Cashing in on 504 loans: a Small Business Administration program has enabled thousands of companies to borrow at favorable rates and expand

Nation's Business, Dec, 1993 by J. Tol Broome, Jr.

"I recently made a 504 loan to a corrugated-box converter," says Trautman, whose bank was one of the most prolific 504 lenders in Ohio in recent years. "The company had been located in a 60,000-square-foot facility that was partially condemned," he says. "The down payment required for a conventional loan would have been a stretch. But we were able to put together a 504 package to finance both the construction of a new 40,000-square-foot building and some badly needed equipment."

Along with financing of construction, including land purchase, and acquisition, renovation, or expansion of an existing facility, a 504 loan can also cover soft costs, such as professional fees, surveys, and interim interest.

The equipment financed must have a useful life of at least 10 years and must not be subject to short-term obsolescence.

Project Size Limitations

The SBA places size limitations only on the CDC loan portion of the project. The minimum amount for a CDC loan is $50,000, and the maximum is $1 million. Given that the CDC loan usually provides 40 percent of the overall project amount, the total value of a 504 project ranges from $125,000 to $2.5 million.

Loan Terms

The participating bank is required by the SBA to extend a term of at least 10 years for real estate projects (most will go 15 years on the amortization schedule) and at least seven years for equipment loans.

Interest Rates And Fees

The interest rate for the CDC portion of the loan package is fixed for the term of the loan and pegged to U.S. Treasury bill rates. In October, the 10-year rate for equipment loans was 5.85 percent, while the 20-year rate for real estate loans was 6.75 percent.

The interest rate for the bank's portion of the loan can be fixed or variable.

A fee of about 3 percent is charged for all CDC loans, while a bank typically charges a 1 to 2 percent fee on its portion of the financing package.

Preparing For The Application

The borrower must submit several documents to the bank and the CDC, including financial statements covering the previous three years and personal financial statements for the principals in the company.

Borrowers must sign an agreement making them personally responsible for paying any portion of a defaulted loan not covered by the collateral.

For new real estate projects or for renovation, construction estimates and a completed set of plans and specifications must be submitted. An equipment-loan request should include estimates on the total cost of the machinery to be purchased.

Role Of The Bank

The local bank is the starting point for all 504 loan requests. It is important to find a lender familiar with the program.

The bank analyzes the feasibility of the loan request based on its standard set of lending criteria. Underwriting components that are considered include credit history, management strength, the business's track record, collateral, cash flow, and the company's level of equity.

Role Of The CDC

Paul Herringshaw, executive director of Centrolina Development Corp., in Charlotte, N.C., refers to the CDC as "the catalyst" for the 504 process. Once the bank has preliminarily approved a 504 request, the prospective borrower is turned over to the CDC.