Understanding How SBA Loans Work
SBA loans involve the Small Business Administration, a government organization that advocates for small business success. These loans are often considered the gold standard for business loans—they’re a top alternative for qualified borrowers who can’t access a bank loan, with low-interest rates and long terms. In this way, SBA loans work quite differently than most other financing solutions.
Here, we’ll break down everything you need to know to understand how SBA loans work, including a basic overview, a program-by-program explanation, as well as how to qualify and apply for SBA loans.
The Ultimate Guide to How SBA Loans Work
The Basics of SBA Loans
As we mentioned briefly above, the SBA is a government organization that supports small businesses. They have several loan programs with specific guidelines and varying requirements.
These loans are issued by lending partners such as banks, community development organizations, and micro-lending institutions. Certain lenders are considered SBA preferred lenders. These lenders can approve a loan independently from the SBA.
Through this system, the SBA guarantees a portion of the loans issued by their lending partners, meaning that the SBA will repay a certain amount of the loan to the lender in the case of a default by the borrower. The borrower who failed to repay the loan will still be on the hook to pay back the loan, but the SBA system reduces the borrowing risk.
If you’re interested in applying for an SBA loan, you will first need to find an approved SBA lender. Not all SBA lenders offer every type of SBA loan, so you’ll need to talk with several lenders and examine your financing options. Once you’ve decided which SBA loan program fits your situation the best, you’ll need to apply and start the application process.
The SBA loan process can take many months, and you’ll also have to meet the demanding requirements set by the SBA. The SBA determines the basic eligibility requirements and the ranges for terms, amounts, and to some extent, interest rates on all of their loan programs.
Once you’ve secured approval for an SBA loan, you’ll then start the loan closing process. This includes signing and submitting various documentation, such as insurance forms. After those documents have been verified, you’ll be able to receive funds in your business bank account within a few days.
How Each SBA Loan Program Works
Now that you have a basic understanding of how SBA loans work at a high level, let’s dive deeper into the different SBA loan programs. It will be important to learn how each program works so that you have a better sense of your options and what type of SBA loan may be the right solution for your business.
Overall, there are six different loan programs to review in order to fully answer the question: How do SBA loans work?
Although we’ll go into the details of each of these programs below, let’s begin with an overview of what you can expect:
SBA 7(a) Loans
SBA 7(a) loans are term loans that are partially guaranteed by the SBA—but provided through an SBA-approved direct lender—for a variety of different uses.
SBA 7(a) loans can be as large as $5 million with terms as long as 25 years. Interest rates on these SBA loans can be as low as the market prime rate plus 2.25%. These loans are remarkably popular because of the wide variety of use-cases business owners can put them towards. With eligible uses as diverse as working capital and real estate purchases, SBA 7(a) loans work like the catch-all of the SBA loan programs.
These loans are provided by SBA-approved lenders, namely banks. Therefore, if you’re applying for one of these loans, you’ll do so directly with an SBA-approved lender and if you’re approved, you’ll receive capital from this institution. The SBA, however, will provide a guarantee of 50% to 85% of the 7(a) loans.
SBA CDC/504 Loans
SBA CDC/504 loans, otherwise known as SBA real estate loans, are commercial real estate loans that are made up of a bank loan and a loan from a local CDC (Certified Development Company), packaged together.
SBA CDC/504 loans are designed specifically for financing larger projects such as real estate, construction, renovation, and long-term machinery. Altogether, these loans can range in amounts anywhere from $125,000 to $20 million, with terms of 10, 20, or 25 years.
SBA CDC/504 loans are a conglomeration of a few loans sourced from multiple lenders. One portion of the loan will come from a Community Development Corporation (CDC). This portion will typically be 40% of the loan, but the SBA will usually provide a 100% guarantee for the amount that the CDC contributes.
In most cases, the other 50% of the loan will come from another SBA-approved lender, like a bank. These two parts of the SBA CDC/504 loan will carry varying interest rates. The last 10% of the loan, however, will come from you—it will be a down payment from your business, which, of course, you won’t have to pay interest towards.
