Changes to the SBA Loan Programs and How They Make It Easier to Finance Your Next Self-Storage Project

Last year, the Small Business Administration (SBA) made significant changes to its 7(a) and 504 loan programs, both of which are commonly used by self-storage owners. The goal was to provide relief and support to small businesses that struggling with existing debt and to facilitate access to capital.

“With the 7(a), your rates are generally a little higher, your fees are a little higher, and the prepayment penalties are less severe,” says Ben Smith, vice president of Celtic Bank. “Under the 504 program, your down payment is a little lower, 10 to 15 percent. The rates and fees are lower, too. The process is a little more intense, and the prepayment penalties are steeper; but it’s also a good program.”

Following is a summary of the key modifications that were made to these programs in 2023 and how they may help you get your next self-storage deal over the finish line, whether you’re buying, developing or expanding.

Expansion of Eligibility

The SBA broadened the eligibility criteria for self-storage owners looking to refinance their existing debt through the 504 program. The requirement for substantially all of the qualified debt to be used toward an eligible fixed asset (buildings, equipment, land and machinery) was lowered to 75% instead of 85%. This makes it easier to qualify, potentially providing self-storage owners with better loan terms and reduced financial strain.

Many owners aren’t aware that they can refinance their commercial mortgage with an SBA 504 loan to access trapped capital while reducing their monthly payments with a low, long-term, fixed interest rate. Funds can be used to purchase land or buildings, cover construction costs to upgrade or renovate, or purchase equipment with a service life of 10 years or more. Projects will likely qualify if the original loan is at least six months old, the property is at least 51% owner-occupied, or long-term equipment and/or the debt to be refinanced was originally used for the purchase and improvement of fixed assets.

Increased Loan Amounts

The SBA raised the maximum loan amount eligible businesses can receive through 504 debt refinancing to $5 million. This provides greater access to capital, allowing you to refinance more of your existing debt and potentially obtain better terms.

Longer Loan Term

The SBA extended the maximum loan term available to 25 years under the 504 program, giving borrowers more flexibility in managing their debt obligations. Longer terms can lower monthly payments and improve cash flow. Borrowers can consolidate multiple loans and their equity into collateral, which often meets the down-payment requirement.

Streamlined Application Process

To facilitate refinancing, the SBA streamlined the application and approval processes for 7(a) and 504 loans, reducing paperwork requirements and expediting the review. This should enable self-storage owners to access much-needed funds quicker.

In addition, minority investors who own less than 19% of a property are no longer required to provide three months of bank statements showing their funds. Each guarantor or investor must typically provide one month of bank statements and sign an investor affidavit.

“There’s a limited amount of information required on individuals with 19% ownership or less; however, every lender can ask for as much information as they want,” Smith says. “If the 19% owner is providing 80% of the down payment, [the lender] may request to see more information from that individual.” This might include a personal financial statement, or personal and business tax returns or bank statements.

Additional Application of Seller Debt

Seller debt can now be used as equity toward the required 10% down payment on a 7(a) loan. Borrowers can also make payments toward their seller debt concurrently with their 7(a) loan payments after two years. Previously, the seller debt had to remain fully on standby until the bank loan was completely repaid. However, it still can’t include balloon payments and must be fully amortized.

If a seller debt isn’t counting toward equity, it can have any terms to which the borrower and seller agree. It’s important to review the language in the seller-financing agreement with your lender prior to finalizing the deal to ensure it complies with SBA requirements. The bank also wants to confirm that the seller-financing terms make sense.

“Is it a reasonable interest rate? Is it a reasonable amortization or payback period? Having 25% due in six months doesn’t make sense, but a 7% interest rate while on standby for the first two years, followed by three-, five-, or seven-year repayments is a good deal,” says Smith.

The SBA doesn’t typically like the seller to carry notes, but if the debt is covered below the threshold of leverage, that structure should work, according to Cody Baker, CEO of Baker Capital Partners. “The stipulation that we had on a recent deal was similar to what Ben [Smith] describes. The seller wanted to [offer] a five-year note, but because the bank’s portion was a 10-year note and there was a 25-year note from the SBA, the bank wanted the seller note to match the 10-year [term],” he says.

HELOCs and Cash-Out Refinances Now Included

A home equity line of credit (HELOC) and cash-out refinance are now allowed as part of borrower equity. They join soft costs, land and gift letters as other components that are accepted as part of the SBA 7(a) program.

