The Difference Between a 7(a) Loan And An SBA 504 Loan

Oct 12, 2022 By Susan Kelly

Small company owners are likely familiar with the Small Business Administration and its several loan programs (SBA). SBA credit schemes like the 504 and 7(a) loans are popular. We'll compare and contrast the two to help you choose the best option for your company.

An Overview of the SBA 7(a) Loan and the SBA 504 Loan

Even while the 7(a) and 504 loan programs are designed to assist small business owners, they serve different needs. First, we will examine the Small Business Administration 7(a) loan. As its name implies, the SBA 7(a) loan is the SBA's most common type of loan.

However, the SBA 504 loan is a good option if you need money to buy land or an existing structure, develop an existing facility, purchase equipment, or buy commercial real estate that has yet to be built.

Given that the 504 program is an economic development program designed to stimulate growth and the production of new employment opportunities, a job creation requirement may be tied to the amount of funding acquired.

What You Need To Know About the SBA 7a Program

Suppose you want to buy an existing company, get working capital, restructure business debt, make tenant improvements, or purchase furniture, fixtures, or supplies. In that case, an SBA 7a loan may be what you need.

It would help if you remember these things about SBA 7a:

  • The cap for SBA 7a loans is $5 million.
  • Interest rates are often variable, although some are set. The standard ceiling for such rates is prime plus 2.75 percent. Those with loan balances below $50,000 may be charged a higher interest rate, while those over $1,000,000 may be charged an extra 0.25%.
  • Depending on the kind of loan, the amortization period might range from five to seven years for working capital and ten years for real estate and equipment.
  • At a 90% loan-to-value, collateral such as the project's assets and personal guarantees from a primary owner is needed.

The Lowdown On The SBA 504

The Small Firm Administration's 504 loan program provides funding for the acquisition of land, commercial real estate, new commercial development, or sizable pieces of equipment utilized in the operation of a small business.

If you're considering applying for an SBA 504, here are some things to bear in mind:

  • For SBA 504 loans, the maximum amount you may borrow is between $5 million and $5.5 million. However, this can vary by lender and industry.
  • The fixed interest rate is often lower than the market rate.
  • SBA 504 loans include a 10-year equipment repayment period and a 20-year real estate repayment period.
  • The business owner must put up 10% of the total cost as equity. Financial institutions like banks and credit unions typically provide half of the SBA 504 loan, with the remaining 50% coming from an SBA-approved lender called a Certified Development Company (CDC).

What's Different?

One factor that might influence you toward SBA 504 is the amount of risk capital you and your primary partners are ready to put up. While 7a may place a lien on outside assets, such as a home, this loan requires no security.

Understandably, this may become a problem for many sole proprietors or small business owners if there are numerous partners in the business and one partner has a disproportionate share of the assets and equity. Given the potential magnitude of the situation, SBA 504 is the superior choice.

When Should You Use SBA 7(a)?

Even if a business owner does not meet the requirements for a traditional small business loan, there is a good chance they will meet the criteria for an SBA 7(a) loan. Although the SBA 7(a) loan is most commonly associated with new business startups, it can also be used to fund the purchase of an existing company, the construction of a new office facility, or the expansion of a current firm.

When Should You Use SBA 504?

The SBA 504 loan program is less flexible than the 7(a) loans regarding how the money can be spent. SBA loans are designed to help small businesses expand, and the money they provide must be used for long-term investments like machinery and office space.

The SBA 504 loan is designed to help small company owners fund the acquisition, renovation, or construction of a commercial facility, including financing construction expenses, closing costs, and soft charges, such as architectural fees, and more. Borrowers can keep more of their cash flow for use in other areas.

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