Understanding SBA Loans in Online Business Acquisitions

I have dedicated nearly eight years to facilitating sell-side transactions at Quiet Light. A question I consistently encounter upon launching a new business listing is: “Brad, is this business SBA eligible?”

This question comes in various forms, and a recurring challenge I face as a broker is the difficulty buyers often have in accepting the provided answer. For instance, if a listing is SBA pre-qualified, it is explicitly stated in the title, such as “SBA Pre-Qualified Amazon FBA Business w/90% Gross Margins & Untapped Potential.” While this might seem obvious, it’s surprising how often it’s overlooked. Also, every executive summary includes a short summary box indicating the deal’s SBA eligibility. Despite these clear indicators, I typically receive between five and twenty emails per listing inquiring about why a business isn’t SBA eligible.

This highlights the significant demand for businesses that can be acquired using SBA loans. Let’s dive into the details of these loans. Many assume the Small Business Administration directly funds these loans. While there are instances where the government does provide funding, such as the disaster assistance loans distributed during the COVID-19 pandemic to mitigate revenue loss, these are exceptions. Many businesses, for example, received $150,000 Economic Injury Disaster Loans (EIDL) with 30-year repayment terms at below-market interest rates. This is one example of direct government funding, but it illustrates the variety of SBA loan programs.

In the context of business acquisitions, the SBA 7(a) loan program is the most popular option. These loans are backed by the SBA, they are not funded by the SBA. This distinction is important because the process isn’t standardized, as it relies on individual banks assuming the lending risk. Essentially, the federal government insures these loans, which encourages banks to participate, because they believe the government will provide recourse if the loan defaults (a topic I will address in a future post). The 7(a) program adheres to specific eligibility criteria:

• The business must be operational.
• The business must operate for profit.
• The business must be located within the United States.
• The business must meet SBA size requirements.
• The business must be unable to secure the desired loan on reasonable terms from alternative sources.
• The business must be creditworthy and demonstrate a reasonable capacity for loan repayment.

Assuming these conditions are met, 7(a) loans can be utilized for acquiring, refinancing, or improving buildings; securing short-term and long-term working capital; refinancing existing business debt; and facilitating changes in ownership (complete or partial). This “change of ownership” provision is where business acquisitions align with the program’s criteria. Loan amounts generally ranging from $500,000 to $5,000,000. In theory you could have loan less than $500,000 but I have not seen lenders looking to take this on with the 7(a) program. Interest rates can be fixed or variable, depending on the lending bank. In the realm of online business acquisitions, variable rates are almost universally applied, typically prime plus 2.75%. Loans are amortized over ten years with monthly payments. This structure has proven beneficial for brokers in the online business sector, as businesses are generally sold for two to six times their earnings. Buyers can secure loans with ten-year repayment terms, generating additional cash flow due to the difference between the purchase price multiple of earnings and the loan’s extended duration of a 10 year payback.

Almost every individual who contacts me regarding SBA loans operates under a misconception about how these loans function. Brokers who collaborate with multiple banks and generate fees for facilitating SBA loans exist, and this can be a lucrative profession. These brokers, along with the lending banks, have spread the idea that SBA loans ALWAYS require a 10% down payment. Another form of this misconception is a buyer who will  believe that the loan requires a 20% cash injection with 10% coming from the buyer and 10% from a seller note. Consider this scenario: I’m selling a $5 million business that generates $1.25 million in Seller’s Discretionary Earnings (SDE) annually, representing a 4x multiple. Buyers often expect to provide a $500,000 down payment. This illustrates why the program is so appealing. Someone could potentially acquire a $5 million business generating $1.25 million annually with a 10% down payment. If the interest rate is approximately 10%, the buyer would provide $500,000 upfront and secure a $4.5 million loan. This would equate to roughly $59,000 per month in principal and interest payments. With an annual interest expense of $450,000, a $500,000 down payment could potentially yield a business generating $800,000 in profit during the first year, assuming the business’s performance remains consistent. These are compelling figures.

Where does this example fall short? It’s not necessarily flawed, but it’s crucial to recognize that the 10% down payment scenario represents the best-case scenario. This ideal situation might arise if the seller operates a meticulously managed business and pays taxes on the full $1.25 million in earnings. Furthermore, the business should demonstrate steady growth, but not excessively rapid growth. The business would need to average near $1.25 million annually for three years, as many banks use a three-year earnings average to determine the loan amount. If the seller uses numerous tax write-offs, reducing reported income, the business might only qualify for a smaller loan. Similarly, rapid or declining growth can also impact the loan amount.

