Amidst the economic downturn that has accompanied the COVID-19 pandemic, small businesses have sought financial relief through the Small Business Administration’s (“SBA”) Paycheck Protection Program (“PPP”), which with its second tranche will provide up to $660 billion for PPP loans. However, PPP loans are not the only options for eligible businesses in this uncertain period. The SBA’s 7(a) loan program, its most popular program, provides financing for small businesses on favorable terms, which under the CARES Act now include the SBA paying the principal and interest for a six-month period. This makes the loan program even more attractive to borrowers during this most uncertain time.
7(a) Loan Program Overview
The SBA’s 7(a) loan program provides up to $5 million to qualifying business borrowers from an SBA-participating lender. The SBA guarantees 85% of loans funded up to $150,000 and 75% for loans greater than $150,000. Maturities for 7(a) loans can range from one year to 25 years depending on the size and purpose of the loan. Interest rates can be fixed or variable, but are capped by the SBA to a base rate in effect on the first business day of the month, plus an allowable spread. The application form, known as Form 1919, can be downloaded here.
Unlike the SBA’s 504 loan program, 7(a) loans can be used for a whole host of business purposes. Those purposes include:
- permanent working capital
- revolving working capital
- purchase of land
- purchase of, construction of, or renovations to buildings
- business acquisition
- refinancing existing debt
Benefits to Borrowers
SBA 7(a) loans are advantageous to small-business borrowers for the following reasons:
- SBA-imposed ceilings on interest rates often make these loans more attractive than conventional bank loans.
- Long maturities give borrowers time to satisfy the debt.
- SBA restricts the fees a lender can charge an applicant. Specifically, all processing fees, origination fees, application fees and brokerage fees are prohibited.
Applicants for 7(a) loans must be operating businesses organized for profit, with exceptions made for certain types of passive enterprises. Applicants must be located in the United States and satisfy the SBA’s size requirements for small businesses. Further, applicants must use alternative funding resources before seeking financial assistance through the SBA’s 7(a) loan program. Business owners cannot be currently incarcerated, on probation or on parole, nor can they be a defendant in a criminal proceeding. Business owners do not have to be American citizens; those with legal status may obtain a 7(a) loan based on immigration status and need.
Certain businesses are ineligible for 7(a) financing, including:
- life insurance companies
- real estate investment firms holding real estate for investment purposes
- most businesses engaged in lending
- businesses engaged in legal gambling
- businesses with pyramid sales plans
- most passive businesses
- marijuana-related businesses
- businesses located in a foreign country
- nonprofit, charitable or religious organizations
- businesses dealing in rare coins and stamps
Debt Relief for 7(a) Loan Borrowers
In response to the economic downturn, the SBA has taken measures to make 7(a) financing more attractive to potential borrowers. The SBA has been instructed to pay the principal, interest and related fees for all outstanding 7(a) loans for a six-month period. The SBA also pledges to pay principal, interest and related fees for all new 7(a) loans issuedprior to September 27, 2020, for a six-month period. This represents a significant opportunity for small-business borrowers considering SBA financing to weather the uncertainty brought on by the COVID-19 pandemic. We suggest any business with an outstanding 7(a) loan follow up with its SBA lenders to ensure they are receiving the benefit of these measures.
A Brief Look into the Different 7(a) Loan Types
In addition to the standard 7(a) loan, the SBA offers other loans under 7(a) to address different applicants’ needs during this time. Smaller businesses can apply for the 7(a) small loan, which funds up to $350,000. For applicants who require funds sooner, the SBA express loan funds up to $350,000 within 36 hours of an application’s submission. There are also specific loans for applicants who are exporters or who engage in international trade. We recommend working with your lender to see which of the 7(a) loans is most appropriate for your business.
Benefits for Veteran-Owned Small Businesses
Small businesses that are 51% owned and operated by honorably discharged veterans, service-disabled veterans, members of the National Guard, active duty military service members, and the current or widowed spouse of any of the above-mentioned categories can benefit from reduced fees through SBA for their 7(a) loan.
Applying for a 7(a) Loan
Small businesses applying for a 7(a) loan must complete an SBA Form 1919 and provide it to a participating lender. The Form 1919 requires a listing of the owners of the potential borrower and disclosure of the owners’ criminal history, among other certifications. The participating lender will work with the borrower to determine what kind of financial due diligence the lender will need to approve the loan, but this usually includes tax returns of the owners and the business, financial statements, and other documentation. The length of time from loan approval to loan closing can vary depending on the amount of due diligence required, but typically it can take anywhere from two weeks to two months. For this reason, it is recommended that potential borrowers begin discussing with participating lenders the possibility of securing 7(a) financing as soon as possible, so they may take advantage of the six-month principal and interest moratorium.
Steps for Borrowers Going Forward
- Contact an SBA-participating lender to see if your business qualifies for 7(a) financing.
- Alternatively, contact McCarter & English, as we can help you find the right lender for your needs and assist you through the entire process.