How to Use Seller Financing to Close a Deal
What is Seller Financing?
Seller financing is a strategic tool that can help close business transactions by allowing the seller to finance a portion of the purchase price. Unlike traditional financing, where the buyer secures all the funds from a bank or other financial institution, seller financing adds an additional layer of financing that complements the primary loan from the bank. This approach can be particularly useful in bridging gaps between what a buyer can borrow and the total purchase price.
The Benefits of Seller Financing in Addition to Bank Financing
Offering seller financing alongside traditional bank financing can make your business more attractive to buyers and potentially increase the overall purchase price. It allows buyers to access more capital, which can be crucial when they want to acquire a business but cannot secure the entire amount through a bank loan alone.
Here’s how it works:
Enhanced Deal Structure: By adding seller financing to the deal, you’re enabling the buyer to spread out payments over time, which can make the transaction more manageable and appealing. This can also allow the buyer to pay a higher overall purchase price, as the seller-financed portion can be tailored to fit their financial situation.
Increased Purchase Price: With seller financing, buyers may be willing to offer more for the business, knowing they have additional time and flexibility to pay off the seller-financed portion. This can result in a higher sale price for the seller.
Forgivable Seller Notes: A Strategic Advantage
One effective strategy within seller financing is the use of forgivable seller notes. A forgivable seller note is a promissory note where the seller agrees to forgive a portion or all of the debt after a specific period, provided certain conditions are met. This type of financing can be particularly attractive when used alongside bank financing:
Increased Flexibility for the Buyer: The buyer benefits from the potential forgiveness of part of the loan, reducing their long-term debt obligations. This can make the deal more attractive and give the buyer more confidence in their ability to meet financial obligations.
Higher Purchase Price Potential: Knowing that a portion of the debt could be forgiven may encourage the buyer to agree to a higher purchase price. This allows the seller to maximize the value of the sale without putting undue pressure on the buyer’s immediate cash flow.
SBA Financing and Standby Seller Notes
When incorporating seller financing with bank financing, particularly through Small Business Administration (SBA) loans, the structure of the seller note is crucial. One common approach is to place the seller note on standby for two years:
Standby for Two Years: In this arrangement, the seller agrees not to collect payments on the seller-financed portion of the loan for the first two years after the sale. This is often a requirement for the deal to remain eligible for SBA financing, as the SBA views this standby period as additional equity, reducing the financial risk for both the buyer and the lender.
Preserving Cash Flow: By placing the seller note on standby, the buyer can focus on meeting the obligations of the primary bank loan during the crucial early years of ownership. For the seller, this structure reduces the risk associated with the seller-financed portion, while also potentially enhancing the overall value of the deal.
Structuring the Deal: Key Considerations
When offering seller financing in addition to bank financing, especially with a forgivable note, there are several important factors to consider:
Clear Terms and Conditions: Clearly outline the terms under which the seller note will be forgiven, such as meeting certain financial performance targets or making timely payments on the bank loan. These conditions protect both the seller and the buyer and ensure transparency in the transaction.
Legal and Tax Implications: Seller financing has significant legal and tax implications. Work with legal and financial advisors to structure the deal in a way that minimizes tax liabilities and complies with all relevant regulations.
Risk Management: While seller financing can increase the purchase price and facilitate the sale, it also introduces risk for the seller. Assess the buyer’s creditworthiness, business plan, and ability to manage the business effectively before agreeing to provide seller financing.
Conclusion: Leveraging Seller Financing to Close the Deal
Seller financing, when used in addition to bank financing, can be a powerful tool to close a deal and increase the purchase price of your business. By incorporating strategies like forgivable seller notes and placing them on standby for two years, you can keep the deal eligible for SBA financing, making it more attractive to buyers who may need that extra financial flexibility.
However, it’s crucial to structure the deal carefully, with clear terms and a solid understanding of the risks involved. When done correctly, seller financing can help you achieve a successful sale, providing a better return on your investment while also supporting the buyer’s long-term success.
If you’re considering selling your business and want to explore how seller financing could work for you, contact us today. We can help you navigate the complexities of the sale process and structure a deal that meets your goals.
