U.S. Small Business Administration (SBA) loan programs can be extremely useful resources for kickstarting small businesses. However, if business is erratic, coming up with the funds for your SBA loan payment may prove to be tricky.
The constrictive feeling of anxiety is not conducive to managing your business well; it leads to constant worry about how to turn things around. Take a deep breath and then read through this guide for some tips to make this year the one in which you turn your business around.
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What is SBA loan default?
A borrower who fails to make agreed-upon loan payments is considered to be in default.
The specific definition of default varies by loan agreement. Most SBA loans include a grace period after the payment's due date, during which borrowers can make their payment without a penalty – often 10 days. After that time frame, borrowers may be charged a late fee, and the lender may consider the loan to be delinquent. In most cases, the lender will contact the borrower and try to work out a payment plan to get the borrower caught up.
If the borrower still doesn't make payments on their loan or abide by the repayment plan, after 90 to 120 days, the lender will deem the loan to be in default and will contact the SBA.
What happens if you default on an SBA loan?
When you default on an SBA loan, your lender will contact the U.S. Small Business Administration to begin the process of recouping their money from the SBA guarantee. The SBA guarantees a portion of SBA loans – typically up to 85% of the loan or $3.75 million, whichever is less.
The SBA, though, will look to you (and your business partners) to recoup the money it paid to your lender.
Recall that, as part of getting an SBA loan, personal guarantees were required from you and any business partners who own 20% or more of your business. This means that the SBA may foreclose on the loan and try to collect money from you and business partners. This may involve seizing any items collateralizing your loan or even getting a judgment against you personally.
How to avoid SBA loan default
Here are nine things you can do to avoid defaulting on your SBA loan.
1. Start testing, but start small.
If you think you will default on your SBA loan payment, something in your business model needs to change. The best way to implement change is through manageable alterations. Incremental changes allow you to recognize, monitor and harness feedback in a controlled way.
This is the clincher in business. To understand whether a change is successful, we need to measure the outcomes of that change and use those measurables to build actionable steps forward based on the results.
Imagine you have a bar and you want to increase profits. You offer 2-for-1 margaritas on Wednesday. For a whole month, the bar is packed and then starts to tail off the next month. You decide that people have gone off margaritas, so you opt to serve mojitos instead. Nobody comes. You change to a different cocktail, nobody comes. You research the best cocktails, drop the price and offer pitchers on the 2-for-1 deal. Still, nobody comes.
If you had asked for customer feedback over that monthly period, you would have known that there was a Mexican restaurant doing 2-for-1 tacos and that people enjoyed drinking margaritas after their meal. Once the 2-for-1 taco deal ended, those people stopped coming over to the side of town where your bar is located.
Collating and analyzing feedback is integral in making meaningful change that enhances your business and drives higher profits, which helps cover your SBA loan payments. Otherwise, it's simply a guessing game of what's working.
The second step is to test the idea. Change needs to be manageable; otherwise, it can quickly get out of control – especially if it goes wrong. If you implement heavy-duty changes, you'll get heavy-duty results. Congratulations are in order if this works out, but it can be catastrophic if it doesn't.
2. Ask customers for feedback.
Imagine you own a restaurant and decide that serving fresh pizza cooked in a clay oven will enhance your profits. You plow all your capital into building a pizza oven that takes up half your outdoor seating area. If this doesn't work out, you've not only lost all your capital, you're now saddled with a useless pizza oven and half the outdoor space, which, in turn, limits your summer sales.
Alternatively, smaller-scale changes with correct feedback metrics help you determine the direction your improvements should take. For example, you would first incorporate a pizza night with a new launch discount and build a robust set of feedback metrics to test it. You monitor whether more customers come in, how much longer they stay and how much more they spend (and on what). Perhaps you notice that people order wine more often when they eat pizza or add an extra side. If a customer orders pizza, ask for feedback, not just on the dish, but also on why they bought it.
You may find that your customers were thrilled that pizza was now being offered and that's why they dropped in. In fact, they were so happy about it that they ordered an extra glass of wine for the authentic Italian feel. Good for you. Try adding spaghetti bolognese on the menu or offering 2 for 1 on Italian wines. [Are you looking for a business loan? Check out our reviews and best picks of your options.]
Use your feedback system to guide you to your next moves. Without it, you're flying blind. Customer motives and behaviors can be tricky, but using feedback systems allow you to see working patterns that can be replicated and harmful patterns to avoid. That way, you can start the cycle again, learning about the positive results from your feedback and developing systems to scale them up.
3. Consider a pivot.
Pivoting in business refers to switching strategies as a way to correct your course as a company. While small, steady solutions are a good step forward, you may find that nothing you try works. This may be because a larger upheaval is needed to readdress the underlying structural presumptions of your business.
While pivoting may seem like a drastic course of action resulting in big time/money costs, often we find that only one substantial element needs to be changed. The difference between incremental changes and a pivot, however, is that that pivot is most often tied to key aspects of the company's personality and operation. Examples of pivots include:
- Updating to a new delivery platform
- Changing your revenue model
- Identifying a new key target audience
- Updating your main product's functionality to suit a different need of the same audience
- Moving a supporting product to become your main product, or vice versa
- Adopting a growth model
- Updating your technology
- Changing or adding sales channels
How do you know if your company needs to pivot?
There may be many signs that you need to pivot; these signs include slow progress, high competition, a lack of customer response, changes in your own ethics, or one product outselling everything else. If you've only been struggling with SBA loan payments for a month or so, consider adding small tests. However, if this is becoming a longer-term issue, consider pivoting.
