Wow. I really started something when I began answering your questions. And I love it! This one just came in. A lender is trying to weave his way through a tangled web where two affiliated businesses looking to join forces under one roof face obstacles in the way. I’ll let him tell it:

Q: Richard, I have a prospect, the Smith brothers. Each owns 50% of a gas station/convenience store. Each also owns 30% of a Dairy Queen. So they’re affiliates, right? They want to build a new building the brothers will own personally. Then they’ll lease it to the two businesses, putting both under one roof. The problem: Two other people each own 20% of the Dairy Queen. These two owners refuse to guaranty the loan. I need to make an SBA loan structure work. Help!

A: If I understand you correctly, the Smith brothers want 100% of the building to be occupied by the two businesses in which each is a part owner and affiliate. In other words, each business would each be an Operating Company. Sounds reasonable. But I’m sure you already spotted the problem!

Under SOP 50 10 5 (K), individuals who own 20% or more of an applicant business must provide an unlimited full guaranty (Subpart B, II., pg. 191; Subpart C, E., pg. 325). In this case, there are two applicant businesses (the Operating Companies), and anyone who owns 20% or more of either business must guaranty the loan.

Notice the redundancy in the SOP?  “…(Un) limited full guaranty..”  (Subpart B., II, 1, a., d, pg. 191.; Subpart C.E., 2., pg. 326). Isn’t that just like the SOP? The redundancy is there on purpose. The only time a guaranty may be limited is when a minority owner (one owning less than 20%) or anyone else, regardless of ownership interest, is critical to operations of the business.

an I structure the loan? Yep. There are three solutions. None is easy. But you’re a sales person, right? Time to put your skills to work.

Solution #1. Follow the rules for new construction. (Subpart B., F., pg. 138; Subpart C., J., 2. pg. 320) Define the gas station/convenience store as the sole Operating Company. In this case, it must occupy 60% of the property. Then it may permanently sublease up to 20% to the Dairy Queen. and temporarily sublease an additional 20%, intending to use some of the space within three years and all of it within 10 years. In this case only the Smith brothers must guaranty the loan as they are the only owners of the Operating Company. That the entities are affiliates is not relevant to the guaranty issue.

This is a lender’s solution. But it becomes a design/build issue that might result in a much larger project than originally intended. And the cost might bust the budget.

Solution #2. The 20% Dairy Queen owners must fully divest themselves of their ownership interests That might seem unlikely, but their ownership interests seem to be an obstacle to the growth of the business. The purchase price for their ownership interests now is presumably less than it would be after the new project is successful. Or maybe the Smith brothers can buy them out. In that case, you can discuss how an SBA loan can be used for a partner buyout.

Solution #3. The third solution is much simpler: Jawbone the client. In other words, have a chat! Maybe the reason the two other owners don’t want to guaranty is that they think you might lien their home. A personal guaranty of a 7(a) loan might require a pledge of real estate owned personally. But that’s not necessarily the requirement for a 504 loan. Or maybe they just don’t want to guaranty. Why not? The borrower will pay you back, right? Then what is their issue with a guaranty? Talk. And find out.

Keep your questions coming! I love addressing challenges and untangling webs. And of course, look to JRB for all your SBA/504 needs!

Richard Jeffrey
Associate, CDC/504 Programs