SBA Disaster Loans
SBA disaster loans are designed specifically to help business owners recover after they’ve experienced a declared disaster. These loans are one of the few instances in which the SBA lends directly, and as such, the funding will come directly from the SBA and won’t involve any guarantees or intermediary lenders.
Because these loans are so focused, they’ll involve a much more extensive process and evaluation from the SBA to determine whether or not your business qualifies. Overall, you’ll need to submit an application, after which point an SBA inspector will come to inspect your damages and make a decision regarding your eligibility.
And of course, how these SBA loans work will determine on which of the four loans you’re applying for. These are the options:
- Home and Personal Property Loans: These allow homeowners to access SBA disaster loans if their property was destroyed or damaged in a presidentially declared disaster. If your primary place of residence was affected, you could access up to $200,000 in funding.
- Business Physical Loans: These loans help business owners cover the cost of replacing or repairing business property that was damaged in a declared disaster. Through these types of SBA Disaster Loans, you’ll be able to access up to $2 million in financial assistance.
- Economic Injury Loans: With these SBA disaster loans, you can receive funding to cover the non-physical, more financial harm that declared disasters might have had on your business—like an evacuated or dormant customer base in the wake of a natural disaster, for example.
- Military Reservists Economic Injury Loans: These are SBA disaster loans specifically for businesses that have essential employees leave for active military duty. These loans can be as large as $2 million, but they’ll only be available for businesses that fit the use-case and don’t have access to typical commercial funding or credit elsewhere.
The specifics of an SBA disaster loan will largely depend on which loan you’re talking about. However, if the SBA determines you’re able to access credit elsewhere, the maximum interest rates on these loans will be 8%. On the other hand, if the SBA determines that you aren’t able to access credit elsewhere, then your SBA loan rate will be no more than 4%.
SBA CAPLines program offers lines of credit that come in four varieties but are typically only available in conjunction with SBA 7(a) or SBA CDC/504 loans.
The options within the CAPLines program include both fixed and revolving lines of credit that are issued by partner banks and other direct SBA lenders. The SBA does not provide the funding for their lines of credit. Instead, they typically guarantee 75% to 85% of the amount of the line of credit.
With this in mind, let’s break down the four different versions of SBA CAPLines and how they work:
- Seasonal lines of credit: These lines of credit will work for expenses like stocking up pre-season inventory, filling in gaps from accounts receivables, and covering higher labor costs when your busy season hits. These SBA lines of credit can have limits as high as $5 million.
- Working capital lines of credit: Working capital lines of credit will address general business expenses, much like SBA 7(a) loans. As a result, they’ll carry similar terms and requirements as 7(a) loans.
- Contract loan lines of credit: These business lines of credit best serve businesses who often need to access capital in order to purchase supplies and pay labor to fulfill contracts. SBA Contract Loan lines of credit can have limits as high as $5 million.
- Builders’ lines of credit: Builders’ lines of credit, as per their name, are designed for small businesses that construct or renovate buildings for resale. These SBA lines of credit can come with limits as high as $5 million and can be used for expenses as diverse as labor, equipment rentals, and landscaping.
Like SBA 7(a) loans, the interest rates on these lines of credit will depend on the lender, however, lenders must abide by the same maximums that the SBA sets for the 7(a) loans.
SBA Microloans are loans of up to $50,000 that the SBA lends to nonprofit intermediary lenders that, in turn, lend that capital to businesses in their communities.
With these microloans, the SBA lends money at a discounted rate to the non-profit intermediary who in turn lends this capital to small business owners. These loans can range in amount from $500 to $50,000.
Repayment terms for SBA Microloans can never exceed six years, but other than that maximum, the intermediary lenders are able to dictate term length. As for rates, SBA Microloans typically carry interest rates ranging from 6.5% to 13%—in the 2019 fiscal year, however, the average SBA Microloan interest rate was 7.5%.
Ultimately, just as you must work with an SBA-approved lender to apply for a 7(a) loan, you’ll need to find a microloan intermediary in your community and apply for one of these loans with them.
SBA Export Loans
The SBA Export Loan Program provides working capital loans for U.S.-based enterprises to expand and support their international sales. For these loans, the SBA can provide a guarantee of up to 90%.