Several months ago, I launched a $2.1 million business with an SBA pre-qualification that required a 40% down payment. I received tons of emails and calls demanding an explanation for the “subpar” lending offer. Personally, I considered it a favorable offer. It involved a high-risk web-based business (I’d call all web businesses relatively high risk) with a loan offer covering $1.26 million of the purchase price. In this specific case, the seller had identified a supplier offering goods at a 60% lower cost while simultaneously increasing quality. These savings weren’t reflected in the three years of tax returns provided. Consequently, the seller had one exceptional year, for which tax returns hadn’t yet been filed, preceded by three years reflecting the higher cost of goods sold (COGS).

SBA Pre-Qualified Business Listings

If you’ve explored web industry listings, you’ve likely encountered the “SBA Pre-Qualified” heading. What does this signify? How does one obtain an official SBA pre-qualification? The truth is, there’s no official pre-qualification. Labeling something as “pre-qualified” creates an impression of official endorsement. In reality, here’s what it entails. As an aside, let’s differentiate between lending brokers and banks. Whether a sell-side broker works directly with a bank or through a lending broker is inconsequential. Many of our team at Quiet Light have transitioned to brokers who collaborate with numerous banks, often providing more options for deal completion. Both approaches can be effective. Returning to the meaning of pre-qualification, it simply indicates that we’ve presented the business details to the broker or lender, who has reviewed the information and assessed the likelihood of providing a loan. I typically furnish my signed Confidential Information Memorandom (CIM), developed in conjunction with our sellers, along with profit and loss statements and at least three years of recent tax returns. The most effective brokers and lenders thoroughly analyze this information to determine the feasibility of securing a loan. Some may conduct a more superficial review to identify potential candidates. Over time, Quiet Light’s advisors have gravitated towards lenders with a proven track record of closing deals. Buyers occasionally approach Quiet Light with their own preferred lender. In some instances, our team will decline to work with that lender due to their lack of experience in e-commerce or previous negative experiences.

The “Acquisitions Anonymous” podcast features hosts who analyze publicly available data to assess a business’s suitability for acquisition. A few years ago, they discussed a GRE Test Prep business I had listed, to which I had attached a $2 million SBA pre-qualification letter (the asking price was $6 million at the time). During the show, they discussed pre-qualification letters and asserted that brokers (myself included) often attach any pre-qualification letter to a business listing, implying that we do so casually to create an illusion of financial viability. I cannot speak for other M&A firms, but as a Managing Director and Sell-Side Advisor at Quiet Light, I can assure you that this is categorically untrue. Our revenue is generated through fees. Attaching a flimsy pre-qualification letter jeopardizes our reputation, the listing itself, and the potential to earn fees if the deal collapses. In fact, our approach is precisely the opposite. We prioritize the legitimacy of the lending process and take extensive measures to partner with the most reputable lenders who offer the highest probability of closing deals.  They also acted like the business had no chance of selling.  I will mention that it did not only close but closed for substantially more than the original asking price.

Buyer Pre-Qualification Letter

Another type of pre-qualification is a buyer pre-qualification, which is also not an official designation. It signifies that a buyer has approached an SBA lender, shared their experience and financial history, and requested a letter outlining their borrowing capacity. As previously mentioned, the 7(a) program offers loans ranging from $500,000 to $5,000,000. Buyers often present these letters, stating their pre-qualified amount with a specific lender. This can serve as a valuable indicator of credibility when working with a sell-side broker.

A common issue I encounter with buyers is their exclusive focus on ideal SBA loan scenarios. By “ideal,” I mean deals where they can provide a 10% down payment, or potentially a 10% down payment combined with a 10% seller note. When we have a deal that qualifies for this type of financing, we sometimes receive 15 to 20 offers. Often, these offers are virtually indistinguishable. I’ve spoken with numerous buyers who have been searching for a business for one or two years, encountering repeated roadblocks because their offers aren’t competitive. It’s not unusual for a deal with 15 SBA-backed offers to ultimately go to a buyer who can pay cash. Faced with the choice between closing a deal in 90+ days (with SBA financing) versus potentially 30 days for a cash transaction, the decision is often straightforward for a seller. Many sellers might even accept a lower price from a cash buyer on a faster timeline.

