The SBA 504 refinance program ends this month — act now
As published in: Scotsman Guide’s Commercial Edition, September 2012
Nearly two years ago, a significant but little-noted change to the U.S. Small Business Administration (SBA) 504 loan program was made by the introduction of a refinance facility that was part of the Small Business Jobs Act passed in 2010. This refinance program had a slow start, however, because of the lengthy process of finalizing the SBA regulations necessary for its implementation. As a result, the first loans were not made until March 2011.
In addition, because the refinance program was introduced as a temporary, two-year program to boost the economy, it is going to expire this month — unless Congress extends it. That is why commercial mortgage brokers who are interested in taking advantage of this exceptional refinance facility must act as quickly as possible and have their deals approved before Sept. 27.
In fact, data from the SBA illustrates that demand for the 504 refinance program has grown significantly. As of May 2012, refinancing projects equaled 26 percent of the total approved 504 loans. This compares to just 4 percent for fiscal-year 2011, which ended on Sept. 30, 2011. The low volume in its first fiscal year may be a result of the delays in getting the program off the ground. But, apparently, it was not long before the word spread about its advantages.
In a nutshell, the SBA 504 refinance program allows small businesses to refinance eligible commercial real estate mortgages and get working capital with long-term, below-market fixed interest rates. Small-business owners can finance up to 90 percent of the current appraised values of their properties. The difference between the existing mortgage and 90 percent of the building’s value can be taken out to be used for working capital for the business.
To understand the need for this refinance program, it is critical to realize the shift that many small-business owners have had to deal with as their property values deteriorated. Prior to the recession, small-business owners had access to a variety of commercial real estate loan products from conventional lenders. Many of these were short-term loans with balloon payments. As long as property values kept increasing, refinancing balloon payments was not a problem. With today’s lower values, however, many existing mortgages exceed conventional loan-to-value (LTV) ratios. Businesses, already struggling to meet operating costs, now are required to inject cash into a project to refinance.
The SBA 504 refinance program is not only the best option available to refinance existing debt, it also enables the business to conserve cash and, in many cases, to access equity in the building to provide working capital that enables the business to survive and grow.
To better illustrate how the SBA refinance program can be used in different scenarios and for various business goals, here are a few examples:
Refinance and grow. The owners of a Calif.-based manufacturing company had a $4.5 million note with a due date for this past June. Because of the decline in the value of the property, the existing lender would not extend the term. Given the current LTV, the company could not refinance without a significant cash injection — cash that the company did not have. The 504 loan refinanced the existing debt, and the below-market, long-term interest rate cut the borrower’s monthly payments in half. This company employs 70 people, and with the reduction in operating expenses, it projects that it will be able to add approximately 10 new jobs over the next two years.
Get lower monthly rates and working capital. The owners of a 40-unit inn in Berkeley, Calif., used the SBA 504 refinance program to consolidate three separate notes, each with different interest rates and due dates. The inn that employs 20 people caters to university parents and foreign tourists, and has, therefore, an occupancy rate of nearly 90 percent. The program enabled the owners to tap into the equity in the property to access more than $400,000 in working capital and finance a long-term, below-market interest rate loan. As a result, the owners were able to reduce their monthly payments and extend the term of the financing, as well as add some working capital to their business.
Matter of survival. The owners of an auto body shop in Oakland, Calif., had a note with a 10-year maturity due at the end of this past year and a balloon payment of $670,000. Because the value of the property had declined, the current lender would not extend the loan. Since the debt exceeds most banks’ standard 75 percent LTV policy, the company would have had to come up with cash to refinance the note. This, in turn, would have strained already tight cash reserves for the business that employs 10 people. The owners used the 504 refinance program and were able to refinance their entire debt and inject $46,000 of working capital into their business.
These examples demonstrate the importance of having such a program in place. At press time, an extension of the program beyond its September expiration date seemed unlikely, particularly with the uncertainty associated with the highly political climate in Washington, D.C.
Commercial mortgage brokers must advise their small-business-owner clients to move as quickly as possible to consider whether their deals are eligible for refinancing through the SBA 504 refinance program — simply to make sure that their loan is approved before Sept. 27.