Loans are one of the most common sources of capital for funding a small business acquisition. Many banks offer three kinds of loans you might consider for your acquisition. These are term loans, asset-backed loans, and SBA 7(a) loans.
This article focuses on one of these kinds of loans: a term loan.
What is a term loan?
A traditional term loan is an arrangement you make with a lender to borrow a specified amount of money for a specific purpose for a set period of time. Your lender will set terms, and you will agree to repay the loan with fixed, equal payments and a preset rate of interest.
Term loans generally have favorable terms and long repayment schedules (up to 10 years). This makes them an attractive option for owners looking to cover part of their acquisition costs. The trouble is that they're notoriously difficult to qualify for.
|If you don't meet the qualifications of a traditional term loan, consider online term loans. Often, these loans have less stringent credit score and credit history requirements.
Keep in mind that online term loans sometimes have less favorable terms than loans offered by conventional lenders. Online lenders often quote higher interest rates and offer significantly shorter repayment terms than traditional term loan lenders.
What qualifications will I need to meet?
To qualify for a term loan, you’ll need:
- A strong personal credit score (generally 700 or higher)
- A source of funding to cover a down payment, which may be up to 30% of your capital requirements
- Verifiable management and industry experience
If you already own a business—and that business will play a role in the acquisition of your new business—you’ll need to demonstrate a few more qualifications:
- A favorable business credit score
- Good credit history
- Positive cash flow that signifies your business’s ability to support the debt it’ll take on
How do I apply for a term loan?
Determine which banks and credit unions in your area offer term loans for business acquisitions. Then, ask about their rates and qualifications. If you qualify and are comfortable with the terms and interest rate a lender offers, you can begin the application process.
The process is often straightforward. You'll start by gathering the documents they request. Often, these will include:
- Three years of personal bank statements, tax returns, and financial statements
- Your business plan
- A statement that explains your management and industry experience
- Proof of your ability to make a down payment
- A copy of the business sale contract that proves your intention to acquire the business you’re financing
- A third-party valuation of the business
- Cash flow projections
- Projected profits or losses
- Balance sheet information
- Profit and loss statements
- A third-party valuation of the collateral you plan to put up or an audited copy of your balance sheet
- A schedule of the term debt you—not the previous owner—have taken on for the business
Will I need to provide more documentation?
If you've established a business entity to acquire the business, you'll also need to provide up to three years of business tax returns, bank statements, and financial statements and your business’s current debt schedule and repayment priorities.
And, if your loan request includes construction or leaseholder improvements, you’ll need to provide some additional documentation. This documentation might include a construction contract, a tax appraisal, and a third-party appraisal of the land or current property.
Your lender might ask you to complete or provide some additional paperwork, too. Most are upfront and forthcoming about what you'll need to submit.
Can anyone help me with these requirements?
What should I do if my application is rejected?
Start by listening to your lending officer’s explanation. Then, ask for feedback on what you can do to position your request more favorably in the future.
Your lender may recommend simple tweaks to your business plan or a boost to your credit score to increase your odds of approval. Or, they may point to larger issues that you’ll need to resolve before reapplying for funding. You can make the necessary changes and submit a new application, or you can choose to apply with other traditional lenders or online term loan lenders with more lenient requirements.
Are small business term loans right for me?
Like other forms of financing, a small business term loan has some pros and cons you should consider carefully:
(+) A term loan may help you attain all the capital you need in a single transaction
(+) Term loans allow you to spread the cost of your acquisition over a longer period of time than you can through many other financing options.
(+) Term loans can help you build credit for your business, which is essential for attaining better financing options for future capital needs.
(-) A term loan can be difficult to attain.
(-) The loan process can be lengthy.
(-) Lenders may require collateral to secure your loan, which makes the downside of default even greater.
Interested in other financing options? Learn about asset-backed financing, SBA 7(a) loans, seller financing, lease-to-buy financing, and other ways to attain the capital you need to purchase a business.
After determining how you’ll finance your acquisition, you’ll have completed the steps that lead to closing on your new business. Next, read our guide, Close the Deal: 10 Things You Need to Take Ownership of a Small Business, for advice on working through the final part of the acquisition process.
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