Q: Richard: Quick question. Our customer wants a 504 loan to buy a new building. When I looked at the long-term debt schedule, I saw a bunch of equipment loans with variable interest rates and balloons. I’d love to refinance those so the borrower can save some cash – and of course so we can make a larger loan. Can I do that?”
A: Gotta tell ya, that’s one enterprising lender — looking to lend more money and save the customer some cash — and of course increase the CDC’s fee income and interest income. I’d love to say “Yes, indeed, do that. Have a nice day!” But not so fast. We all know that in SBA lending, a question might be quick, but the answer seldom is.
One short answer: Processing a 504 loan to refi an equipment loan is the same as a 504 to refi a commercial real estate loan. If the sum of the total debt you want to finance is less than 50% of the expansion cost, then yes, include it.
Of course, all the other conditions must be met. And there’s the challenge.
Conditions. Challenges. One condition requires at least 85% of the proceeds of the original indebtedness financed 504-eligible project costs. And when SBA says “original indebtedness,” they mean “original.” Let’s say the loan you want to refi was used to refi another debt in 2014. And that debt refinanced another debt back in 2009. To get this going, you must go back to the use of proceeds from the 2009 loan. For a real estate loan. you have a chance of getting the Settlement Statement. But for an equipment loan, you’ll have to scrounge around for a disbursement request on a loan made 10 years ago. Let’s hope your applicant is organized enough to find a disbursement request for a loan paid off long ago.
And More. Of Course. Keep your customer on the phone. You might as well ask for the Note and Security Agreements from 2009 and 2014. You’ll need to submit copies of the corresponding debt and lien instruments with your application.
Turns out your customer is organized, like all your other borrowers, and sends you everything you need, including the 2009 disbursement request. As long as 85% of the proceeds shown on that request were used for 504-eligible project costs, the equipment loan you’re refinancing is eligible. But if it shows more than 15% cash to the business or the principal, or toward working capital, or paying any other expense not eligible for 504 financing, then you’re outta luck. No. Sorry. You cannot refi it with a 504 loan.
Eligible Project Costs: A Reminder. You mentioned “504 eligible project costs,” and this is a good time to remember one of the rules about eligible equipment costs. The equipment must have a useful life of at least 10 years. (SOP 50 10 5 (K) Chapter 2, IV. pg. 311). For a loan made in 2009, the equipment is still there. So it must have had a useful life of at least 10 years back then, right?
Maybe. Or maybe the original equipment was replaced in the last 10 years. That can happen if, for example, the lender took a blanket lien on all equipment, additions thereto and replacement thereof. Or maybe the borrower took such good care of the equipment that it exceeded its original useful life. Or maybe the equipment still works, but is as obsolete as a bunch of 8-track players.
Finally, remember that the collateral for the new loan must be no less than the collateral for the original loan. Sometimes an equipment loan has a Purchase Money Security Agreement, meaning the collateral is for that one item only. But often a lender will just take a blanket lien: “All equipment and fixtures, accounts receivable, inventory, chattel paper … ” That will be your collateral too. Unless SBA grants a waiver. (SOP 50 10 5 (K) Chapter 2, IV. pg. 316-317)
Ho. Ho. Ho. So now you know the cheery facts about including refi of an equipment loan in an expansion.
Senior Associate, CDC/504 Programs