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SBA 504 loans explained
Government-backed financing for real estate, equipment and more.
If you’re looking to buy property, real estate or equipment for your small business, a 504 loan from the Small Business Administration (SBA) might be a good fit. This program isn’t as competitive as the popular general-use 7(a) loan program, so you likely won’t have to fight as many applicants for a piece of the pie. However, the application can be a bit more complicated, so get ready to spend some time on it.
What is an SBA 504 loan?
An SBA 504 loan — also called an SBA 504/CDC loan — is a government-backed loan designed to help businesses expand and promote job creation. You can use it to finance new real estate projects, renovate existing properties or purchase new machinery or equipment. Though it can’t help with your working capital needs, the SBA now allows you to use it to refinance as well.
This loan program is a little different from other types of SBA loans because the funding comes from two different lenders: a certified development company (CDC) and a third-party institution — usually a bank or online lender.
What exactly is a CDC?
A CDC is a nonprofit corporation that offers SBA-backed financing to small businesses that need funds to grow. All CDCs are certified and regulated by the SBA, though they’re not technically part of the government.
They function with the mission of promoting economic growth and development in local communities. Currently, there are over 260 CDCs in the country, and you can find one that serves your area on the SBA website.
Your local CDC may also be able to help you secure an SBA 7(a) loan as well, which provides financing for working capital, business acquisitions and inventory.
Compare SBA loan providers
How do SBA 504 loans work?
SBA 504 loans provide your business with funds from two separate sources: a CDC and a third-party lender. Since the government only backs the CDC portion of your loan, it has different rules for funding that comes from a CDC versus a third-party lender.
How much each lender puts toward the loan depends on how long you’ve been in business and what type of project you’re using the funds for. You may have to pay a higher down payment if:
- Your business is less than two years old.
- You’re funding a project involving a property that has a unique design — called a limited-market property.
- You’re funding a project involving a property used for one purpose — called a special-purpose property.
For example, financing to build a bowling alley is considered a special-purpose property because it’s made specifically for bowling. Here’s how it breaks down:
Portion of loan funded
|Established business using funds for standard property||New business or using funds for a limited-market or special-purpose property||New business and using funds for a limited-market or special-purpose property|
|CDC||Up to 40%||Up to 35%||Up to 30%|
|Third-party lender||Starting at 50%||Starting at 50%||Starting at 50%|
|Borrower||Starting at 10%||Starting at 15%||Starting at 20%|
How much can I borrow with an SBA 504 loan?
There’s technically no limit to how much small businesses can borrow through this program. However, the SBA sets a maximum amount CDCs can fund depending on the project.
Most projects can qualify for as little as $25,000 all the way up to $5 million. However, projects that reduce your business’s energy consumption by at least 10% or are otherwise involved in renewable energy can often get up to $5.5 million in CDC funding.
Since there’s no limit to your project costs, it’s up to your third-party lender to set the maximum amount for a 504 loan.
How much does an SBA 504 loan cost?
There are three types of costs associated with an SBA 504 loan: interest, fees and the down payment. As we mentioned before, business owners are required to make a down payment of between 10% and 20%, depending on the type of project and time in business.
SBA 504 loan rates
SBA 504 loans come with two interest rates: interest on the CDC portion of your loan and interest on the third-party portion of your loan. The SBA bases the maximum rate for the CDC portion on the cost of US Treasury bonds. Third-party lender rates are based on the Wall Street Journal prime rate. Both are fixed, meaning your rate won’t change throughout the life of your loan.
Here’s how they break down:
- Maximum CDC interest rate on a 10-year loan: 2.9%
- Maximum CDC interest rate on a 20-year loan: 3.06%
- Maximum third-party lender interest rate: 11.25%
Want to know how the SBA came up with these numbers? Our SBA rates guide breaks down the math that goes into both types of interest rates.
SBA 504 loan fees
There are several different fees you might have to pay on your SBA 504 loan, including:
- Guarantee fee. The SBA charges a guarantee fee of 0.5% of the CDC portion of your loan.
- Processing or packaging fee. If your local CDC helps you put together your application, it may charge up to 1.5% of the CDC portion of your loan.
- Closing fee. Your CDC may charge a fee to cover the costs of closing your loan, like charges for legal services or filing forms.
- Underwriters’ fee. You may have to pay an upfront fee between 0.375% and 0.4% of your total loan amount to cover the cost of evaluating your application.
