In business brokerage, we talk about financing options a lot, from the latest developments in SBA lending requirements, to up and coming alternative lenders. Financing is a key piece of a high number of our transactions, and for many buyers, its inclusion is the only way to get a deal done. For deals on the small side, that are harder to finance through traditional routes, or transactions involving SBA loans, seller financing is a big to do in our world!
Seller financing is a financing tool where the seller acts as the lender and involves a short-term promissory note (or contract) between the buyer and the seller of the business. Typical note terms will include a down payment of 40-50% of the total transaction, and the remaining balance to be paid over a named length of time, usually a 3, 5 or 7 year term. An interest rate for the remaining balance will also be included between 4 and 7%.
Seller financing can offer a more streamlined transactional process for everyone involved. For the business buyer, using seller financing keeps the seller vested in the business, which means they will be available for support or to answer questions after the transaction is closed. This helps the buyer stay confident about the future growth and stability of their newly acquired business.
There are also some great benefits for the seller when they act as the “bank” and provide seller financing including maintaining a stronger position when asking for a sale price, along with an overall faster sale transaction process. The seller will also be able to reap a higher return on their equity while deferring capital gains taxes on one lump sum of money. Regular additional income stemming from accrued interest on the remaining amount the buyer owes the seller is another incentive.
Using seller financing is not without risk for the seller, but that risk is mitigated with the use of a business brokerage firm and a transactional attorney who are able to properly qualify a buyer and develop appropriate deal terms. Developing documents that protect both the buyer and the seller during the length of the transaction is integral to its success and this takes professionals well versed in the seller financing method. As mentioned earlier, a promissory note will be drawn up that illustrates the details of the agreement and will include the recourse options for the seller. The most likely recourse scenarios would be seizing the business, usings its assets as collateral, or getting a personal guarantee from the buyer.
The terms of the promissory note are also constructed in order to give the buyer adequate time to repay the note. The payment amount must be calculated so that the buyer can afford it while also running the business and maintaining cash flow. For this reason, the term length of the financing varies depending on the amount of the loan, current & projected revenue, capital investment and their financial qualifications. The interest rate attached to the loan is generally in line with current banking rates.
Seller Financing is a great financing tool for getting deals closed. To learn more about what the business sale process can look like with Transworld, we invite you to schedule a free consultation with one of our brokers, or visit our website for more information.
Rachael Holstein has been the Marketing Manager for Transworld - Rocky Mountain since 2016. Her work experience has been largely focused on business development and marketing in business brokerage, finance, architecture, property management, and information technology. A long time resident of Cleveland, Ohio, she attained her undergrad from John Carroll University and her Master’s Degree from Cleveland State University. In 2013, she relocated to Denver with her husband, Joe, and her furry companions to explore the mile high lifestyle!