What about closing times? This is another area where some SBA lenders mislead buyers. I can’t count the number of times I’ve heard buyers say they can close an SBA deal in 30 to 45 days. Is it theoretically possible to close in 45 days? Yes. I had one deal close in 44 days years ago. However, the buyer was a high-net-worth individual who simply wanted to leverage debt, as they had the means to pay cash. When a buyer can write a check to pay off the SBA loan at any time, it’s easy to understand how a bank can expedite the underwriting process. So, what’s realistic? In my experience, closing an SBA deal in less than 60 days is extremely difficult. I’ve seen some close in 60 to 90 days, but unfortunately, I’ve also witnessed deals drag on for over 120 days. With SBA financing, it often feels like the buyer, seller, and broker are all united in hoping the deal will close. As delays mount, the bank may request updated financials and, in rare instances, even resubmit the deal for underwriting. These added steps extend the timeline considerably. If the buyer and seller are fully committed, and the business remains stable throughout the process, the likelihood of an SBA-backed deal closing is high.

A point that buyers often overlook is that every day they delay a required task adds a day to the closing timeline. For instance, a buyer might approach us, stating they are pre-qualified for a loan through a specific lender. They find a business they like and have a buyer/seller call. Following the call, they quickly submit a competitive Letter of Intent (LOI) to acquire the business. Let’s say, for example, they win the bid. We inform them that the seller has accepted their offer, and we move into the due diligence phase. Often, the bank provides a comprehensive list of requirements once they are informed of the chosen business. These requirements go beyond personal financial statements and include a formal business plan. There may also be requirements specific to the lending bank. This highlights why I emphasize that SBA 7(a) loans are not one-size-fits-all. Each bank has its own requirements, making each situation unique. If the buyer receives this list and takes 14 days to complete it, the closing clock hasn’t even truly started. They often don’t realize that every day of delay pushes the closing back by another day. The most effective buyers understand the bank’s requirements and have everything prepared as soon as the LOI is signed. This is rare, but when a buyer operates with this level of preparedness, a 45- to 60-day closing becomes feasible.

Relevant Experience Requirement

A requirement that was new to me that has emerged in recent years is “relevant experience.” Banks are now very concerned about individuals buying online businesses without prior experience in operating or working within the online industry. This presents a challenge for buyers, as many aspire to leave their current jobs and pursue a career in the online world. In many cases they do not have relevant experience.  So, how can this “relevant experience” gap be addressed? One effective solution is to have the seller retain a small percentage of equity. I’ve seen deals where the seller retains 10% equity, satisfying the bank’s concern.

This discussion of relevant experience and equity retention brings up another point, a somewhat gray area surrounding SBA loans. As a sell-side advisor, I’m not always privy to the arrangements made between buyers and sellers after closing. My understanding is that as long as payments are made on time, the SBA’s involvement is minimal. I’ve been told by buyers that banks may request quarterly P&Ls and balance sheets, along with annual tax returns, though these requests may become less frequent over time. My understanding is that the bank is technically required to maintain this documentation to file a claim on the loan guarantee. I’ve heard of banks that stopped lending SBA loans because, when they attempted to collect on a defaulted loan, their claim was denied due to incomplete file maintenance. Returning to buyer-seller arrangements, consider the example of a seller being required to retain equity. I believe it’s common for buyers and sellers to agree to this type of arrangement, only to amend the documents and remove the equity arrangement after the loan closes. I’ve also heard of deals where the seller is required to hold a seller note for five years, but the buyer and seller agree to remove the standby provision after closing. I’m not condoning or encouraging this behavior; I’m simply observing that I’ve never encountered a mechanism for the SBA to investigate a loan post-closing, provided payments are current. I’ve never been involved in a loan that defaulted, so I’m uncertain of the repercussions. Given the personal guarantee requirement, I expect the SBA would aggressively pursue the buyer in the event of default.

Personal Guarantee

Since I mentioned personal guarantees, let’s address this briefly. I’ve encountered many buyers over the years who express interest in SBA loans but then attempt to negotiate the personal guarantee. Years ago, a friend approached me about buying a 20-year-old software business. He had hired buy-side brokers who suggested we could secure an SBA loan through Live Oak Bank without a personal guarantee. The business was valued at $5 million, and the prospect of a loan without a personal guarantee was appealing. We remained in the deal for several weeks before Live Oak Bank clarified their stance on the personal guarantee. Once they confirmed it was non-negotiable, the risk seemed too high, and we withdrew from the deal. This topic arises frequently with buyers. In my experience, no bank will close an SBA loan without a personal guarantee.