- Servicing fee. Your loan servicer may charge an annual fee of 0.368% of your outstanding loan balance.
- Central servicing agent (CSA) fee. You might have to pay an annual fee of 0.1% of your outstanding loan balance to your CSA.
- Participation fee. The SBA charges your third-party lender a one-time fee of 0.5% of the portion of the loan its funding that has a first position lien. However, your lender may pass this fee on to you.
- Late fee. If you don’t make your payment by the 15th of the month, your CSA may charge a late fee of 5% of the amount due or $100 — whichever is greater.
- Assumption fee. Your CDC may also charge a fee of up to 1% of the outstanding balance of your loan if you make a late payment.
Read our article on SBA guarantee fees for more details on how they work.
What are the terms on an SBA 504 loan?
SBA 504 loans come with different terms depending on how you use your funds. The maximum term on a loan used to buy real estate is 25 years. For equipment and machinery, the maximum loan term is 10 years. For other purchases, the loan term can be 10, 20 or 25 years based on the average useful life of the items you’re financing.
What types of collateral can I use on an SBA 504 loan?
Generally, SBA 504 loans are backed by the property, equipment or machinery you purchase with the loan. Typically, the third-party lender gets a first lien position — meaning if you default, it can sell off your assets to collect the amount you owe first. The SBA usually takes a second lien position, meaning it would get access to your assets after your third-party lender collects what’s owed. Other times, the SBA and third-party lender share a first lien position.
You don’t need to provide any additional collateral or a larger down payment if your business meets the following requirements:
- It’s at least two years old. New businesses need to provide additional collateral on an SBA 504 loan.
- It has strong cash flow. Businesses must regularly have enough money coming in to afford the loan repayments.
- Management is experienced. Your business’s management team must have proven experience with the type of project you’re trying to fund if you want to avoid putting up more collateral.
- The project is a a logical extension of what your business currently does. In other words, your business needs to provide extra collateral if you’re trying to break into a new field with a 504 loan.
The SBA requires all business owners to buy insurance to protect collateral against hazards and other risks.
In addition to collateral, the SBA generally requires a personal guarantee from business owners with at least a 20% stake in the company. This means that all business owners are also partly responsible for paying back the loan if the business can’t.
SBA 504 loan requirements
SBA 504 loans come with a slightly different set of requirements than other government-backed business loans. Small businesses must meet certain standards just to qualify, similar to what you’d find with a 7(a) loan. But how you use the funds and its impact on the local community can also affect eligibility.
Business requirements for 504 loans
To be eligible for a loan through the 504/CDC program, your business must:
- Be a for-profit operating business. Startups are ineligible for 504 loans — you might want to check out the 7(a) Microloan program instead.
- Meet SBA size standards. The SBA has specific definitions for what qualifies as a small business depending on your industry. You can use the SBA’s size standards tool to find out if your business is eligible.
- Be worth no more than $15 million. Your business can’t have a tangible net worth over $15 million.
- Have made less than $5 million over the last two years. This $5 million is your average net income after taxes.
- Show a need for funding. You need to prove your business is unable to qualify for financing at a reasonable rate or cover the cost of the project with its own assets or those of the business owners.
- Be located in the US. Foreign-based businesses aren’t eligible for any SBA funding, even if they’re owned by US citizens.
- Be an eligible business type. The SBA doesn’t work with several industries, including lenders, casinos, adult entertainment establishments and banks. You can get more details about what businesses are ineligible with our guide to SBA 7(a) loans.
Additional requirements for 504 loans
In addition to the basic eligibility requirements, your small business needs to either create jobs or meet a community development or public policy goal to qualify for a 504 loan.
Most small businesses need to create one job in their community for every $65,000 that the SBA guarantees. The exception is manufacturers, which must create one job for every $100,000 funded.
Community development goals
The following qualify as community development goals, according to the SBA:
- Bring new income to the community.
- Promote other business development.
- Improve, stabilize or provide diversity to the local economy.
- Assist manufacturing firms.
- Help businesses in Labor Surplus Areas.
Public policy goals
Here’s a list of public policy goals that could help your business qualify for funding:
- Expand small businesses owned and controlled by women.
- Expand small business owned and controlled by veterans.
- Promote minority-owned companies.
- Develop rural areas.
- Revitalize the business district of your local community.
