Using an SBA 7(a) Loan to Refinance High-Cost Business Debt

With so many funding options available, it’s not unheard of to turn to “quick cash” options to meet your business’ cash-flow crunches. But this kind of business debt often comes with very high costs: such as high-interest rates, unreasonable repayment terms, or other demands that can put your business’s finances at risk. If you find yourself in this type of situation, refinancing your high-cost business debt with an SBA 7(a) loan can be the solution you need.

Read on to learn what’s eligible to refinance with an SBA 7(a) loan and how it can be used to help your business.

When to use an SBA 7(a) loan to refinance high-cost business debt

SBA loans help small business owners access funding when they don’t otherwise qualify for conventional commercial loans, as well as those in underserved markets, such as women- and minority-owned businesses.

SBA loans can also help small business owners who have taken on business debt with terms that are deemed ‘unreasonable.’

While the SBA leaves that up to lenders to determine what’s ‘unreasonable’, loans that have exceptionally high-interest rates, require weekly or even daily payments or have other demands that make it difficult to meet the loan terms often meet this definition. There may also be situations in which refinancing existing business debt makes sense for you and your lender, such as when it’s part of a larger project.

An SBA 7(a) loan can be an ideal solution in these cases.

Eligibility for SBA 7(a) to refinance debt

While these are the overall rules to use an SBA 7(a) loan for refinancing business debt, you may only need to meet some of these to qualify. Talk with your lender to learn more about your specific situation:

  • The debt to be refinanced must have been exclusively used for business purposes.
  • An SBA loan can’t be used to refinance business debt that’s already determined to be on reasonable terms.
  • An SBA loan can’t be used to shift all or part of a potential loss to the SBA.
  • The debt to be refinanced must have an original purpose that would’ve been eligible for SBA financing when the debt originated. Unless the condition that would have made the business or situation ineligible no longer exists.
  • If the debt to be refinanced was used in whole or in part to refinance a previous debt, the current loan must be reported on your balance sheet for two full tax cycles before you apply for an SBA 7(a) loan. You also have to provide documentation for prior notes and confirm all the funds were used only for an eligible business purpose.
  • There are additional rules to consider when refinancing an existing SBA loan and/or same-institution debt.
  • Debt to be refinanced must meet one of these eight criteria identified by SBA to be eligible for refinancing:
    • Any debt that’s structured with a demand note or balloon payment.
    • Debt with an interest rate that exceeds SBA maximum interest rates based on size or term.
    • Business credit card debt.
    • Debt that’s over-collateralized when compared to the SBA’s collateral requirements.
    • Revolving lines of credit in which the original lender is unwilling to renew the line or you’re restructuring your financing to receive a lower interest rate or longer term.
    • Debt with a maturity not appropriate for the purpose of the financing when compared to SBA maximum maturity based on the use of proceeds.
    • Debt that’s used to finance a change of ownership for an ongoing business.
    • Debt that’s not identified above, in which the lender no longer meets the borrower’s needs. This reason is entirely at the discretion of the lender to determine and review for SBA eligibility.
  • Depending on which criteria were used, the refinance may need to show a 10% improvement in cash-flow savings for your business.
  • The new loan must be secured with at least the same collateral and lien priority as the refinanced debt. Different collateral may be used to secure the new loan if it’s comparable in value and useful life.
  • A lender will have to show why restructuring the debt is necessary and how it will improve the operations of the business.

Frequently asked questions around refinancing business debt with an SBA 7(a) loan

What documentation do I need to provide for debt-refinance projects?

Be prepared to provide all original loan-approval documentation for the lender’s review. Before closing/funding, you’ll need to request a formal payoff letter to fund this portion of your loan. There may be additional due-diligence items requested, depending on the specific circumstances of the refinance project.

I’m considering switching my banking relationship and would like to have my new bank refinance my business’s existing debt, including an SBA loan, into a new SBA loan. Can this be done?

These are reviewed on a case-by-case basis by the SBA and normally isn’t a request that the SBA is likely to approve. Taking a step back, the original SBA loan would have been approved under the SBA’s eligible terms (already on reasonable terms) for the maximum allowable SBA term. This will mean the new lender will have to show why the current debt no longer meets the applicant’s needs, and the SBA will generally not accept the lender taking over the banking relationship as an eligible reason.

I purchased a business a couple of years ago and the seller financed a portion of the purchase. This loan has a balloon payment due next year. Can I refinance this with an SBA loan?

Yes! As long as the note has been reported on the business’s balance sheet and that principal and interest payments have been made for 24 months or more, this is eligible to be refinanced with an SBA loan. The key here is that principal and interest payments must have been made: the note can’t have been on standby (meaning there were no payments made) for the 24-month period.

Do debt-refinance deals require any equity injection?

Equity injection is a credit decision that’s up to the lender. Generally speaking, though, debt refinance projects don’t typically require an equity injection, unless they’re being considered as part of a larger project.

Can I refinance personal debt that was used for business purposes?

Yes, but there are nuances and documentation that must be provided. This could include a home-equity line of credit (HELOC) or personal credit card debt:

  • For home-equity debt used for your business: Your lender and you must certify that the amount being refinanced was solely used for business purposes; in addition, you must provide documentation to support this.
  • Personal credit cards: If the debt is an outstanding balance on a personal credit card issued to you, the SBA lender must confirm which purchases were used for business purposes. The lender must also document the specific business purpose of the credit card debt and ensure that you certify and document that the loan proceeds are being used exclusively to refinance business expenses. The documentation required for refinancing debt on a personal credit card includes a copy of the credit card statements and individual receipts for any business expenses more than $500.

Explore the SBA 7(a) refinance loan

Under the right circumstances, an SBA 7(a) debt refinance deal can significantly improve the financial health of your small business. Here’s a case study on how a business owner secured working capital and improved their growing business’s cash flow by refinancing their high-cost business debt.

James recently started his own business – he created a proprietary designed piece of furniture and currently has a patent pending for his product. To start operations, he used a combination of funds from a Kickstarter campaign and high-interest debt. This was enough to develop his product, find a vendor, and purchase initial inventory.

About a year later, his furniture is in high demand, but he’s not able to keep his production up to meet the outstanding purchase orders.

He’s done some research and believes he’s a good candidate for an SBA loan: He has some operations to report on his financial statements and has proven there’s demand for his product. He reaches out to his local SBDC office, who places him in contact with an SBA lender in his area. He had requested a $100,000 loan, mostly for inventory and some working capital.

Upon review, his lender realized that the high-interest debt that the business had on its balance sheet would continue to drain cash flow in the coming months and years. The lender thought it would be prudent to increase the loan request to $150,000, in total, to include the refinance component. This was SBA eligible because the interest rate on the original loan he got when he started was 15.99% (confirmed by the signed loan documents), which is well above the SBA maximum.

Overall, James was able to secure the funds necessary to fulfill an additional 300 orders and save $11,000 annually by refinancing his high-interest business debt.

Pursuit can help you refinance your high-cost business debt

If you’re looking to refinance your business debt, Pursuit has the funding options you need to position your business for future success. Take a look at more than 15 loan options tailored to meet the needs of small businesses – then contact us today to learn more about how we can help you, too.

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