Buying a Small Business With Seller Financing

If you are an aspiring small business owner with no significant amount of personal assets, business assets or cash on hand, the road to business owner

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If you are an aspiring small business owner with no significant amount of personal assets, business assets or cash on hand, the road to business ownership can seem daunting. Fortunately, when traditional financing options fall short, seller financing can be a favorable option for both the seller and buyer of an existing business.

Currently a small business owner? Check out our guide to selling your small business with seller financing.

Buying an existing business is a smart and relatively quick way to become an entrepreneur. It has several benefits – an established customer base, composite logo and brand, and possibly a brick-and-mortar store that is already in place. Running any company requires the entrepreneurial spirit, but joining the game when things are already off the ground can really make entrepreneurship a little easier.

Why choose seller financing?

This is not surprising, you are more likely to pay a higher upfront price when you buy an existing business than when you start a new one – but you are also more likely to generate revenue sooner. Guidant clients paid an average price of $ 100,000 last year to buy a business, an amount most do not have on hand in cash or available credit. Fortunately, there are many ways to get creative and make the purchase of your dream business a reality.

When looking for business finance, most entrepreneurs first turn to a traditional lender such as banks or friends and family. While family and bank financing are definitely options, there is another option when buying an existing business – seller financing.

Also known as owner financing, seller feedback, or simply a seller note, seller financing involves the seller essentially acting as a bank. The process of seller financing is simple: the individual selling the business keeps the note for the business loan and the buyer makes a monthly payment, with interest, to the seller rather than to a bank. This method of financing offers benefits to both buyers and sellers. For the buyer, it can be the bridge to business ownership for those who do not have enough cash to buy a business straight. For the seller, this can open up the pool of potential buyers. In fact, 60 to 90 percent of small business purchases involve seller financing.

How does seller financing work?

Seller financing enables business buyers and sellers to remove the middleman (bankers) and work directly with each other to come up with a financing agreement. Usually buyers have to come up with the financing to cover the entire purchase price, but with seller financing, the seller agrees to bear the promises of the loan, and the buyer makes regular payments (with interest) to the seller.

Sellers usually offer between five and 60 percent of the total asking price, so most buyers combine seller financing with other funding methods to meet their total capital needs. Other types of financing can include their own cash, loans from family or friends, business loans or 401 (k) business financing.

The willingness of sellers to finance is usually a sign that the seller is confident that their business will generate enough revenue to repay the loan. Some small business owners believe that if a seller is not willing to offer financing, it is a sign that their cash flow is not very strong and that the business itself may be in trouble.

What are the steps to seller financing?

A seller financing transaction involves many of the same features as a traditional business loan. If both parties agree to pursue seller financing, the seller typically asks the potential buyer to ‘apply’ by providing personal financial documents, their CV and other relevant information regarding finances and business experience. Here is an outline of the following steps:

  1. As always when buying a business, prospective buyers need to take proper care and make sure that a company’s balance sheet is in good order. A prospective buyer should also do a credit check on the business through a company like Experian or Equifax. If you look at the credit report of the business for sale, it will help to confirm that the business is in good condition and generating enough income to pay off its loans. Once you have confirmed that all financial statements are in order, it is time to apply to the seller as mentioned above.
  2. The seller will rely on the buyer to run the business efficiently and make payments on time, so it is important that they see evidence that the buyer knows how to run a business and handle finances so that there is no buyer default on the loan is not. In other words, the buyer must ensure the financial health of the business. The seller may want to ensure that the buyer has a successful strategy in mind to grow the business, typically in the form of a business plan. You can learn more about writing a business plan here.
  3. The seller has the same capabilities as a banker to draw a potential buyer’s credit history and the right to refuse financing if any of the information received does not meet their criteria. Buyers with a lower credit score can expect to pay higher interest rates and may be required to make a larger down payment or use collateral (personal property such as real estate used to guarantee a loan). On the other hand, if you have a higher credit score, you can expect competitive interest rates.
  4. Once a seller has approved a buyer for financing, they will draw up a contract specifying the terms of the loan and outline any collateral required to guarantee the loan. This contract is also likely to include a clause stipulating that the buyer will forfeit business ownership if they do not complete payment within a specified period. Once the buyer and seller sign on the dotted lines, the transaction is done and the buyer takes ownership of the business.

