Recently, we shared a post highlighting the many financing options available to financial advisors looking to purchase a book of business. We specifically noted how lenders have learned how to value the goodwill collateral of a financial advisor practice in order to develop lending solutions specifically geared to this unique market. Typically, these loans fall into one of two categories: conventional and government guaranty loans.
Conventional loans are those offered directly and solely by the lending institution. In conventional loans, the lender assumes all risk and is the sole lien holder on any assets offered as collateral. Typically, conventional loans require a higher down payment versus government guaranty loans and usually offer shorter repayment time frames (5 to 7 years) and higher interest rates. For some borrowers, the payment terms can price them out of the transaction. This is where government guaranty loans come in.
Government Guaranty Loans
Government Guaranty loans offered through the Small Business Administration (SBA) were designed to help make capital more available to small businesses. However, contrary to common perceptions, the SBA does not make loans directly to the borrower. Instead they leverage lending partners and Certified Development Corporations to facilitate loans. The government provides a guaranty on a portion of the loan, usually up to 75% or up to a certain dollar amount, depending on the loan type. This offsets a portion of the risk that the lender would normally assume.
What’s the Benefit or Drawback with Each?
Conventional loans are great when flexibility is needed to structure the deal. Lenders can work directly with the borrower to customize the terms and structure and find an arrangement that works for the business. Conventional loans also tend to have lower fees, though they can also have shorter amortization periods and higher interest. This results in higher monthly payments that can impact cash flow.
Government Guaranty Loans
In exchange for sharing the risk with the lender, the SBA sets forth certain eligibility requirements on the borrowers and specifies what terms the lender can offer. Typically, this results in a longer amortization time frame, up to 10 years, as well as lower down payments, and lower interest rates for the borrower. This translates to a better cash flow position post-acquisition. However, SBA’s eligibility and structure requirements can place limits on the deal, such as earn out scenarios or situations where the seller wants to remain employed by the business for longer than a year after the acquisition.
What are my options?
The best solution is to work with a lender, like Salt Creek, that offers both conventional and SBA loans. This will provide you with the greatest flexibility and more options while maintaining a single lending relationship that can grow and evolve over time. If you are considering buying a practice, we can work with you to determine which program best fits your needs and if you qualify. Contact us today to schedule a free initial consultation call.