If you’re starting a hotel business, or expanding an existing one, you already know that you have a massive undertaking on your hands. All of the moving parts within the industry are intimidating to just about everyone—and securing business financing is just one big piece of it. Because, beyond the basics of staffing logistics, design, marketing, and more… how, exactly, will you pay for it all?
In this arena, though, there’s good news for US-based aspiring hoteliers. Through the US Small Business Administration’s loan programs, you might be able to snag an SBA hotel loan. And that means your grand opening (or reopening) might be more accessible than you ever thought possible.
So you can lock down the funding you need and dive back into all the other to dos on your new business list, here’s what you need to know about obtaining an SBA hotel loan for your business.
As the name suggests, SBA hotel loans refer to financing offered through one of the US Small Business Administration’s various loan programs and used for the purpose of building, acquiring, refinancing, or gaining working capital for a hotel business.
Contrary to common misconceptions, principal funding for SBA loans doesn’t come directly from the small business administration itself. Rather, the SBA works in partnership with approved lending partners—including local and national banks as well as non-bank lenders and nonprofits—to guarantee a portion of the loan’s proceeds in the event that the borrower defaults.
This arrangement allows these lenders to approve funding for small business borrowers who may not otherwise qualify due to the relatively high risk involved in small business lending.
Although the US Small Business Administration doesn’t have specific loan programs tailored to hotel financing, each of the SBA’s two most popular general purpose SBA loan programs—the 7(a) loan program and the 504 loan program—are well suited to meet the most common funding needs of hotel businesses.
By far the most common SBA loan program, 7(a) loans are ideal for hotel financing because they carry low interest rates, long repayment terms, are available for up to $5 million. These highly desirable financing products can be used to meet virtually any hotel financing need, including business acquisitions, working capital, commercial real estate, construction, and more.
Despite being one of the most complicated loan products on the market, SBA 504 loans can be attractive options for hotel financing because they carry fixed rates and higher loan amounts. That also makes them highly desirable products.
Here’s how these work: The SBA 504/CDC Loan combines a loan from a non-profit Community Development Corporation (CDC) with a loan from a bank lender to create a long-term, low-interest loan. This unique community development relationship can make 504 loans more easily accessible to hotel borrowers who may otherwise struggle to obtain an SBA hotel loan.
One caveat: the SBA 504 Loan can only be used for select business purposes—most often to purchase fixed assets such as commercial real estate or heavy equipment.
The exact terms of your SBA hotel loan will depend on two factors: the loan program you choose—i.e. 7(a) vs. 504—and the exact nature of your proposed business deal.
For the most part, borrowers in search of SBA hotel loans find themselves in one of four potential arrangements:
Hotel Acquisition: Many SBA hotel loan requests are made for the purpose of a hotel acquisition, as in the purchase of an existing hotel property. In this situation, the lender would fund up to 90% of the property value plus any over and above asset value for the business.
Keep in mind that the SBA loan approval process can be a long one, so you’ll need to submit your loan application early on in the negotiation process for the acquisition in order to obtain funding before a new buyer shows interest in the property.
New Construction: If you need business construction loans for new hotel property on a piece of raw or underutilized land, an SBA 7(a) loan may be available for up to 80% to 85% of estimated purchase and construction costs. Because this scenario would likely involve the lender investing more than the value of the existing property, borrowers for a new construction hotel loan should be prepared to meet high personal credit requirements and put up personal collateral on the loan.
Refinancing: Under certain circumstances, an SBA 7(a) loan can be used to refinance existing hotel loans with a new term of 10 to 25 years, freeing up additional cash flow for working capital needs.
To qualify for 7(a) refinancing, borrowers must prove that their existing hotel loan carries unreasonable terms, such as a balloon maturity, an exorbitant interest rate, or an interest only period. These terms can be tricky to navigate and are often evaluated on a case by case basis, so you should communicate directly with an approved local 7(a) intermediary lender to determine whether your situation qualifies.
No matter the exact scenario of your hotel financing needs, the availability and terms of most SBA hotel loans will depend on a few key factors:
Real Estate Value or Purchase Price: Since the land and building that make up a hotel represent the vast majority of its fixed assets, the value of the real estate will largely dictate the loan amount available. According to Matt Diamond, VP of SBA Lending at Celtic Bank, in the case of an SBA hotel loan for an acquisition or commercial real estate purchase, the loan amount will typically be 85 to 90% of the real estate purchase price. For hotel loans taken out for refinancing or new construction, loan amounts are typically limited to a maximum of 80-85% of the total real estate value.
Going Concern Value: Applying most often to hotel acquisitions, the going concern value is the dollar amount assigned to the value or purchase price of the business over and above the base real estate value. Again, in most cases the value of the real estate makes up the large majority of any hotel’s total business worth. Typically, the going concern value will account for a maximum of 10% to 20% of the total purchase price.
Loan-to-Value Ratio: As the name suggests, the loan-to-value ratio (LTV) is a formula that lenders use—usually in the case of commercial real estate or business acquisition loans—to represent the ratio between the amount of a loan and the total value of the asset being purchased. The ratio is calculated as follows:
Principal Loan Amount / Property Value = ___% LTV
Celtic Bank’s Diamond says that for SBA hotel loans, lenders typically allow for a maximum LTV of 85 to 90%, with the exact LTV depending upon the borrower’s financial history and their ability or willingness to secure the loan with personally held outside collateral.
Borrower Injection: Before either the SBA or its intermediary lender can agree to approve funding for your hotel loan, they need to know that you as the borrower are truly committed to the deal and have some skin in the game. To ensure this, SBA hotel loans require a borrower injection—sometimes called a SBA loan down payment—of between 10% and 15% of the loan amount. For commercial real estate or business acquisition loans, the loan amount plus the borrower injection together make up the total purchase price of the property.