Typical terms of seller financing agreements

While traditional lenders are often firm with their terms, seller financing terms can usually be negotiated by both the buyer and the seller. Although each transaction is unique, here are some common terms that are seen in seller financing:

  • Loan amount: Between 5 – 60% of the selling price. In rare cases, the seller can offer financing for the total asking price if a substantial installment is offered (15 – 20%).
  • Term length: 5 – 7 years, Interest rates: 6 – 10 percent of the loan amount (for comparison, SBA loan interest rates vary from 7.25 – 9.75%) Installment: 10 – 25% of the loan amount.

Benefits of Seller Financing for Buyers

Seller financing can be a beneficial form of financing for buyers in many ways as you negotiate the loan agreement together. In some cases, seller financing can be an even more advantageous type of financing than traditional financing methods such as SBA loans. Below are some of the benefits that buyers with seller financing see:

  1. Easier access to finance. Sellers are usually more willing than banks to offer financing to individuals who may not meet the strict financial requirements that banks require, such as a high personal credit score. As a result, buyers who may have been denied by banks can still pursue their dreams of business ownership – even if they do not have large savings accounts.
  2. Better financing conditions. Usually, interest rates and installments are lower with seller financing. As the buyer and seller negotiate terms, buyers can ensure that repayment terms are also favorable for their needs. Sellers are often highly motivated to close the deal and can be persuaded to make loan terms more attractive to a buyer, while banks have strict conditions for traditional bank loans based on eligibility criteria.
  3. Faster closing times. Processes drive banks, and traditional bank loans have multiple layers of approval that must be completed before funds can be distributed. As a result, it can take up to six months to receive funds from a bank loan. Sellers are motivated to close the deal as soon as possible and will want to keep the financing process forward once you have completed the application process.

The Disadvantages of Seller Financing

  1. A higher selling price. These types of funded sales typically have a total price 15% higher than a straight cash sale. It is not uncommon for sellers to ask for a higher selling price when financing the purchase. This is the exchange tool to avoid a high pre-closing cost.
  2. Balloon payments. Depending on the terms of the loan and repayment schedule, you may have to pay a lump sum at the end of the loan period – sometimes called a “balloon payment”.

Combine other financing methods with seller financing to fill in gaps

Since seller financing usually offers only up to 60 percent of the total sale price, potential buyers need to find a way to fill the funding gap, including an installment. Many will choose to apply for a traditional business loan (such as an SBA loan), and since they will only charge for a portion of the total price, their chances of approval are greater.

Another option, 401 (k) business financing (also known as Rollovers as Business Startups or ROBS) allows buyers to use their existing pre-tax retirement funds to buy a business without incurring tax penalties or early withdrawal fees. This allows the buyer to minimize the amount of debt they incur, which can put them and their new business on success with lower debt payments.

Guidant Financial’s Step-by-Step Guide to Business Principles Transfers is a complete guide to everything you need to know about using ROBS to start or buy a small business or franchise.

Seller Financing Tools

There is a wide range of tools and resources available for those seeking seller financing. For buyers who need additional financing, a small business finance firm like Guidant Financial can help buyers research funding options and pre-qualify a buyer for their qualifying funding options.

For salespeople, working with a professional firm like Guidant that offers business valuation services as well as financing options helps them promote their business sales. Such a firm can help sellers determine a asking price for their business that is fair, provide them with the tools needed to promote their business to buyers, and even pre-search buyers to ensure they meet minimum requirements. . Guidant Financial offers a range of vendor tools to help small business owners.

Seller financing is becoming more common in small business sales and offers a myriad of benefits to both sellers and buyers. The process may be a little more intensive for sellers, as it involves selecting potential buyers for financing worthiness, but the value it offers often outweighs any disadvantage.


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