Is it possible to structure a seller note in combination with an SBA Loan?

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17

Reply by a lender
from Eastern Illinois University in 900 E Diehl Rd, Naperville, IL 60563, USA

^redacted‌. Thank you for the link Bill. Yes, you can definitely do seller notes with SBA financing. In fact, if the seller note is for 10% of the loan amount and on fully standby (meaning no payments) for at least two years, then you can get away with potentially less than the standard required down payment of 10%.

There are an infinite numbers of ways to structure your seller notes. You can have them interest only during the term, on standby for part of the life of the loan, in full repayment for ten years, in full repayment for less time, or in repayment for a time and then have them balloon after so many years. You can also have multiple seller notes. You could have one seller note on standby to help count as equity and another seller not in repayment. The key thing is that the structure of the seller note(s) has to work with the cash flow in place so that you still hit the required minimum debt service coverage ratios.

We are seeing many seller notes get structured now with forgivable features. This is a way to reverse engineer an earn-out. It allows a buyer to pay a higher price for the business but if the cash flow does not materialize they do not have to pay for it. Many lenders will not count a seller note against debt service if it is on standby for at least two years. So you can create some of these forgivable notes without having them fully impact cash flow for underwriting. We have worked on some very creative structures for seller notes and had them approved by the SBA directly in some cases.

Just remember every seller note is going to have to be fully subordinate to the senior lender. That means the seller cannot take any legal action on their note without the permission of the senior lender. If you have any additional questions on structuring seller notes you can reach me here or drecitly at redacted

Reply by a lender
from University of Missouri in St. Louis, MO, USA

Seller notes are almost always preferred, although they are not required at our bank. The main reason is so the seller has skin in the game and that it keeps them on the hook if things don't go well or weren't represented properly at close. In my experience the benefit of the seller note is that you have leverage. If the seller misrepresented something at sale it is very difficult to go after them. The seller may have moved, could be difficult to track down, and unless it was egregious you will likely send more chasing them down then you would recoup in enforcing your reps and warranties. The seller note gives you leverage and serves as your hammer in these negotiations. It is important to let sellers know they will be subordinated to the SBA loan both in collateral position (which is a given) but will also have a payment subordination at our bank. This means their payments can be deferred if the cash flow gets tight and serves as a protection for you post close as well.

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