By Paul Bosley, Business Finance Depot

When an existing franchisee is considering improving or expanding their business or a startup franchisee is launching a new franchise, various financing options are considered.

In this article, we explain that combining two common finance options, you can secure financing for your franchise AND you will not be required to use your home as collateral! The following key concepts summarize why combining an SBA 7(a) loan with an equipment lease is a unique way to finance your franchise:

  • Capital Leases finance the equipment needed to operate the franchise and preserves the owners’ liquidity.
  • SBA 7(a) Loans provide working capital and construction financing.

Capital Leases – Lease to Own

The most common financing options for financing equipment are capital leases or equipment finance agreements. Owners can finance the purchase of all equipment needed to operate their franchise including security systems, computer hardware and software, furniture, POS systems, flooring and outdoor signage.

The down payment ranges up to 20 percent of the amount financed, depending on personal credit and time in business. Documentation fees range from $95 to $495. Repayment terms range from 24 months up to 84 months, depending upon the applicant’s time in business and estimated life of the equipment. All partners with 20 percent+ ownership will be required to personally guarantee the lease. Since the plan is typically to keep the equipment long term, a capital lease will offer a $1.00 or $100 end-of-term purchase option. The lease payment includes interest and principal, so the entire payment is tax deductible. An equipment finance agreement leaves the title in the franchisee’s name from the beginning. The equipment purchased is eligible for Section 179 of the IRS Tax Code which allows businesses to accelerate depreciation by immediately deducting the full purchase price of qualifying equipment and software placed into service during the tax year, rather than spreading the cost over several years through standard depreciation. The key benefits of leasing are the process is quick; the owner(s) preserves their working capital, and the collateral required is just the equipment being financed!

SBA 7(a) Loans

Recent regulations allow SBA 7(a) loans from $50,000 up to $350,000 to not require personal collateral. These loans can provide working capital and construction financing for start-ups to existing franchisees. Our company currently works with a national SBA lender that does not require personal collateral for loans from $50,000 to $150,000! The SBA 7(a) loan approval requirements are: good personal credit, sufficient liquid assets for the 10 percent equity injection and either industry or educational experience and/or transferable business skills.

If the application is to finance a new location, an application can be submitted to prequalify the borrower. Once a location is identified and all project costs are determined, the loan can be submitted into underwriting to secure a commitment letter. The loan process with the lender typically takes up to 120 days to complete before the loan closes and the construction financing begins. If construction financing is needed, an experienced, bonded general contractor is required and must be approved by the lender. The SBA lender will progress fund the contractor directly as the construction is being completed.

SBA loans often include working capital ranging from three to six months of the average first year’s monthly overhead. These funds are paid directly to the borrower before the loan closes, so working capital is available to pay bills when the business opens.

The interest rate for SBA 7(a) loans is calculated by adding the prime rate published in the Wall Street Journal (currently 7.5 percent) plus a risk premium capped at 3 percent so the interest rate cannot be higher than 10.5 percent. SBA loans are typically variable rate loans which adjust quarterly after the Fed Board of Governors raises or lowers the prime rate. The repayment term is 10 years for franchisees renting space or home-based businesses. There is no pre-payment penalty so if the franchise is extremely profitable, the loan can be prepaid to save interest expenses.

The best part about this financing combination of SBA 7(a) loans and equipment financing is that the collateral is your business assets — not your home!

Paul Bosley is the managing member of Business Finance Depot. For more information about IFA supplier member Business Finance Depot, please visit franchise.org/suppliers/business-finance-depot/.

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