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Using the 25-Year Term Option for SBA 504 Loans: Essential Benefits for Lenders and Small Business Borrowers

Using the 25-Year Term Option for SBA 504 Loans: Essential Benefits for Lenders and Small Business Borrowers

The SBA 504 loan program offers beneficial terms that make it easier to repay loans for commercial real estate purchases and more. In particular, the program’s longer repayment terms, combined with its low, fixed rate, create an affordable option for borrowers and an opportunity for lenders to say “yes.”  

In April 2018, this best-in-class loan program got even better with the introduction of a fully amortized 25-year term. Since this new option was made available, it’s grown in popularity each month, and now accounts for nearly 70% of 504 loan requests that The 504 Company receives. Overall, we’ve seen the 25-year term has enabled additional loan approvals, help lenders grow small business portfolios, and strengthen the communities we collectively serve.

HIGHER LOAN APPROVAL RATES: A CASE STUDY IN THE DIFFERENCE THE 25-YEAR TERM MAKES

The difference between the 20-year and 25-year term options is subtle but important. It can make the difference between borrowers meeting qualifying debt service coverage ratios, or not. 

Here’s a hypothetical example using typical 504 loan ratios:

  • The owner of a company wants to purchase a property, relocate the business and purchase new equipment.
  • The project totals $4 million and the loan structure includes a typical 504 ratio: 50% of funds from the bank, 40% from the SBA 504 loan program and 10% owner equity.
  • The company’s prior three-year gross cash flow history is: $334.0, $337.0, $342.0.
    • With a 20-year term (combined annual principal and interest of $293,000), the debt service coverage ratios are 1.14x, 1.15x, 1.17x, respectively.
    • With a 25-year term (combined annual principal and interest of $279,000), the debt service coverage ratios are 1.20x, 1.21x, 1.23x, respectively.

 In this case, offering the 25-year term results in the company meeting the lender’s debt service coverage requirements, leading to loan approval; previously, the business wouldn’t have qualified with the 20-year term. 

Remeber, with the 504 loan program and its 25-year terms, lenders and borrowers can take advantage of:

  • Longer repayment terms that allow more potential borrowers to meet your institution’s debt service coverage ratios, leading to more loan approvals.
  • Fixed, below-market rates so that borrowers can benefit from lower monthly payments and rate stabilization, leading to more successfully repaid loans.
  • Lower monthly payments that allow businesses to preserve more capital, fueling business growth and strengthening economic opportunities in your communities.
  • Up to 90% financing so more potential borrowers can meet the equity requirements while keeping more cash on hand.

With an average spread of six-basis-points (.06%) between the 20- and 25-year fixed-term interest rates, the 25-year term option is clearly appealing to most qualified borrowers.

SMALL BUSINESSES ARE ENTHUSIASTICALLY RESPONDING

It’s a smart business move to offer the 25-year term option to small business owners who are interested in the 504 loan program. The 504 Company can partner with you to help your small business clients achieve their goals and support your institution’s growth. For more information, contact us today.

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