Understanding the Difference Between SBA Loans: 504 vs. 7(a)
If you’ve considered pursuing government-backed funding for your small business’s next project, you may have noticed that the Small Business Administration (SBA) offers two loan programs. At first glance, both options may seem almost identical—but each has different use cases and requirements.
Keep reading to learn the basics of SBA 504 and 7(a) loans, their key differences, and how both options work.
What Are SBA Loans: 504 vs. 7(a)?
SBA 504 and 7(a) loans offer an alternative funding source to small businesses that have exhausted other options. While certain projects may be eligible for both financing options, 504 loans have more limited use cases than 7(a) loans.
SBA 504 Loans
The SBA 504 loan program provides funding for “major fixed assets that promote business growth and job creation,” according to the SBA. Eligible uses include:
- Land or building purchases
- Construction or renovation of new or existing buildings
- Equipment or machinery purchases
- The improvement of exterior amenities, such as parking lots, land, or streets
Since the SBA limits 504 funding to assets that improve small businesses and their surrounding communities, you can’t use a 504 loan for working capital, debt consolidation, or rental real estate investments.
Individual loans are typically capped at $5 million, but you may be able to obtain additional funding. While you most likely work with a lender to apply for a 504 loan, your lender only supplies half of the total funding, and a Certified Development Company (CDC) provides 40%. CDCs are nonprofit organizations regulated by the SBA with the sole purpose of helping to foster economic development and create jobs.
SBA 7(a) Loans
The SBA 7(a) loan program is the more popular option due to its wide range of use cases. Like a 504 loan, you can use 7(a) funding to purchase, construct, and renovate buildings, acquire land, and finance equipment. But business owners can also use proceeds for working capital, business debt consolidation, and business acquisitions.
They also have a cap of $5 million, but there are several types of SBA 7(a) loans with lower maximums, such as Express loans. Small business owners work with lenders to obtain financing, and the SBA guarantees a portion of the total loan (up to 85%).
SBA Loan Requirement Comparison
In addition to separate use cases, SBA 504 and 7(a) loans have different eligibility requirements borrowers must meet.
SBA 504 Loan Requirements
To apply for an SBA 504 loan, you must meet the following criteria:
- Qualify as a for-profit, small business operating in the United States
- Have a tangible net worth of less than $15 million
- Have an average net income of less than $5 million for the two years prior to your application (after applying federal income taxes)
Your project must also meet job creation requirements (or other alternative requirements in some cases) to qualify for SBA 504 financing.
SBA 7(a) Loan Requirements
Small businesses are eligible to apply for an SBA 7(a) if they meet the following requirements:
- Operate as a for-profit small business in the United States
- Have reasonable invested equity in the business
- Exhaust other financial assistance options, including personal assets, before applying
Because SBA 7(a) loans don’t require you to meet job creation requirements, they are often easier to secure than an SBA 504 loan.
What Are the SBA 7(a) and SBA 504 Loan Rates?
The type of SBA loan you pursue will determine your interest rate. SBA 7(a) loans can come with variable or fixed interest rates. The SBA sets a maximum rate determined by current prime or LIBOR rates. Your loan repayment term depends on the type of project you use funds for. You may be able to repay a commercial real estate loan over 25 years, but working capital and equipment loans are capped at 10 years.
SBA 504 loans come with fixed interest rates that depend on the current market rate for U.S. Treasury issues, which often makes them lower than 7(a) loan rates. These loans typically come in 10-, 20-, or 25-year terms.
What Are My Requirements for an SBA 7(a) or SBA 504 Loan Down Payment?
SBA loans are desirable to small businesses with limited capital due to their low down payment requirements. For both SBA 7(a) and 504 loans, business owners typically put down at least 10% of the total loan amount, but some borrowers may have to contribute more depending on their business status and loan purpose.
These low down payment requirements allow small businesses to conserve capital upfront, so they can focus on projects that foster business growth. Additionally, since SBA loans often offer longer terms than other financing sources, businesses can retain cash flow and invest it back into their operations.
Learn if an SBA 7(a) or 504 Loan May Be Right for Your Business
Both SBA 504 and 7(a) loans offer extremely favorable terms and interest rates for your business, but each option comes with pros and cons. If you’re unsure which loan will benefit your business most now and in the long term, Madison One CUSO can help. Our loan experts have decades of experience facilitating government-guaranteed loans, and we can help determine which loan program best fits your project. We handle the complicated logistics of the SBA loan application process so you can continue focusing on the future of your business.
It only takes a 15-minute phone call to identify your business’s eligibility and compare your funding options. Get in touch with the Madison One CUSO team today to learn more about SBA 504 and 7(a) loans and which choice may be right for you.