How to Finance a Business Purchase
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Not all new business owners’ journeys start from nothing — some entrepreneurs buy an existing small business instead. You can finance a business purchase with a loan from a variety of lenders, including traditional banks, online lenders and the Small Business Administration. And if the existing business is already successful, applying for financing could be easier than funding a new business that has yet to prove itself.
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Borrowers can also leverage the acquired business’s assets to obtain a loan or take on some of its debt to lower the acquisition price. Entrepreneurs who want to skip the bank completely, or who don’t meet loan eligibility requirements, may consider working out a seller financing agreement that lets them pay the seller over time.
» MORE: Best business acquisition loans
Ways to finance a business acquisition
If you aren’t relying entirely on personal funds to buy a business, there are other ways to fund an acquisition, especially if you have good credit and have owned a successful business in the past. Here are several financing options.
Borrowers with good credit and available collateral can apply for a variety of SBA loans, which are partially guaranteed by the Small Business Administration, to cover up to 90% of the business purchase price. These types of loans have stringent requirements, the application and funding process can take up to three months, and the borrower is required to contribute a 10% equity injection, or down payment. Most SBA 7(a) loans, the most popular type of SBA loan, are distributed as term loans, and borrowers have up to 25 years to pay them back.
Like SBA loans, traditional bank loans come with a rigorous application process and usually require collateral. Maximum bank term loan amounts typically range from $100,000 to $3 million, and repayment terms often vary from one to seven years. The larger the loan, the more likely it’ll require a personal guarantee and lien. Additionally, banks tend to offer higher maximum loan amounts for secured loans versus unsecured loans.
Online business loans
Loans from online lenders typically have more lenient requirements and quicker turnaround times than SBA and bank loans. However, the trade-off is usually higher interest rates and shorter repayment terms. Many online business loans come in the form of term loans or lines of credit. Depending on the lender and loan amount, borrowers could have anywhere from three months to seven years to pay it back in full, plus interest.
Leveraged buyouts are ideal for borrowers who don’t have a lot of cash for a down payment, but need a sizable small-business loan. To make up for the lack of cash, the borrower leverages the acquired business’s assets or its future cash. For this to work, the assets must be valuable and the lender must be confident that the business will continue to bring in money. This type of financing is best for businesses that are well-established and have a predictable consistent cash flow.
Instead of working with a bank, or in conjunction with it, entrepreneurs can approach a business’s owner and ask for seller financing. The seller usually loans from 5% to 25% of the buying price to the borrower, who agrees to pay it back over a period of time. This type of financing is more flexible than a traditional loan, and the borrower may be able to base repayment terms off the business’s success.
In this situation, the buyer takes on the business’s existing liabilities and debt, which are then subtracted from the business’s sale price. The lender of the debt has to be on board with this option, though, and it can complicate the purchase.
Advantages of buying an existing business
There’s a proven business concept and customer base, so you know there’s a demand for the goods or services the business provides. Knowing your target audience and having a preestablished marketing plan will make future advertising that much easier.
You don’t have to hire all of your employees. Not only is hiring time-consuming, but it can also cost a lot of money to run background checks, recruit the right people and train them on company processes.
Systems are already in place. Trial and error is part of every step of the process when starting and running a business. By purchasing an established business, you also inherit its existing ecosystem of products, such as a point-of-sale system and other software.
Disadvantages of buying an existing business
Past financial problems may complicate the loan application process, even if they happened under a different owner.
You’ll inherit existing issues, big and small. It'll be up to you to solve any hiccups with employees, operations and software and possibly even make up for past financial decisions that didn’t serve the business.
» MORE: Compare small-business loans