One of the eligible uses of SBA 504 funds is to finance leasehold improvements. While a leasehold improvement project is harder to do versus other real estate needs such as a building acquisition, construction, or renovation, they can be done given the right circumstances. This week’s blog discusses the underwriting criteria needed for financing a leasehold improvement project through an SBA 504 loan.
The first underwriting criteria that needs to be addressed is collateral. For leasehold improvements, the money goes to improve someone else’s property and chances are, the owner is not willing to provide a mortgage on the property to secure the loan. So we need to look at what other collateral would be available. For most SBA 504 loans, the project collateral is generally sufficient to secure the loan. But in the case of leasehold improvements, other real estate property and/or equipment would need to be considered. Even if such business collateral is available, depending on the value and existing liens, the SBA could very well need to look at personal assets to secure the loan as well. This typically means the owner(s) personal residence(s) or other investment property they own.
The second underwriting criteria, which is more directed at the closing of the SBA 504 loan, is the Assignment of Lease and Landlord’s Waiver. When a substantial portion of the loan proceeds are to be used for leasehold improvements or a substantial portion of the collateral consists of leasehold improvements, fixtures, machinery, or equipment that is attached to leased real estate, we must obtain: an Assignment of Lease with a term including renewal options that equals or exceeds the term of the loan and a requirement that the lessor provide a 60-day written notice of default to us with option to cure the default. A Landlord’s Waiver must also be obtained as that gives us access to the leased premises and facilitates the liquidation of the collateral on the borrower's premises and should be obtained for all SBA loans with tangible personal property as collateral.
While leasehold improvements are vital to some small businesses because they are not ready or cannot afford their own property, using the SBA 504 loan to partially finance those costs can become problematic, especially if there is no other collateral available to secure the loan and/or the owner of the property will not abide by the requirements of the lease. However, for those situations where all the pieces can come together, the 504 loan can be an excellent choice for small businesses needing to do leasehold improvements.