Most small business owners don’t understand what the SBA does. Do you? Here are three common myths about Small Administration Business loans demystified.
Myth: The SBA loans money to small business owners at low interest rates.
False. SBA loans are low-interest rate loans for small businesses; however, the loans themselves are being made by a financial institution (e.g., a bank). The SBA is guaranteeing a portion, against non-payment by the small business borrower. This makes the loan much less risky for the bank lending the money.
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The SBA’s two largest loan programs are the 7A Loan, which is a general business loan, and the real 504 / CDC loan which is for the purchase of real estate. In the case of the 7A loan, the SBA sets the maximum interest rate which a bank can charge. For a real 504 / CDC loan, the SBA sets the interest rate for a little less than half of the money which is being borrowed. These interest rates are usually well below what the business could otherwise obtain. Click here for current SBA Loan Rates.
Myth: SBA Loans are for businesses with bad credit.
False. SBA loans are for healthy businesses which would otherwise have trouble getting a loan. If your business is losing money on an operating basis, it would be unwise to think that the business would be able to get an SBA guaranteed loan. The chief risk officer of a bank explained to me that SBA 7A loans were for healthy businesses that lack the collateral that banks traditionally demand from business borrowers.
No bank makes loans with the expectation that the loan will not be repaid. In addition to expecting the borrower to repay the loan, a lender wants to know that if something goes wrong they will be able to collect on the loan. Unfortunately, many small businesses do not have the collateral required by banks and other lenders. A SBA loan guarantees to solve the collateral problem for lenders to small businesses.
Not only does the business need to be a good credit risk, but the business owners also need to have good credit. Business owners with a credit score under 650 are unlikely to get approval for an SBA loan.
Myth: SBA loans can be used to purchase real-estate.
True. Both of the SBA’s two major loan guarantee programs allow for small businesses to buy real estate. However, there is a caveat; the property being purchased must be at least 51% owner occupied. In other words, the business owner must be buying property which the business will use, and not as an investment property. Real estate loans tend to be for much larger amounts than SBA loans which don’t involve the purchase of real estate.
Why is there such confusion about SBA loans?
To be direct, the Small Business Administration does a lousy job communicating to the small business public about their loan programs. In fact, a small business owner could visit the SBA website and still be extremely confused about how their loan programs work. To be fair, the SBA must be legally precise about how it describes its loans, which subsequently leads to vague or highly technical language about the programs.