Seller Note Question SBA Compliance

June 30, 2022

by a searcher in Chicago, IL, USA

I had an idea regarding a seller note structure and am curious if there are any issues with structuring this in conjunction with SBA financing.

The seller note structure would be one where the payments are not fixed, but based on a waterfall tied to business performance. As an example, you would start with EBITDA, less any CapEx, less senior debt payments (SBA), less a predetermined cash cushion, and the remainder would be swept as a repayment of the seller note. This allows for faster seller note repayment if the business performs well but also provides protections for the buyer in an underperforming scenario. There would still be a fixed term and the balance would be due at the maturity in full if it had not already been paid down.

Any issue with a structure like this as it relates to SBA financing compliance?

Reply by a lender
from University of Wisconsin in Madison, WI, USA

This is more novel than what I have seen before. Typically, in seller notes that are amortizing over the term of the SBA loan, there can be a provision in the seller note where it states that if debt service coverage falls below a specific threshold, payments can't be made on the seller note. I haven't seen anything like you describe above before, but I'm sure there is a way to make it work as long as it is not structured as an earn out. If you want to get an answer directly from SBA, you can email them - redacted

Reply by a searcher
in Loudon, NH, USA

Isn't this an earn out? I've done these before with no ceiling or floor and very simply tied it to a fixed percentage of the GROSS revenue paid monthly based on the previous month's sales. The business over performs, seller participates in the lift, it under performs, buy pays less. I was under the impression this sort of thing would not work an SBA loan.

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