Whatever the reason, when you recognize that you are stagnating or morphing organically toward an alternate outcome than the one originally planned, it's time to actively pivot. Do it quickly, and get yourself measurable goals that allow you to monitor your progress.
Just like small changes, pivots work best when spun through the "learn, test, feedback" cycle. Channel your previous hard work into making the pivot easier, using the resources and efforts you've pooled together before. Listen to customer feedback, as well as your own metrics, as outside opinions can often highlight points you may not have considered – maybe even the way to pivot.
4. Find your niche.
When we consider all the world's inventions over time, it's pretty clear that everything designed for everyone to use all of the time has already been commandeered by household brand names. Think about things like Tylenol or Kleenex – the products that aren't niche are far harder to compete with as people already know their favorite brands or are indiscriminate about which ones they buy because it doesn't matter. Do people really have that much of a preference on dish sponges or milk? No, generally people just pick the brand they've always used or the cheapest version.
To combat people's decision-making apathy when choosing products, you need to be remarkable (or a purple cow, as Seth Godin says). To stand out in an oversaturated or historically commandeered market is difficult. You can try to go head-to-head with Kleenex if you like, but they likely have a mountain of more resources than you to get their brand to the top of the pile.
Instead, consider the following:
- It is easier to be remarkable in a niche because the crowds are smaller and you can tailor an idea to specifically suit a certain sector of people. Often niche products can also charge more, meaning you need to make and sell fewer.
- It is even more simple to target a niche that you know. Researching a subculture or trend can seriously boost your chances of infiltrating that category, as you'll understand that audience's specific wants, needs, and preferences for delivery, cost, timing, aesthetics, etc.
- It is simplest to target a niche that you already know by heart. When we're in the inner circle, we understand not only the problems but also how they need to be solved to suit the target audiences' desires and preferences.
Get specific, narrow down your direction, and hone in. By stacking your efforts on something you know and care about, you focus on finding real-world solutions that you know work because they help you. These practical, effective solutions are far more appealing and easier to market. Not only that, customers with similar tribulations find your product better, they use it more often and pay a higher price if it targets their exact needs.
5. Go greener.
Environmental concerns plague the world at present, and whether you're an eco-warrior or not, the green paintbrush is coming your way.
Rather than fighting the oncoming tidal wave of environmental initiatives, it's best for your business to get ahead of the curve. While eco-friendly measures may seem "hippie" to some, they may help you save a considerable chunk of money, money you can put toward paying off your SBA loan.
Try some of these eco-friendly ways to cut back on costs:
- Get an energy audit, and make appropriate changes.
- Switch to a green energy supplier.
- Upgrade appliances to low-energy usage models.
- Make use of natural light and passive heating/cooling.
- Go paperless.
- Choose local suppliers to reduce delivery costs.
- Explore low-emissions options for company transportation.
- Replacing office furniture? Use Freecycle, Craigslist and other second-hand sources.
- Add water filters rather than giving away plastic bottles of water.
- Opt for eco-friendly promotional merchandise.
- Consider allowing employees to work remotely.
- Use Skype and other video conference software instead of traveling.
The green revolution not only helps ease your carbon footprint, it will also seriously cut back your outgoings.
6. Instill a sense of ownership.
Ownership comes when we feel responsible for the success of a venture, from which we can later reap rewards. As business owners, we know that we'll put our blood, sweat and tears into making our small business work because it's our baby – we experience overwhelming ownership.
Employee ownership is just one way of driving profits through more effective staff engagement. Consider real estate agents, telesales operatives and others in the selling fields. The financial incentives from commissions not only makes these individuals work harder at selling, but it encourages them to think laterally in their solutions and take pride in their work, as the results rely on their own hard work.
While giving away profits may seem counterintuitive if you're looking to settle your SBA loan, you'll find far more responsive staff when you're generous toward their effort and recognizing of their work. By providing a fair reward, yet enforcing a level of responsibility, you coax your employees to take ownership, improving both the number of their sales and the quality of their ideas and efforts.
7. Take on an investor.
If you need cash to make your loan payments, one avenue that may be open to you is to find an outside investor to purchase part of your business for cash. This would require you to give up partial ownership of your company, but it would also provide you with much-needed cash.
However, if you find an investor who purchases 20% or more of your business, they'll need to provide a personal guarantee for your SBA loan. Further, they may need to provide personal financial information to your lender as part of updating your loan.
8. Refinance non-collateralized assets.
While you may have used business assets to collateralize your SBA loan, not all of your assets may be committed as collateral on your financing. If you have other business assets that aren't committed as collateral on a loan, you may be able to take out loans against them from other lenders. Then, you can use those loan proceeds to make regular scheduled payments on your SBA loan.
This probably isn't a good step unless you're only at risk of default due to temporary circumstances that are likely to change soon. If you're at risk of defaulting on your loan due to more chronic issues, refinancing other business assets will only pile more debt on top of your already overburdened cash flow.
9. Consolidate your business.
Before you consider fundamentally changing your business, check the terms of your SBA loan. Many loan programs have requirements that businesses provide or maintain a certain number of jobs, or are collateralized by specific business assets. It's important to know these requirements before making any big decisions.
But, if you have the flexibility under your loan terms and you're struggling to make payments on your loan, consider consolidating your lines of business. Depending on your industry and types of operations, this may allow you to sell equipment or property, eliminate less profitable areas of your business or trim your payroll to eliminate excess overhead. All of these things may free up much-needed cash so you can make your loan payments.
Additional reporting by Dock David Treece.