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A FULL BREAKDOWN OF EQUITY INJECTION AND HOW TO TURN DEAL COSTS INTO YOUR DOWN PAYMENT.
Most first-time buyers wildly underestimate what an acquisition actually costs. They only budget for the purchase price and get totally blindsided by everything else.
But what most of them never find out is that a big chunk of those up front costs that could help you win, can count toward your down payment.
In fact, it might be the smartest money you spend in the entire deal and be the edge that gets you over the finish line.
Let me explain!
When you're buying a business with an SBA loan, you will need to provide what's called an equity injection.
The SBA program allows lenders to offer federally-backed loans to would-be buyers (and business owners) and they will offer a guarantee to the lenders that they will cover up to 75% of the loan if the borrower defaults on loans over $150,000, so long as they followed the SBA guidelines (an 800 page standard operating procedure SOP) and got approval or are what's called a preferred lender.
That means that lenders can offer loans to first-time business borrowers, like yourself, and have limited exposure. If you borrow money and can't make your payments, the government will cover the bank for 75% of the loss.
Additionally, the SBA guidelines require the borrower to bring 10% of the loan value to the table, known as an equity injection.
Now here's something a lot of first-time buyers don't realize: that 10% doesn't all have to come out of your own pocket! A seller note can cover up to half of it, so your actual cash in the deal can be as low as 5%, so long as that note is on full standby - meaning no payments, for the life of the loan.
Heads up though, that specific rule just got stricter in 2025. We used to be able to use a two year standby, but that went away. Granted, deals still get done with seller notes, it just takes some fancier structuring, which is precisely the kind of thing we sort out with our clients. But we won't get into it here.
Now, this equity injection does a few key things, like show that you believe in the deal enough to put your own money in, and your 10% sits underneath the loan as the first cushion if things go sideways. When you think about it, that's pretty limited risk for lenders doling out millions of dollars to people that have never owned a business before.
And for you, the borrower, you can buy 100% of the business for only 10% of the loan value.
Notice that I say loan value. And I say it because this is exactly where I see many first-time buyers miss the mark.
There's a few critical factors you need to consider when deciding the size of the business you will try to acquire.
Most people think, I have $200,000, so I can buy a $2 million business.
Sort of. But you need to consider the total cost of the loan.
Just like when you buy a house, when you buy a business there are other costs that you will want to account for, including:
- Legal fees
- Quality of Earnings
- Title searches
- Life insurance and other insurances
- Sales tax
- Advisory fees
- Lender fees (yup, you get to pay for their expenses)
- And plenty other surprises that could sneak up on you
Not to mention, the SBA program is designed to be entirely funded by the borrowers, meaning that no money should come out of tax payers money to cover the guarantee.
So how do they do it?
By charging every borrower guarantee fees. The amount they charge you is based on the guaranteed portion of your loan. It's 3.5% on the first $1M of that guaranteed portion and 3.75% on anything above.
So, on a $2M loan, that comes out to about $54,000 in borrower guarantee fees.
And you are required to pay the guarantee fee in order to access the loan. That money then goes into a pot which covers loan defaults - and ultimately protects taxpayers from covering the shortfall.
It's honestly one of the many reasons I love America. Nowhere else in the world can you - someone with no business ownership experience and limited capital - buy an entire business, with a 10-year term government-backed loan requiring limited investment from your side!
So, if the loan defaults are covered, why do SBA lenders ask for a personal guarantee, I hear you asking.
Excellent question!
While the lenders can get paid back from the SBA, the only way they're able to do that is by:
- First, liquidating the business, i.e. selling whatever assets of the business they can to recoup some of the money.
- And second, taking whatever money and assets you the borrower have that can also recoup the money. Your home, investment accounts, and anything else you have of value (apart from your retirement accounts, those are safe) are all things they are REQUIRED to take and get as much money as they can BEFORE they ask the SBA to cover their guarantee.
That's a big pain in the butt for banks, and they don't want to do it. So that is why they scrutinize who they give money to so closely. They want to choose people they won't have to do that with at all in the first place.
And while the SBA only requires a 10% equity injection, a lender may ask you for more if they deem you or the business risky, and they'll probably give you a higher interest rate to boot, because it limits their exposure even further.
Now, your additional deal expenses mentioned above will run you 5-10% of the purchase price.
That means if you buy a $2 million business, you might have an additional $200,000 of expenses, bringing your total costs to buy the business up to $2.2 million.
Many of those things will be expenses you need to pay before you close on the business, that means you're taking real risk by paying for things on the deal before you close.
Now, if you only have $200k to invest, and you have to account for all that extra costs, what are you supposed to do?
How do all those extra costs get paid?
Here's where equity injection becomes your secret weapon! .
If you paid expenses out of pocket, you can have those applied towards your equity injection.