Loan Principal + Borrower Injection = Purchase Price
As with the loan to value ratio, the exact amount of the borrower injection requirement on any loan will again depend upon the borrower’s financial history and the availability of outside collateral.
Additional Collateral: One of the benefits of taking out an SBA hotel loan to finance a property purchase or hotel acquisition is that because the hotel property itself secures the value of the loan, you as the borrower won’t necessarily be required to sign a personal guarantee or offer up your personal real estate as collateral. That said, if you need to minimize the amount of cash (i.e. borrower injection) required up front, providing additional collateral is the primary way to increase the LTV ratio for your funding agreement (and thereby lower the cash requirement).
Because loans obtained for the purpose of a hotel acquisition represent the vast majority—as much as ⅔ by some estimates—of all SBA hotel loans, this scenario represents the most likely funding situation you will find when applying for hotel financing through the small business administration.
Let’s take a look at some basic terms for a hotel acquisition with a total purchase price of $2 million:
Real Estate Value: $1,700,000
Going Concern: $300,000
Total Purchase Price: $2,000,000
Bank Loan Amount (90% LTV): $1,530,000
Borrower Injection: $470,000
PLUS Closing Costs: $57,000
Total Borrower Injection: $527,000
Factoring the going concern over and above the real estate value, closing costs, and a 90% LTV, this borrower would will have a total initial cost of $527,000 (or around 26% of the total purchase price) in order to close the deal.
Keep in mind, however, that calculating a 90% loan-to-value ratio assumes that this borrower has good credit, strong financials, and has offered up personal collateral to help secure the loan.
You know how SBA hotel loans work and why they may or may not be a fit for your own business plan—but how, exactly, do you go about submitting a loan application and getting funds in hand for your hotel?
Unfortunately, the SBA loan underwriting process is not for the faint of heart. Here are the steps you’ll need to take if you decide to apply for an SBA hotel loan:
The path to approval for any SBA hotel loan starts first with knowing what you need, particularly as it relates to a few key questions:
What is the property value? Calculate 90% of this figure to determine the maximum loan amount that the SBA is likely to approve.
How much funding can you afford? Consider both the amount of cash you have to contribute up front and the size loan payments you’re comfortable maintaining from month to month to determine whether you can afford a loan equivalent to the property you’re considering.
Which SBA loan program is right for you needs? Based on the amount of funding you need and the purpose of your SBA hotel loan, does a 7(a) loan or a 504 loan make the most sense for you? Keep in mind that the loan program you choose will to some extent dictate which intermediary lenders you can work with, so you’ll need to make this selection before moving further into the process.
Once you’ve answered these critical questions, you can use the SBA’s lender match tool or work within an online lender marketplace to identify an appropriate SBA intermediary lender for your funding application.
In addition to the basic requirements being a registered business of fewer than five hundred employees operating in the United States, you should expect that underwriters will consider these five factors as they determine whether to approve your SBA hotel loan application:
Property Appraisal: Even if you’re seeking a loan for a hotel acquisition based upon a listed purchase price, most intermediary lenders will require an independent property appraisal to confirm the value of the property. Should the lender’s appraisal be valued significantly below the asking price, you might need to either negotiate with the seller or put in additional personal capital to make up the difference.
Personal Credit History: Particularly with a hotel acquisition or new construction, where you don’t have an existing business with credit and revenue history to share, your personal credit history as the borrower will weigh heavily into the SBA’s decision. Although it’s possible to be approved with a lower score, most successful SBA loan applicants carry a FICO personal credit score of at least 650, generally closer to 680.
Cash Injection: To be approved for hotel financing through the SBA, you’ll first need to show readiness to contribute between 10% to 30% of the total loan principal as cash up front.
Availability of Collateral: SBA hotel loans don’t necessarily require that the borrower put up outside collateral. All the same, showing that you have access to collateral could still make the difference in your approval for financing—especially if your personal credit history is less than stellar.
Business Plan: Lenders also know that even the most financially prudent business deals can go south if the business owner doesn’t have a thoughtful plan and the expertise to carry it out. That’s why, even though a strong business plan in itself won’t guarantee you access to an SBA hotel loan, it’s critical that you have this document in place to show your lender that you can be trusted with their investment.
Even if you’re feeling optimistic about your chances of approval for an SBA hotel loan, you should prepare yourself for an arduous and time consuming application process.
Here’s a brief starting list of the documents you can expect to provide for both the Small Business Administration and the individual intermediary lender who will be funding your loan:
Although these documents can serve as a starting point to help you prepare your application, this is by no means an exhaustive list. Any SBA loan application tends to come with a relatively long process compared to other business loans, and that’s especially true for loan agreements involving major commercial real estate.
For best results, communicate directly with your intermediary lender long before you intend to submit an application to learn of any unique requirements they may hold.
You’ve poured over the lender’s application requirements, double checked every piece of paperwork, and checked every box on the list. Congratulations, you are ready to submit your SBA loan application!
Now, all there’s left to do is wait. And wait. And possibly jump through some additional hurdles and red tape. Even with everything perfectly completed, it’s not uncommon for the SBA to circle back with an applicant once or even several times to request additional paperwork or information. Plan to be available throughout the approval process for any questions that may arise—and if an issue does come up, address it calmly and helpfully.
You’ve done your part, and now it’s simply a matter of waiting on that key decision regarding the future of your hotel business.
Meredith Wood is the founding editor of the Fundera Ledger and a vice president at Fundera.
Meredith launched the Fundera Ledger in 2014. She has specialized in financial advice for small business owners for almost a decade. Meredith is frequently sought out for her expertise in small business lending and financial management.