A Guide to SBA Loans: How Do They Work?

If you are the owner of a small business and anticipate a need for funding in the upcoming months, it is important to consider all of the options available to you. SBA loans can be a great loan alternative for those companies that meet certain criteria.

How Do SBA Loans Work: What to Know About SBA Loans

An SBA loan is a loan that is given to small businesses and is partially guaranteed by the U.S. Small Business Association. 

What Can SBA Loans Be Used For?

Loans may be used for multiple business reasons, including working capital funding, the purchase of new equipment or real estate, and to invest in the ongoing operations of a business.

SBA loans are desirable by many companies because they offer longer repayment terms and lower interest rates than many other business loans do. When you're considering what to know about SBA loans, understand that the application process is tedious and funding typically requires at least 60 to 90 days.

FURTHER READING: A Business Owner's Guide to Business Loans

How Do SBA Loans Work?

There are three main types of SBA loans. These include 7(a) loans, 504 loans, and microloans. 

Each type of loan can be used for a specific business purpose. When a business seeks to obtain SBA loan financing, it will enter into a long application process. The application will require specific information, such as the financial history of the company, the credit history of the business owner, and tax return details. 

The SBA will review the application for the loan. If it is approved, they will work with lenders to provide you with financing for your company. Lenders will offer specific terms, but generally, interest rates are capped, and there is a smaller amount of collateral that will be due to obtain the loan.

How Do SBA Loans Work: Types of SBA Loans

There are three general types of SBA loans. These include:

SBA 7(a) Loans

7(a) loans are the most common type of SBA loans. They can be used to purchase business real estate, meet working capital requirements, refinance current business debt, or purchase equipment. 7(a) loans can be granted for up to a maximum of $5 million. 

Interest rates on 7(a) loans begin with a base rate tied to either the daily prime rate, London Interbank One Month Prime plus 3%, or the SBA Peg rate. 

An additional interest rate is tacked onto the base rate. This interest rate can be up to 2.25% for loans with a maturity of under seven years or 2.75% for loans with a maturity of over seven years.

Repayment terms on 7(a) loans vary. For loans used to purchase equipment, repayment terms are allowed up to a period of 10 years. If the loan is used to purchase real estate, repayment may be extended to a period of 25 years.

Fees for a 7(a) loan generally include a guarantee fee of 3.5% of the loan up to $1 million, plus 3.75% of the amount guaranteed over $1 million. These fees may be included in the loan origination cost. 

Eligibility requirements for a 7(a) loan include:

  • Business must operate for profit
  • Must meet the criteria for the definition of a small business set by the SBA
  • Conduct business within the United States
  • Have a reasonable amount of invested equity
  • Exhaust alternative resources prior to seeking the loan
  • Able to demonstrate a need for the loan
  • Not be delinquent on any other loans to the U.S. government

There are several different types of 7(a) loans. It is best to consult with a representative of the U.S. Small Business Association to determine which one fits the needs of your business.

 SBA 504 Loans

The 504 loan program provides long-term, fixed-rate financing of up to $5 million for major fixed assets that promote business growth and job creation. 

In this type of loan, a bank provides half of the loan amount, an SBA-approved certified development company (CDC) provides 40% of the loan amount, and the borrower provides a down payment for the remaining amount. 

The amount funded by the SBA CDC is limited to an interest rate equal to the 5 to 10 year Treasury rate plus 2.23% to 2.39%, depending on the repayment terms of the loan. Any remaining amount provided by the lender is not subject to any interest rate caps and will be based on the company's qualifications. 

Repayment terms on a 504 loan can be over either 10, 20, or 25 years. Fees associated with the origination of the loan are typically 3% and may be included in the overall cost of the loan

A company must be able to show the following to be eligible for a 504 loan:

  • That it operates as a for-profit company within the United States
  • That it has a tangible net worth of less than $15 million
  • That it earned a net income of less than $5 million after taxes during the prior two years

These 504 loans can be very helpful for small businesses seeking to purchase expensive equipment needed to expand their growth.


The microloan program provides up to $50,000 to businesses seeking to start up or expand. The loans are given by the SBA to intermediary not-for-profit lenders with experience in lending and management. The intermediaries administer the SBA’s microloan program. 

Interest rates for microloans vary based on the intermediary lender but are generally between 8% and 13%. Repayment terms vary and are based on the amount of the loan, what it is used for, and the needs of the borrower. However, the repayment term may not exceed six years. There are no additional fees associated with microloans.

Eligibility requirements vary based on the intermediary lender used. In general, collateral and a personal guarantee from the business owner must be provided.

Pros of SBA Loans

When you're considering financing, it is important to understand the pros and cons of SBA loans. Some of the pros include:

Low Interest Rates

Interest rates for SBA loans are generally much lower than those given by commercial banks or other traditional lenders.

Long Repayment Terms

Depending on the type of loan acquired, repayment terms can be as long as 25 years.

Usable for a Variety of Purposes

What can SBA loans be used for? SBA loans may be utilized for a number of different purposes, including working capital, to purchase equipment or real estate, or otherwise invest in the growth of a business.

Small Down Payment

An SBA loan doesn’t always require a down payment, but when they do, they are typically much less than a commercial loan.

Cons of SBA Loans

While SBA loans may sound great, they do have some downsides, including:

Lengthy Application Process

Applying for an SBA loan is a long process that requires lots of documentation and time to put together.

Difficult to Qualify For

To access most SBA loans, you must have at least a few years in business, strong annual revenue, and excellent personal credit.

While the pros and cons of SBA loans vary, in general, you can expect a lower cost of financing than more traditional business loans.

How to Apply for an SBA Loan

To apply for an SBA loan, you will need a variety of different documents. These include business financials for several years, both business and personal tax returns, and a business plan.

Is an SBA Loan Right for You?

Deciding whether an SBA loan is right for you requires consideration of a number of different factors. It’s important to determine whether you would qualify for one and if your company would be able to support the repayment terms.

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