Meaning if you paid $100k out of pocket before you closed, so long as they are justifiable deal expenses, your lender can add them to the loan and the amount you need to bring to the table for your equity injection.
All of those extra expenses get added to the loan which is (ta da): total loan value!
And you, first-time buyer, will need to cover 10% of the LOAN value, not just the purchase price.
So let's say you spent $100,000 out of pocket on your $2 million deal, and you have another $100,000 of expenses that will need to be paid at closing.
You can bring your loan value up to $2.2 million, you bring 10% of that which is $220,000 but you already paid $100,000 in expenses, so you will only need to bring $120,000 at close.
Isn't that rad? Yes, it's absolutely a risk to pay for advisors, legal, and QofE before closing, but if you're going after a solid business that is an amazing fit for you with a motivated owner and broker on the other side, consider those costs pre-payment of your down payment.
So as long as you close, you can apply your expenses to the amount you would have owed anyway.
Lenders want you to have the right support and diligence, it makes their risk even less and increases their confidence in you as the buyer.
Moreover, they love seeing an awesome legal team behind you. They love seeing that you are willing to pay for a QofE to validate your purchase. And they love seeing you have advisors like us guide you through the process. First-time buyers are a huge risk (and frankly a headache) for lenders. They have to go out and sell you as a borrower to their company. And they don't want to have to teach you the basics, or worry you aren't managing your deal team and diligence correctly, or that you don't really understand what you bought and the financials and patterns behind it.
Trying to do this on your own, as a first-time buyer is kinda like going out to buy your first house by knocking on doors of houses asking if they're for sale, figuring out the value on your own, doing the inspection on your own, etc. You catch my drift?
So it is wild to me, that making the single biggest purchase decision of your life, one that is super risky and could bankrupt you and put your family out of your home, is something you'd want to do on your own without professional guidance and expertise.
Especially when you are able to apply the payments you made to your advisor directly to your loan! You're essentially pre-paying your down payment and increasing your chances of success.
But don’t take my word for it: industry data puts the number of would-be buyers who actually close on a business at a meager 2%. Whereas the clients we take on close at 40%. That's roughly20 times the rate of someone going at it alone.
Remember when I said above that if the lenders deem you or the business risky they'll charge you more? Having a solid team behind you that helps you navigate this high stakes process with conviction gives them far more confidence - and could even lower your perceived risk when you have the right support.
Now, while working with experienced advisors may feel expensive, here's what you need to keep in mind:.
Note: I can't speak for every firm, but at AcquiMatch we help you:
- Save you time = that is more cashflow in your pocket sooner
- Help you value business correctly = less risk of overpaying
- Help you do financial analysis to ensure you're OK if there's variability = less risk of default
- Find critical issues and help you navigate them = you may not know what to look for and walk into a warzone
- Prepare and show up professionally for brokers and lenders = get chosen, and get favorable conditions and terms
- Choose the right lender and get the best terms = likelihood to close and savings on overall costs
- Introduce you to the right people who support first-time buyers = avoid overpaying or getting support that doesn't know these types of deal situations
- Negotiate when things show up in diligence (they always do) = successful renegotiate without losing the deal (broken deal costs) and without overpaying (avoiding the conversation or not knowing that you should adjust the deal)
And that's some of the stuff we do ON TOP of helping you find the right business.
Not to mention, the potential savings of having even a .5% rate difference because you showed up like a borrower they were excited to invest in and confident you wouldn't lose money, and you had options, on that $2.2 million would save you $71k in interest.
That's over the 10 year term! And most 7a loans are variable, so think of it as $71k you're leaving on the table with the wrong setup from the start.
So what's the takeaway for you from all of this?
- Always estimate 5-10% on top to get total loan value.
- Plan on putting in at least 10% (you will also need to show post close liquidity which is another convo all together). Though with the right seller note setup, your actual cash can be less than that.
- If you pay relevant deal expenses before you close, you can add that to the loan and have it count towards the 10% you need to bring.
- If you go out this alone, it will cost you a lot more money than you would save NOT getting an advisor.
A key caveat: if you hire professional advisors, like us, you need to be ready to move fast and you need to be serious about buying a business. Why? So long as you close, you can apply the fees towards the loan and your down payment (provided they're SBA compliant, we are).
And I will reiterate that we only take serious buyers as clients, and ones that we can get behind and be successful with. It's why our lenders feel the way they do about including our advisory fees in the equity injection. It's why brokers love working with our clients even if they're first-timers.
It's also why we won't work with everyone, and we keep our client load intentionally small.
We closed our books to new clients last September and now that we have 8 clients under LOI - one that just closed, and 3 more closing in the coming weeks - we are opening up a few more spots to help a handful of first-time buyers find the right business to acquire.
If you’re serious about buying a business and you want to do it in the smartest way possible, start the process now to see if you qualify.
