Hi all,

I’m an SBA loan broker, and I’d like to share some thoughts around seller notes since this is one of the main topics I get questions about.

Here’s something that’s important to understand up front about structuring your deals: every lender has a different way of doing things. Yes, they all have to follow the SOP, but each still has their particular preferences and interpretations. Not everything is spelled out crystal clear in the SOP, and so there is some room for lender discretion. There are deals I’ve taken to Lender A who says not just that they won’t do it, but that it can’t be done through SBA. And then I go to Lender B and it works for them.

Making an SBA deal happen is a combination of negotiating structure and finding the right fit for lending. Keeping all this in mind, here are some things you should consider when including a seller note in your transaction:

  1. Seller notes are viewed favorably by lenders. If the seller is willing to keep some skin in the game, that’s a great sign. Make an effort to negotiate some level of note.
  2. Per the updated SOP, the minimum 10% equity injection can be sourced entirely from the seller note. When a note is being used towards equity, it must be on a minimum 2 year partial standby, meaning interest only payments for 2 years. A lender may require a longer standby. It’s all going to come down to the DSCR.
  3. While you technically can source the equity injection entirely from a note, not every lender is going to do this. Like so many things in SBA, it really is lender to lender specific, and just because the SBA allows for something doesn’t mean lenders are going to adopt it as their norm. Typically, this structure is more common when the borrower has direct industry experience. Some lenders will only do it if there’s a certain level of debt coverage. Generally speaking, lenders like to see some level of skin in the game from the borrower. 5% cash injection from the borrower and 5% seller note is a common structure.
  4. If you are using a note towards the injection, remember that it must be 10% of the total project, not 10% of the debt. I often see people forgetting to factor in closing costs and working capital when negotiating the seller note amount.
  5. Seller notes are often coterminous with SBA loans. Some lenders are more flexible on this and will allow seller notes to term out earlier, but only if the debt coverage is still healthy with a shorter term.
  6. The SBA does not allow for earn outs. What you can do is a forgivable seller note, also called a reverse earn out or buyer rebate.
  7. You can have multiple seller notes, although having too many can make things unnecessarily complicated. If you’re going to have more than one, there should be a clear reason.

The most important thing to keep in mind when structuring notes is making sure the DSCR works. You can put all the effort you want into figuring out the structure and language with the seller, but if it doesn’t pencil out with the SBA debt it’s either going to have to be on a 10 year standby or the deal just may not work.

I hope this is helpful. Happy searching!