What about 0% down? This isn’t a common scenario, but it arose in a recent deal and is worth discussing. The situation involved a business I would describe as “outside the strike zone.” Someone wanted me to sell their publishing business, which wasn’t strictly online but also didn’t require a physical presence. I explained that the only way to sell it would be to price it at a low multiple. We priced it slightly above 2x earnings and pursued SBA pre-qualification. Due to exceptionally clean tax returns and the low price, securing a 10% down loan was straightforward. A relatively inexperienced buyer with limited funds offered full price and requested that the seller carry 10% to satisfy the industry experience requirement. The bank approved this arrangement, as they were indifferent to whether the 10% came from the buyer or seller, and the deal had ample margin for error. This wouldn’t work for most deals, but it illustrates how, in theory, a buyer could close a deal with no money down.

Tips for Sellers

If your business generates between $150,000 and $2,500,000 in SDE annually, SBA eligibility can significantly improve your chances of a successful sale. Remember that even though the maximum SBA loan is $5,000,000, this doesn’t limit the potential sale price. You could structure a $10,000,000 sale, for example, with $5,000,000 from an SBA loan, $2,000,000 in cash, and $3,000,000 in seller financing. As a seller, expanding the buyer pool by securing a solid SBA loan where the buyer’s down payment is reasonable is a major advantage. A few points to consider three years out from a potential sale: First, consider paying more in taxes now for a larger exit later. The higher the net income reflected on your tax returns, the easier it will be to secure SBA financing for up to $5,000,000 of the purchase price. Second, manage your growth trends. Ideal for SBA sales are businesses with steady, consistent growth. Remember that banks consider a three-year trend. Rapid 50% annual growth or declining revenue can make it harder to secure favorable lending, as the three-year average will be less appealing to lenders. Finally, maintain meticulous records, especially financial records. You’ll need a clear, explainable P&L spanning several years. In many cases, paying more in taxes now for a larger sale later is a worthwhile trade-off. For businesses valued at several million dollars or more, finding buyers who can pay cash becomes more challenging. This is where SBA loans become invaluable.

Tips for Buyers

If you, as a buyer, have bought into the idea that a 10% down payment is all that’s needed for an SBA loan, I strongly encourage you to reconsider that assumption. I frequently encounter buyers with some capital (e.g., $500,000) who want to leverage that to secure a loan for a $3-5 million business. While I understand the appeal, I want to offer some counterpoints. First, are you truly prepared to shoulder the weight of a multi-million dollar loan from the government, complete with a personal guarantee that all but assures aggressive pursuit of you in the event of default? If you have $500,000 to invest, I suggest considering a business priced around that amount. The online world is inherently risky; you don’t need to amplify that risk with excessive leverage. As a buyer, a major challenge is standing out from the crowd. I encourage you to craft offers that differentiate you. One of the simplest approaches is to offer above the asking price. If a deal is expected to attract 15 or 20 offers, this is a highly effective way to rise to the top. The marginal increase in price is unlikely to drastically alter your monthly payments over a 10-year loan term. Second, consider putting down more than the minimum required. If the sell-side broker’s pre-qualification indicates a 10% down payment, consider offering 25%. When the broker presents offers to the SBA lender, your offer will likely move to the top of the list because the lender perceives this larger down payment as a strong indicator of a successful closing. Finally, move quickly. Buyers who demonstrate early, serious interest often have an advantage. Once a seller has reviewed numerous similar offers, some begin to blur together. Moving swiftly, offering a larger down payment, and bidding above asking price will give you a significant competitive edge.

Contact Me & The Acquisition Game

Please don’t hesitate to contact me via the contact form with any questions or feedback. I’ve also recently launched a course for buyers. My experience in the online business world is extensive. I’ve bootstrapped businesses from scratch, been a buyer 26 times, had four successful exits, and represented over 80 closed transactions as a sell-side advisor. In my course, “The Acquisition Game,” I leverage this experience to provide buyers with strategic advantages in the marketplace. My goal is to equip you with insights gained from my perspective on all sides of the table.