“Keep in mind, a bank would still need to include the HELOC or cash-out refinance debt terms into the cash-flow analysis and combine that debt with any bank debt being used for the self-storage facility,” says Nick Collins, vice president of Bank Five Nine. “Being gifted the down payment has always been a straightforward process as long as a gift letter is drafted from the money source and there are no repayment terms expected.”

Baker also stresses the importance of borrower “seasoning.” “The analysis I take clients through when they want to refinance is, what does your ownership seasoning look like? How much cash did you put in? How much are we trying to pull out? If you put in a million and we’re only trying to pull out half a million, and the bank’s [seasoning] requirement is 24 months but we’re at 20 months or 18 months, we can probably make that happen because we’re not cashing out all the skin in the game.”

Requirements for Change in Ownership

The SBA asks for equity when ownership changes partially or completely, or when there’s a change between current owners. If one partner is borrowing the money to buy out another, the funds can’t exceed a 10-year payback period, which would hurt cash flow.

“In the case of a partial change of ownership, the project must reflect a debt-to-worth ratio no greater than 9-to-1 on most recent financial year-end and current-quarter balance sheets,” Collins says. “If it doesn’t meet the above, cash in the amount of 10% of the ownership purchase price is required.”

Expansions With No Money Down

If a self-storage owner wants to purchase an existing facility, expand a site or build a new development, it may be viewed as an expansion because it’s as expanding the business. For example, an acquisition may be considered an expansion if ownership in both facilities is the same, they share a North American Industry Classification System (NAICS) code and they operate in the same geographic area. For example, if you’re opening or acquiring a facility an hour away from another you currently own and will be operated under the same management, it could qualify.

“Depending on the 7(a) or 504 program, an owner must have 12 to 24 months of ownership history in their current facility,” Collins says. “With the 7(a), you can technically obtain a new loan with zero money down for the expansion by using the equity from the first facility you own.”

Personal-Resources Test Eliminated

Perhaps one of the biggest changes to the 7(a) and 504 loan programs is the SBA is no longer looking at borrower’s liquid assets to determine eligibility.

“A general rule of thumb is someone could possibly be considered too good for the SBA if their cash on hand equals or exceeds the loan being requested. There have been times where a bank could argue that even though someone has the liquidity level that may be questioned by the SBA, they need to keep liquid reserves for business purposes, emergency funds, operating capital, taxes and other needs. I think there’s more flexibility in the net-worth rule than people may think,” Collins says.

“Currently, conventional banks are having a hard time with liquidity across the board. Therefore, they’re leaning heavily on borrower liquidity as a second source of repayment, along with requesting deposits from that stated liquidity of the sponsor,” according to Baker. “The SBA lends to start-up businesses and entrepreneurs, so this liquidity hurdle seen across the country is much easier through the SBA loan program at this time.”

Easier Debt Conversion

An existing SBA loan can now be refinanced into another SBA loan. In addition, banks no longer require written proof that a borrower’s current lender won’t refinance their 7(a). Both modifications offer additional security against worsening economic conditions. 

“Now it’s possible for someone who is currently in a 7(a) floating-rate SBA loan to refinance into a 504 SBA loan with a fixed rate. This is beneficial to the borrower because it protects against market fluctuations,” Baker says. For a borrower to qualify, the new monthly payment must be reduced by at least 10%, and the existing SBA loan must be current for 12 months.

Third-Party Managed Facilities Now Eligible

Previously, the SBA viewed self-storage facilities managed by real estate investment trusts (REITs) like CubeSmart, Extra Space Storage and Public Storage as passively managed, which meant they weren’t eligible for loans. Though the REITs themselves still can’t use the 7(a) and 504 programs, other owners can, even if they hired a REIT for management.

“A bank still has to review the third-party management agreement to make sure it complies with the SBA [standard operating procedures] rulebook,” Collins says. “I think using a REIT is still a gray area with compliance requirements.”

A Path to Growth

Overall, these changes to the 7(a) and 504 loan programs make it easier for self-storage owners to refinance their existing debt and improve their financial health. By providing access to affordable capital and reducing administrative burdens, the SBA aims to support the growth and sustainability of small businesses nationwide.

Katherine D’Agostino is the founder of Lincoln, Nebraska-based Self-Storage Ninjas, which provides feasibility consulting and reports for the self-storage industry as well as for boat/RV storage, flex-warehouse space, storage condos and contractor yards. A former marketing-communications executive, she’s written hundreds of reports for facility owners across the United States, enabling them to make informed investing decisions. She’s also a frequent speaker at self-storage events and an experienced property owner and developer, with three self-storage facilities in Nebraska and boat/RV-storage facilities in Illinois and Texas. To reach her, call 402.570.5021; email [email protected].