SBA loans: What are they and how do they work?

If you’re struggling to secure financing for your business—whether for new equipment or startup costs—SBA loans could provide the support you need.

SBA stands for the U.S. Small Business Administration, which backs SBA loans with a partial guarantee. A guarantee describes a promise to pay money if the other party can’t. This government-backed financing offers benefits for borrowers and lenders, increasing access to funds while reducing overall lending risk.

Learn more about how SBA loans can support small businesses’ launch, growth and development, helping business owners realize their goals.

What you’ll learn:

• SBA loans are backed by the U.S. Small Business Administration (SBA) with a partial guarantee.
• The SBA provides a partial guarantee for SBA loans, but they’re issued by banks and other financial institutions. 
• Small businesses can use SBA loans to pay for business expenses such as real estate or startup costs, debt consolidation and working capital.

An SBA loan is administered by participating lenders—like banks or credit unions—and is partially guaranteed by the U.S. Small Business Administration. SBA loans help cover business-related expenses, such as inventory, equipment and real estate. Because the guarantee adds a layer of security for lenders, SBA loans increase access to financing for business owners who may be unable to secure traditional funding.

When you apply for an SBA loan, the lender then applies for a guarantee. With an SBA guarantee, the lender reduces risk by guaranteeing it may still be paid if you default on payments. The SBA may guarantee up to 85% of the loan value, depending on the type of loan, the lender and your eligibility. The borrower associated with the loan will also pay a fee to the SBA.

SBA loans are available for small businesses to use for a variety of business expenses, including:

• Working capital: Cover the cost of short-term and long-term working capital.
• Real estate: Purchase property or construct a building to help you expand services or make room for more employees.
• Startup: Cover startup expenses, like purchasing inventory or paying wages.
• Expansion and improvement: Expand, convert or enhance existing structures.
• Normal operating expenses: Cover the costs of normal operating expenses for things like rent, utilities and insurance when you launch your business.
• Debt consolidation, refinancing and repayment: Manage outstanding business debts—like consolidation—to lower your repayment costs, subject to SBA program parameters.
• Supplies and equipment: Purchase or rent items necessary for your business, like commercial-grade equipment, to help you more efficiently manage your business.

Keep in mind that each loan type has approved and prohibited uses for its funding.

There are several types of SBA loan programs, and each type is unique in its purpose, amount and eligibility.

• Standard 7(a): The most common SBA loan. It’s ideal if your plan includes purchasing owner-occupied real estate, but it can also be used for startup costs, revolving capital, inventory and supplies, expansion and refinancing.
• 7(a) Small: These are nonrevolving 7(a) loans up to $500,000. Collateral isn’t required for loan amounts up to $50,000.
• 504 loans: This funding is available through a partnership between your lender and Certified Development Companies (CDCs) to purchase or construct buildings, buy land and long-term equipment and improve outdoor areas.
• Microloans: This funding is provided to small businesses or some not-for-profit child care centers through intermediary lenders, which set the requirements and terms.
• Express loans: This fast funding source can be used for working capital, debt refinancing or business expansion.
• Export Working Capital loans: This type is geared toward businesses that generate export sales up to $5 million.
• International Trade loans: This type of loan helps small businesses have a competitive edge against other importers when entering international markets.

Not all businesses or loan structures will qualify for SBA financing. Several factors determine SBA loan eligibility. Some loans may have additional requirements, like collateral; but at a minimum, your business should: 

• Operate for profit in the United States or its territories
• Have reasonable owner equity
• Have exhausted exploring other financing options, including personal assets
• Meet the size requirements set by the SBA

There are a few things to consider when deciding whether or not an SBA loan is right for your business.

Here are some of the advantages of SBA loans:

• Competitive rates: Because the government guarantees SBA loans, they’re likely to have a lower interest rate than conventional business loans, depending on factors including the economic environment, type of loan and borrower’s risk profile.
• Higher loan limits: Compared to commercial loans, SBA loans can have higher lending limits—up to $5 million on a 7(a) loan.
• Low fees: SBA loans may charge a percentage of the guaranteed loan amount. An initial guarantee fee and yearly service fee are the most common. The SBA prohibits other fees commonly assessed on traditional financing—like brokerage, application and origination fees—from being charged on SBA loans.
• Extended repayment terms: Although these repayment periods vary based on loan type and amount, some SBA-guaranteed loans offer repayment terms as long as 25 years. A longer repayment period means lower monthly payments, so your business will have more money to put toward other expenses.
• Flexible loan terms: Some SBA loans may also offer lower down payments and flexible overhead requirements. In addition, you can combine SBA loans with other financing options—such as Capital One’s financing options for businesses—to maximize your borrowing potential.

Here are some potential downsides of SBA loans:

• Stricter qualifying guidelines: There are a variety of eligibility requirements business owners should meet when applying for an SBA loan.
• Longer approval process: It typically takes anywhere from 30 to 90 days to get an SBA loan approval.
• A personal guarantee may be required: If your business can’t make payments on the SBA loan, you could personally be responsible for paying back the funds.
• You may need to put money down: SBA loans may require a down payment—anywhere from 10% to 30%—before securing funding. 

If you’d like to pursue an SBA loan, here’s how to apply:

Along with the requirements noted above, businesses must meet SBA size standards, be able to repay the loan and have a reasonable business purpose.

If you believe you’re eligible, prepare the paperwork. You’ll need the following: 

• Your personal and financial information, including documentation of assets, liabilities, income and tax records for the past three years. 
• The SBA Borrower Information Form (Form 1919), a personal financial statement and a statement of personal history (SBA Form 912).
• Your business’s records and financial information, including your business license, projected cash flow for the next year and financial records and taxes from the past three years.
• Supporting and additional documents as applicable, including appraisals and purchase agreements.

Different lenders may offer different rates and terms. Use the SBA’s Lender Match tool to get matched within two days. To find a knowledgeable lender, ask each potential lender the following:

• How many SBA loans have you provided?
• What’s the dollar range of SBA loans you’ve made?
• What SBA loans could you offer for my business?

The approval process could take a few months because your application goes through multiple stages. If you’re approved, your lender is responsible for closing and disbursing the loan.

Keep in mind that unlike some other lenders, Capital One can approve its own SBA loans without prior SBA approval. Capital One is audited by the SBA on a regular basis to ensure that appropriate parameters are being met.

With often favorable interest rates and extended repayment terms, SBA loans are a great option for securing funds for your business. And the reduced risk to lenders makes them more likely to provide you with funding.

If you’re considering other options to support your business’s financing needs—like with a business credit card—you may consider partnering with Capital One. Compare business credit cards from Capital One to find one that can help you get business done.