Is Your SBA Loan in Default? Forgiveness Is Possible

What happens if you default on your SBA loan?

If you default on an SBA loan, several serious consequences can ensue. Here’s an overview of what typically happens:

• Your loan officially becomes delinquent. Missing payments for 3 to 4 months will lead to the loan being classified as delinquent. The lender will typically contact you to discuss repayment options.
• The lender may seize collateral. If your SBA loan enters default, the lender will seize any assets you pledged as collateral and sell them to recover the loan amount. These items can include property, equipment or inventory. Because most SBA loans require a personal guarantee, the lender can go after personal assets such as bank accounts or even your home if the loan is not repaid.
• The loan is transferred to the SBA. If collateral or personal assets don’t cover the loan amount, the lender can file a claim with the SBA for reimbursement of the guaranteed portion of the loan. After the lender is reimbursed by the SBA, the agency will reach out to collect your debt — typically within 60 days.
• The loan is transferred to the U.S. Treasury. If your debt remains unpaid, your case may be transferred to the U.S. Treasury Department, which can take actions like wage garnishment, withholding tax refunds or filing lawsuits.

Each step in this process escalates your financial and legal risks. So, it’s essential to address the situation early and devise a plan to get on track.

Does the SBA forgive loans?

In most cases, the SBA does not forgive loans, including those distributed via its most common loan programs like 7(a) and 504. We spoke with an SBA representative who emphasized that only Paycheck Protection Program (PPP) loans are forgivable due to statutory authority provided in the CARES Act during the COVID-19 pandemic.

“All PPP borrowers have five years from the date they received the loan to apply for forgiveness,” the SBA spokesperson told us. “This includes borrowers who may have defaulted on their loan payments. The rules for SBA’s other multiple loan programs differ.”

The SBA representative advised small businesses struggling to repay their loans to contact their lenders about their options.

• 7(a) loans: Options may include loan payment deferments and extension of the loan maturity.
• 504 loans: 504 borrowers will have a loan from a third-party lender (TPL) and a loan from one of SBA’s Certified Development Companies (CDC). The SBA spokesperson noted that the CDC loan is a debenture, and, generally, the terms may not be modified except to provide loan payment deferments. Borrowers may have other options available to them on the TPL loan.

Offer in Compromise

If your business has ceased operations, the SBA has a loan settlement program called Offer in Compromise (OIC). This program is a process for borrowers who can’t fully repay their loan after liquidation; they agree to settle with their lender for less than the entire outstanding balance.

To get accepted into the program, you must meet the following parameters:

• The business must have ceased operations and liquidated assets. Your business must have already ceased operations and liquidated all (non-exempt) assets to qualify for OIC. An exception may apply if your business has filed for bankruptcy and intends to remain open and operating while settling its SBA debt.
• You must submit full financial disclosure. All obligors (i.e., borrowers and guarantors) seeking forgiveness must submit full financial disclosure to begin the negotiation process. A settlement is based on financial hardship, which means you must prove that you lack the assets and income to repay the debt in full.
• There is a plan to repay the debt. An OIC will be considered only if you can demonstrate your ability to repay the debt over a reasonable period based on the resources and assets at your disposal. The SBA considers the following factors:
  • Is your home pledged, and is there equity?
  • Do you have cash savings?
  • Do you own assets that could be sold to raise cash? Boats, RVs, vehicles, collectibles, etc. are all possible sources of cash.
  • Do you have a steady income (or a spouse with income, even if they didn’t guarantee the SBA loans)?
  • What does your future earning potential look like? Age, profession, education and health are all factors.

Borrowers accepted into the OIC program will have their loans closed, and the SBA will no longer attempt to collect their loan amount.

How to avoid defaulting on an SBA loan

If you’re struggling to make your SBA loan payments, the best approach is to do everything possible to avoid going into default in the first place.

Want to avoid defaulting on a loan? The SBA spokesperson advised small business owners to reach out to their SBA lender as soon as financial difficulties arise to discuss their position. Borrowers can also reevaluate their business finances to find solutions that will enable them to continue to make payments on their SBA loan, such as cutting business expenses and restructuring debt.

“Free, confidential technical and management counseling is available to small business owners through the nationwide network of SCORE Chapters, Small Business Development Centers, Women’s Business Centers and Veterans Business Outreach Centers,” the spokesperson told business.com. (Borrowers can find their nearest resource partner via the SBA’s local assistance page.)

Financial hardships can affect any business at any time, but you still have an obligation to repay your debts. Proactively addressing financial difficulties is the best way to protect your business’s credit and assets while honoring the terms of your loan agreement.