the lender will send the necessary papers to the SBA on your behalf.

Other Options for Financing a Franchise:

Consider the following other options in the event that you do not qualify for a loan from the SBA to purchase a franchise:

Loans from the Franchisor:

There are certain franchisors who provide its franchisees with financial assistance in order to get their businesses up and running. This assistance may take the form of specialized lending choices, decreased royalties to compensate for incurred expenses, and secured loans provided by partner lenders.

Loans from Traditional Banks:

Businesses who have better creditworthiness or have had a long-standing connection with a bank may have the opportunity to apply for a standard bank loan. On the other hand, traditional loans typically come with terms that are less advantageous than those of an SBA loan.

Other Types of Loans for Businesses:

A loan for a shorter period of time or a loan for equipment are two other borrowing alternatives. When compared to equipment loans offered by banks or alternative lenders, which cover the whole cost of the acquisition of machinery, alternative lender loans are often much smaller, have shorter payback periods, and are easier to apply for.

The Crux of the Matter

If you are in need of capital to start up and run a franchise business, applying for a loan via the SBA may be a smart alternative for you. When financing an SBA-approved franchise with either a 7(a) loan or a 504/CDC loan, you have the option of increasing your working capital, which may be used for the acquisition of necessary goods and real estate.

You could want to investigate alternative finance sources, such as traditional loans, depending on the requirements you have, the deadline you have, and the franchise. No matter the kind of finance you decide to pursue, it is important to maintain order in your records and seriously consider seeking the assistance of a financial professional who is familiar with your unique circumstances.