January 31, 2020 | Last Updated on: January 17, 2024
DISCLAIMER: This article was written in 2020 and has not been updated. For more up to date information about small business funding products and options, please browse our recent articles.
Just like it sounds, a business acquisition loan is designed to finance the purchase of an existing business, acquire or open a new franchise location, or buy out a partner in a business you presently are a part of. Lenders price their business acquisition loans differently depending on the industry, the health of the business being acquired, and the borrower’s credit history. Because there is additional complexity involved with buying a business, the application and decision-making process may take longer than with a different financial product. The health and stability of the target business has to be thoroughly documented, and lenders sometimes want to understand the borrower’s level of expertise in areas related to running a business.
You could start a business from scratch, but it will take time to make it successful, if it gets there at all. You could work your way up from the inside with an existing business and hope that you’re able to earn a share, but that day may never come, and may not be the payout you’d hoped for when it does. That leaves one real choice: buy an existing business. Now, you just have to figure out how to pay for it. There are several options available to you as a buyer, but we’ll focus on one of the most popular and well-known tools for buying a business. Loans are a great way to get into business ownership, and can help someone get into business that might otherwise not have been able to do so. Business loans are complicated and come with tons of work for the business owner. Whether it’s a new business or an existing business, the loan application will require thorough and extensive documentation, and may include the borrower’s personal credit score, tax returns, and a rundown of personal finances. The target business will also need to provide financial statements and records like a balance sheet before being approved for financing.
The term business acquisition loan encompasses several different types of loans, some of which may not be used to actually buy a business at all. In some cases, a business acquisition loan can be used to support the purchase with things like equipment financing and business improvements. Some of the most popular loan options include:
The most basic form of loan, term loans function like almost any other type of loan on the market today. When approved for a term loan, the borrower receives a lump sum to purchase the business and must repay the loan over time with interest.
Though they’re not used to purchase a business directly, equipment loans are important because they support the acquisition and allow the borrower to improve a newly acquired operation. The equipment purchased using the loan will typically be used as collateral for the loan.
The Small Business Administration (SBA) is a federal agency that helps issue loans by insuring or backing the funds for lenders. This means that the government isn’t issuing loans directly. The SBA offers assurances to lenders that the funds will be repaid if the borrower defaults. SBA loans typically have strict requirements on who can get one and what it can be used for, which may make them a less than ideal choice for some businesses.
Before shopping for a loan, you’ll need to make sure that you have your financial life in order. Some of the documentation and preparation you will need prior to receiving a loan may include:
If your credit score is good and you have a reasonable down payment – at least 10 percent or more – a traditional bank or credit union may be your best bet for getting a good rate on a business acquisition loan. Traditional lenders like banks are by far the most popular option to obtain funding or a loan for a business, and often have a variety of financial products available for business acquisition and other purposes. One thing to keep in mind with traditional lenders is that their loan funding is usually at least partially funded by their customers’ deposits, so they are required to be very protective of those depositors. This means that the vetting and application process with a bank or credit union will be much more rigorous than what might be encountered when using an alternative lender. Banks may also have a limit on the types of loans they can issue to a specific industry or for a specific business type, so it’s important to understand your lender’s policies before getting too deep into the application process. The upside to this scrutiny is the ability to have a financial institution with roots in the community. If there is ever a question or problem, you will have the ability to speak with a person, sometimes at a local branch, for a personal customer service experience. Banks and lenders are also limited on the amount of interest they can charge and the terms or structure of the loans that they issue, so you can be assured that you are not entering a predatory or unsavory lending situation.
Online lenders and alternative lenders have exploded in recent years as technology and communications have grown. These lenders are often funded by private investors and have different rules than their more traditional counterparts. This may mean that you’ll be able to get an approval with a lower credit score or with a smaller down payment. It may also mean that you’ll be able to get approved for a larger loan amount. Alternative lenders may not be able to offer SBA loans and may not have the same variety of lending products that banks do. Despite that flexibility, there are some downsides to alternative lenders. Since they are not tied down by as many regulations, they may charge higher interest rates. They may also charge a higher interest rate and require higher fees to help them cover the risks of lending to people with lower credit scores.
You may also find other ways to finance the purchase of a business. Seller financing is one option, where the existing owner finances all or part of the purchase price. You may have existing assets that can be liquidated for the purchase as well, like a retirement account or other established businesses to leverage. Getting a business acquisition loan may be one of the most difficult and complicated financial decisions of your business life, but the upsides make the hardship well worth the work. Loans can help you buy or take over a business that you would not have been able to do otherwise, and can set you up for success much more quickly than without them.
