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For Sale by Owner: Seller Financing with Small Businesses

For aspiring small business owners who don’t have significant amounts of cash on hand, the path to business ownership can be more challenging. When traditional financing methods fall short, seller financing can be a favorable option for both the seller and buyer of an existing business.

60 to 90 percent of small business purchases involve seller financing. Also known as owner financing or seller carryback, seller financing involves the business’s seller essentially acting as a bank. The seller offers a loan to buyers that covers a portion (or all) of the total purchase price of their business. In turn, buyers repay the seller in installments, with interest. 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 don’t have enough cash to buy a business outright. For the seller, it can open up the pool of potential buyers.

What is seller financing in small business?

Seller financing allows business buyers and sellers to remove the middleman (bankers) and work directly together to come up with a funding deal. Usually, buyers must come up with the funding to cover the entire purchase price, but with seller financing, the seller agrees to carry the note of the loan, and the buyer makes regular payments to the seller with interest.

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 need. These methods can include their own cash, loans from family or friends, business loans or 401(k) business financing.

The willingness of sellers to offer financing is usually a sign that the seller is confident their business will generate enough income to pay back the loan. Some entrepreneurs believe if a seller isn’t willing to offer financing, it’s a sign that the business itself may be in trouble.

Learn more about your funding options: Pre-qualify Today.

How does seller financing work?

Seller financing involves many of the same characteristics 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 resume, and other pertinent information related to finances and business experience. The seller will be relying on the buyer to run the business efficiently to make payments on time — so it’s important they see proof the buyer knows how to run a business and handle finances. The seller may also want to ensure 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.

The seller has the same abilities as a banker to pull a potential buyer’s credit history and the right to deny financing if any of the information received doesn’t meet their criteria. Buyers with a lower credit score can expect to pay higher interest rates and may be required to put up a larger down payment or use collateral (personal property used to guarantee the loan).

Once a seller has approved a buyer for financing, they’ll draw up a contract that specifies the terms of the loan and outlines any collateral needed to guarantee the loan. This contract will also likely include a clause that states 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 deal is done and the buyer takes ownership of the business.

Typical Terms of Seller Financing Arrangements

Whereas traditional business loans are often firm with their terms, seller financing terms can usually be negotiated — by both the buyer and the seller. While every deal is unique, here are some common terms seen in seller financing:

Loan Amount: Between 5 – 60 percent of the selling price. In rare cases, the seller may offer financing for the total asking price if a significant down payment is offered (15 – 20 percent).

Term Length: 5 – 7 years

Interest Rates: 6 – 10 percent of the loan amount (for comparison, SBA loan interest rates range from 7.25 – 9.75 percent)

Down Payment: 10 – 25 percent of the loan amount

Benefits of Seller Financing for Buyers

Seller financing can be beneficial for buyers in many ways. In some cases, seller financing can be even more advantageous than traditional financing methods. Below are some of the advantages buyers see with seller financing:

  • Better access to financing. Sellers are usually more willing than banks to offer financing to individuals who may not meet the strict financial requirements banks require. As a result, buyers who may have been denied by banks are still able to pursue their dreams of business ownership.
  • Better financing terms. Usually, interest rates and down payments are lower with seller financing. What’s more, sellers are often highly motivated to close the deal and can be persuaded to make loan terms more appealing to a buyer, whereas banks have strict terms based on eligibility criteria.
  • Faster close times. Processes drive banks, and traditional business 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 quickly as possible and will want to keep the financing process moving forward.

Combining Financing Methods to Fill in Gaps

Since seller financing will usually only offer up to 60 percent of the total asking price, potential buyers need to find a way to fill the funding gap including coming up with a down payment. Many will choose to apply for a traditional business loan (like an SBA loan), and since they’ll only be asking for a portion of the total price, their odds of approval are higher.

401(k) business financing (also known as Rollovers for Business Start-ups or ROBS) is another great option. ROBS allows business 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’re taking on, which can set them and their new business up for success with lower debt payments.

Benefits of Seller Financing for Sellers

For business sellers who want to sell their business quickly, offering seller financing can dramatically widen the pool of potential buyers. Here are some of the benefits of seller financing for sellers:

  • Attract more buyers. Because sellers can be more lenient when it comes to financing requirements, more buyers will be able to afford to buy the business.
  • Faster closing times. As stated above, seller financing can move much faster because it is not dependent on a bank’s drawn-out approval process. Financing can move forward as quickly as the seller receives a potential buyer’s information and decides to approve them for financing.
  • Higher selling price. With the seller having control over the financing amount, they’ll also be able to ask for a higher price for their business without it affecting timeline or approval. What’s more, sellers will receive interest on the loan amount that they otherwise would be missing out on.
  • Tax benefits. With seller financing, sellers receive monthly payments for their business drawn out over months or years. Reporting such incremental gains as opposed to large lump sums has tax benefits, including lowering income taxes (in comparison to a lump sum).

Tools for Seller Financing

There are a wide variety of tools and resources available to those pursuing seller financing. For buyers who need to secure additional financing, a small business financing firm like Guidant Financial can help buyers explore funding options and pre-qualify a buyer for their eligible funding options.

For sellers, working with a professional firm like Guidant that offers business valuation services as well as helps them promote their business sale is beneficial. Such a firm can help sellers determine an asking price for their business that is fair, provide them with the tools needed to promote their business to buyers, and even pre-screen buyers to ensure they meet minimum requirements. Guidant Financial offers a suite of seller tools to help small business owners.

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

Want to Use ROBS to Start a Business?

Our step-by-step Guide to Rollovers for Business Startups is a complete handbook of everything you need to know about using ROBS to start or buy a small business or franchise.

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