- Increase exports.
- Upgrade facilities to meet government standards.
- Reduce unemployment rates in a Labor Surplus Area.
- Increase competition and productivity.
- Help businesses located in or moving to areas affected by federal budget cuts.
Since each CDC works with a specific community, your local branch might have a slightly different definition for these community development and public policy goals. Reach out to your local CDC for more specifics.
What’s a Labor Surplus Area?
The US Department of Labor defines a Labor Surplus Area as a civil jurisdiction that has an average unemployment rate at least 20% higher than the national average for the past two years. A civil jurisdiction is a city with a population of at least 25,000 in the most recent census. Some towns and counties may also count as civil jurisdictions depending on where they’re located. You can find an updated list of Labor Surplus Areas on the US Department of Labor website.
Eligible uses for 504 loans
The SBA 504 loan program isn’t right for every small business: There are restrictions on how you can use the funds. You can’t use an SBA 504 loan for working capital or to buy inventory. Eligible uses include:
- Buying and making improvements to land. For example, installing curbs, gutters, streets, parking lots, landscaping or utilities.
- Buying and making improvements to a building. Updating utilities, replacing the roof or improving the building’s facade are all eligible improvements.
- Buying equipment or machinery. This can include associated costs such as transport, installation and dismantling. However, it must have a useful life of at least 10 years to qualify.
- Creating a contingency fund. However, the contingency fund can’t be worth more than 10% of the construction costs on your business’s project.
- Covering interim financing costs. This can include interest, fees and points associated with another loan, while not actually refinancing the debt.
- Financing short-term debt. Also known as bridge financing, this is a short-term loan of three years or less used to cover costs related to your project.
- Covering fees associated with your project. These can include title insurance, surveys, zoning costs and more.
- Buying furniture or fixtures. These must be essential to your project to qualify.
- Refinancing debt. The debt must be associated with a loan used for an eligible type of business expansion.
SBA 504 loan refinancing requirements
The SBA recently added a refinancing program that comes with some additional requirements:
- Your business must be paying off the debt for at least two years.
- At least 85% of that debt must have been used for an SBA 504-eligible purpose.
- Your business can’t use the loan to also fund business expansion.
Like other SBA 504 loans, your business is also required to back the loan with collateral.
How to apply for an SBA 504 loan
You might want to get started on your SBA 504 loan application by first reaching out to your local SBA district office. It can help you find the right CDC for your business’s needs.
Next, you can either find a third-party lender on your own or ask your CDC which lenders it typically works with. When looking for a bank or online lender, check its eligibility requirements — many have minimum credit score, time-in-business and revenue criteria you need to meet on top of the SBA’s requirements.
Once you’ve found a third-party lender and a CDC, your business works with both to complete the application. In addition, you’ll likely need to submit the following SBA forms as well:
- SBA Form 413: Personal financial statement
- SBA Form 159: Fee disclosure form
- SBA Form 912: Statement of personal history
You might also be asked to get your real estate or equipment appraised, or pay for an environmental impact report. From start to finish, it can take a few months before your business gets its funds.
SBA 504 vs. 7(a) loans
Still torn between the SBA 504 and 7(a) program? Let’s take a quick look at how they compare:
|SBA 504 loans||SBA 7(a) loans|
|Loan amount||Up to $5 million for most projects||Up to $5 million|
|Maximum interest rate||3.06% for CDC portion, 11.25% for bank portion||10%|
|Percentage guaranteed||Up to 40%||Up to 85%|
|Terms||10 to 25 years||5 to 25 years|
|Guarantee fee||0.5% of guaranteed portion||0.25% to 3.75% of guaranteed portion|
|Down payment||10% to 20%||15% to 20%|
The SBA 7(a) loan program guarantees a much larger portion than the 504 program and has a relatively simpler application process — after all, there’s only one lender.
But getting approved for any kind of SBA loan can be difficult. While a 504 loan might have more restrictive eligibility requirements, that also means you’re competing with a smaller pool of applicants if you qualify. In this case, you might have slightly better odds of getting approved than borrowing through the SBA 7(a) loan program.
SBA 504 loans are for small businesses looking to expand by purchasing real estate or equipment. They have stricter eligibility requirements, however, and require a long and involved application. But if your business qualifies, you could have an easier time getting approved than going through the 7(a) program — especially if your project can help create jobs in your area.
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