These loans are available through the SBA’s network of SBA Senior International Credit Officers. You can find these officers located in U.S. Export Assistance Centers around the country.
Because banks are unlikely to provide working capital advances for export sales, the SBA offers a 90% guarantee on export loans. With these loans, businesses can apply in advance of finalizing an export sale or contract. Once again, businesses have to work with a participating SBA lender to actually apply.
You can apply for SBA Export Loans in amounts as high as $5 million. Unlike some of their other programs, the SBA does not have any regulations for interest rates on these loans—instead, you must negotiate your rates directly with your lender.
Who Qualifies for SBA Loans?
Although there is an overarching principle governing SBA loans, the involvement of the SBA, the specific program will largely dictate how any particular loan works. At this point then, you may be wondering how qualifications fit into the way SBA loans work.
Once again, due to the nature of the different SBA loan programs, some of the qualification requirements will depend on the lender and the program you’re applying for. Nevertheless, there are a few general SBA loan requirements that you can keep in mind:
- You should have a U.S. based, for-profit business in an eligible industry.
- You should be a “small business” based on the SBA definition.
- You should have invested your own time or money into your business.
- You should have exhausted your other financing options.
On top of these basic requirements, you’ll also need to have great personal credit and strong business financials. Although SBA loans are more accessible than traditional bank loans, they are not the easiest loans to qualify for.
How to Apply for an SBA Loan
Now that you know the basic requirements that will be involved in qualifying for an SBA loan, you’re likely wondering about the application process.
The application process will largely be dependent on the loan program and the lender. However, on the whole, you can expect your SBA loan application to require significant documentation, paperwork, and time. SBA loans are notorious for the effort it takes to complete the application process and actually get to funding.
With this in mind, you should expect to provide (at least) the following:
- Basic business information
- Loan request
- Personal background and character information
- Business plan
- Personal and business credit reports
- Personal and business tax returns
- Financial statements
- Collateral or a personal guarantee
- Legal documents
How long does it take for an SBA loan to get approved?
When talking about how SBA loans work, this is a question business owners often have. After all, if your business needs funding, it only makes sense to want to know how long it will actually take to get that funding.
This being said, compared to many other loan products on the market, SBA loans are known for their long process (as we mentioned), which includes a slow time to fund.
On the whole, the SBA loan process generally takes about 60 to 90 days. Overall, the longest individual piece of the SBA loan timeline is usually the first part—where you gather your documentation and actually apply for the loan. If you’re prepared, this step could take no time at all, typically, however, it takes up to 30 days.
After the lender underwrites your loan (which can take from 10-14 days), the specific approval part of the timeline typically can take 10 to 21 days. The last step, closing, can take anywhere from seven to 14 days.
The Bottom Line
At the end of the day, it’s not always easy to understand how SBA loans work. However, as you’ve seen through our guide, if your break down SBA loans into their different programs, you can get a better sense of the SBA loan options in order to think about which one might be right for your business.
This being said, although SBA loans often require a lengthy application process and slow funding times, if you qualify, you’ll have access to one of the most competitive loan products on the market. With SBA loans, you’ll have access to low-interest rates, long terms, and high loan amounts—second only to traditional bank business loans.
Therefore, it’s worth taking the time to sort through each of the SBA loan programs to see if any of them is the right fit for your financial needs—and of course, to determine if you can qualify. If you think an SBA loan is the best solution for your business, then you’ll want to take the next steps: Find a lender and start working on your application.
Frequently Asked Questions
Do you still have questions regarding how SBA loans work?
Check out the infographic below for answers to the questions that Fundera’s SBA loan experts hear the most.
Priyanka Prakash, JD
Priyanka Prakash is a senior contributing writer at Fundera.
Priyanka specializes in small business finance, credit, law, and insurance, helping businesses owners navigate complicated concepts and decisions. Since earning her law degree from the University of Washington, Priyanka has spent half a decade writing on small business financial and legal concerns. Prior to joining Fundera, Priyanka was managing editor at a small business resource site and in-house counsel at a Y Combinator tech startup.