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Is your construction business going through some growing pains? If so, you may need new business equipment to help with the number of construction projects coming your way. You’re likely planning to buy some expensive equipment. For a small business owner, the cost of that equipment can present a bit of a dilemma. Maybe you don’t have access to excess cash flow. Maybe you've had trouble qualifying for a traditional bank loan. Even minor or short-term projects can call for pricey equipment.
So, how can you get that much-needed construction equipment if you’re unable to cover the purchase cost out-of-pocket? Equipment loans are a viable option for you. Many types of loans are available to business owners. The Small Business Administration (SBA) exists to support businesses like yours as they grow. In this article, we'll tell you about two of its loan programs.
The SBA has two types of loan programs: the SBA 7(a) Loan and the SBA 504 Loan. Both are designed to benefit small business owners in the construction industry, manufacturing and many other sectors. If you need to replace or to acquire some heavy-duty equipment, that equipment could cost tens of thousands of dollars. That’s when it is helpful to have heavy equipment financing options available. These SBA loans allow business owners to use a heavy construction equipment loan to finance the equipment. With that, owners can continue daily operations as their needs change.
SBA 7(a) loan
This loan is the most commonly used of the SBA’s programs. It accounts for about 80% of all SBA lending. While the SBA 7(a) loan† is backed by the government, you can receive the loan from a bank, credit union, or other lending institution. This type of loan has a variety of approved uses, such as buying equipment, real estate purchases, and working capital.
SBA 7(a) loan benefits
The possible loan amount in this program covers a very wide range. There is no minimum, and the maximum caps out at $5 million. The SBA will guarantee at least 75% of the loan total. For financed equipment, the repayment loan terms can be set to match the life of the equipment. You can use the loan for working capital or inventory, also for a term of up to 10 years. The loans can have competitive fixed or variable interest rates. It is, generally, a more affordable option for business equipment financing. One major perk is that the equipment is the collateral; borrowers, generally, don't have to put up any additional assets. However, if the loan is not considered to be fully secured, the lender will look to personal assets. These loans also allow for a broad range of equipment to be financed.
SBA 504 machinery and equipment loan
These loans account for about 20% of all SBA funding. These loans are popular with established small businesses for business equipment loans, and many startups take advantage of this program, too. They're a good option if you are planning to make large-scale machinery purchases. 504 loans provide long-term, fixed rate financing for major asset acquisitions. The SBA requires that these loans be used to promote business growth or job creation.
SBA 504 machinery and equipment loan benefits
These loans are generally capped at $5 million. However, some specific manufacturing or energy-efficient projects can apply for up to $5.5 million per loan. Associated fees can be financed into the loan, cutting back on the out-of-pocket costs for business owners.
SBA 504 machinery and equipment loan considerations
These loans have a more complex structure than the 7(a) loans. The 504 has three components:
- A bank loan, in which the bank or lender provides 50% of the funding
- A CDC loan, in which an SBA-approved Certified Development Company provides up to 40% of the funding
- A down payment, where the borrower will provide 10% of the funding as a down payment for the loan
These loans are ideal for financing equipment purchases, but they cannot be used for working capital or inventory.
SBA lenders look at a variety of things when considering your loan application. They'll consider your business cash flow, the primary source for repayment, and collateral. They’ll also consider some business-specific criteria, including:
- Size. You must be a small business as defined by the SBA, which offers an online tool† for determining that
- Industry. As a contractor looking for equipment and machinery financing, you must fall into the allowable industries
- Cash flow. The ability to repay the loan will be determined by analyzing both your business’ historical and projected cash free cash flow. Debt service coverage ratios of about 1.2x are common
- Credit. Both the 7(a) and 504 loans require good business and personal credit from all business owners with 20% or more ownership
You’ll also need to provide some documents, which can include a business plan. Lenders will want an explanation of how you’ll use the funding (for what equipment). Then, they'll ask how you plan to repay the loan. The more thought-out and descriptive your answers can be, the better.
Documentation of your business and personal finances that show ownership of assets and insurance to protect your business are necessary. Tax return documentation for the business and any owners should be included.
What to consider before applying for an SBA loan
Before securing the loan, there are some things you should consider:
- How much you need. What will your overall equipment costs be? It’s important to make sure the amount of funding requested will be enough to ensure your ability to cover the cost of equipment, but it’s equally as important to select an amount you will be able to pay back without a problem. You should also consider whether the life of the equipment and technology will outlast the term of the loan. It’s not ideal to finance equipment that you do not expect to last as long as the term of the loan
- Personal guarantee. Because personal guarantees are required for SBA loans, you must consider whether you will be able to pay back the loan if your business is unable to do so
- Fees. The fee amounts will vary, depending on which loan you pursue and the lender from whom you receive the funding. Fees can be rolled into the loan itself for some loans, but if any fees are to be paid out of pocket, make sure that those fees won’t make it difficult on your business going forward
- Guarantee fee. Similar to any other fees, the guarantee fee will vary. This fee is determined by the loan amount, the SBA guarantee, and the length of the loan term
- Origination fee. These, too, will vary, depending on the lender and loan amount as compensation for processing the loan application
- Packaging fees. Some loan providers will charge an SBA packaging fee to organize your loan documents. This fee is generally between $2,000 and $5,000
- Closing costs. As with other loans, there will be associated closing costs. They may vary greatly, depending on your loan terms
Building a business
SBA loans are a good way for small businesses to finance the huge costs of equipment as they grow. Loans can help keep up with demand. TD Bank is ready to help you determine which loan best suits your needs and business goals.
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