“If we had a hammer …” Time and again we’ve pounded away at this issue in our eBulletins and client discussions: When it comes to protecting your guaranty, Equity Injection is a top reason for denial or repair to the guaranty of an early default loan/a loan defaulting within the first 18 months. In fact, not properly documenting the equity injection to show that the funds were injected before loan disbursement could result in a recommendation for full denial of the SBA guaranty.  As we’ve said many times: Document. Document. Document.

Doing it right. What you can do to hammer it home.  

  • SBA requires you to source your equity injection on ALL SBA loans regardless of size.
  • Address the source of equity and its adequacy in your credit memo along with the conditions for collecting the appropriate documents to support the source. Sources can be:
  • Cash not borrowed
  • Cash borrowed through personal loan to business owner
  • Assets other than cash
  • Standby Debt
  • Gifted Funds
  • Supporting documentation:
  • Cash not borrowed: two (2) months trailing statements reflecting funds available
  • Cash borrowed through a personal loan to the business owner. Provide a Copy of Note and an analysis:
    • demonstrating repayment to come from a source other than the business, e.g., spouse, salary income;
    • distributions from affiliates should be reflected in the affiliate’s financials, meeting minutes or a corporate resolution. Affiliate loans require a copy of the Note and full standby for the term of the SBA loan.
    • The borrowed funds should not be reflected on the Applicant Balance Sheet
  • Assets other than cash: Often equipment purchased previously and/or supported by a 3rd party appraisal if the applicant is claiming a value greater than the depreciated value
  • Standby Debt: Shareholder debt placed on full standby for the term of the loan
  • Gifted Funds: two (2) months statement from Giftor, Gift Letter, and wire/cancelled check to show that funds were received from Giftor
  • If you have multiple sources of injection, use a spreadsheet to help demonstrate that the injection has been made and properly documented.
  • New rule, as of 50 10 5 (J) Complete Change of Ownerships and Start Ups have mandatory minimum injection requirement of 10% based on the Total Project,not the loan amount. (See Subpart B. Chapter 4, I. C. pg. 174. Subpart B Chapter 7 covers requirements for documenting and verifying equity injection. “Lenders must verify the injection prior to disbursing loan proceeds and must maintain evidence of such verification in their loan files.” 13 CFR §120.150 (f)]
  • If there is a Seller Carry-back on a change of ownership, the seller may provide no more than 50% of the injection. The seller can provide additional financing as debt but this must be included in your cash flow and is not considered equity injection.
  • Working Capital and Injection. When working capital financed is permanent and provided as part of your loan, then it is to be included in total project costs and subject to the 10% injection requirement.

FYI: SBA is working on a new Form 1050 that will help lenders identify injection. According to SBA, the new form will look similar to a HUD-1. The agency hopes to have it issued by fiscal year end.

Rebecca Mendoza
Senior Associate
J.R. Bruno & Associates
rebecca@jrbrunoassoc.com