What Is Seller Financing For a Business?

What Is Seller Financing For a Business?

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Seller financing facilitates the buying or selling a business: Discover what is seller financing for a business, how it benefits buyers and sellers, and the key steps to use it effectively in business transactions, It’s a loan from the seller to the buyer to help pay for the purchase. Seller financing, also called owner financing or seller carryback, has to be paid back over time with interest, but it could mean the difference between getting a deal done or walking away from the table.

We shall guide you through the pros and cons for both sellers and buyers so that you can choose whether it can work for you.

How does seller financing work for business?
Cash buyers may typically finance the balance with seller financing, which sometimes includes in conjunction with that finance, conventional loans, or other financing sources. Since the seller is taking the risk of repayment, they will often demand a credit report business references, or other evidence of buyer credit.

Any business acquisition financed by seller financing must have at least two essential contracts:

A sales contract outlining what you are selling to whom and the price for which you are selling it
A promissory note that includes the loan amount as well as terms of how you intend to pay it off.
The promissory note will typically include a buyer personal guarantee, which ties the buyer personally to company debt. You will also require a collateral agreement, also called a UCC filing, if the sale involves physical assets. In any event, buyers and sellers should always use the services of an appropriate professional, attorney, or business broker, before signing these documents.

Seller financing vs. business acquisition loans
Business acquisition loans Another source of funds to purchase a business is via business acquisition loans.

While the seller provides the financing in seller financing, in business acquisition loans, the buyer gets funds from financial institutions such as banks, credit unions, and other lenders. Generally speaking, business acquisition loans provide longer repayments and greater loan amounts likely to enable the buyer to finance even larger portions of the purchase price.

In seller financing, the buyer may be directly related to the seller. For instance, an existing business is transferred to an employee or a family member. This rarely happens with a business acquisition loan. Therefore, it more often has a much stricter qualification requirement and tougher repayment terms.

What are the risks associated with seller financing?
What Is Seller Financing For a Business
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There are two kinds of risks for the buyers and sellers in a seller financing agreement: financial and management.

Financial risk:

The risk is that the seller may not get paid on time or at all.
The buyer’s risk involves exposure to the seller, should they default, repossess the business assets and, for that matter, also the buyer’s assets.

The buyer may find the seller either disruptively meddlesome or less helpful in the transition than promised.
For the seller, the situation may be exactly the opposite – he or she may be saddled with ongoing obligations to ensure that the business prospers so that the buyer can repay them.

When should you consider seller financing?
Buyers
You can’t access other forms of financing quickly enough: If you don’t have enough cash to fund the acquisition of a business, you may have to wait months for funding. Your bank and other traditional lenders have such stringent documentation and due diligence requirements, and it takes months to find and agree with terms through the potential equity investors. The seller already knows the business and has every reason to sell the business quickly.

You have other business needs you want to keep cash for: When you buy a business, you’ll also have expense money for attorney fees, facility improvements, and even inventory. By using seller note funds, you are saving your cash for the out-of-pocket expenses involved with buying a business. Adequate reserve cash to meet both expected and unexpected needs can help protect the value of your long-term investment.

You feel that the business is in good health: When the seller finances your business, it is a show of confidence in performing well, and they will get back their money. In case you fail to repay as agreed upon by the promissory note, the seller may seize your business assets besides some of your personal property. Do not accept a loan unless you are convinced that the business you are acquiring will bring in enough revenue to pay for the debt.

Sellers
You want to reach more potential buyers: Offering seller financing should bring you a bigger pool of potential buyers, including those with limited cash on hand or less access to traditional financing. The more qualified buyers who are interested, the better the odds of finding one that’s a mutually good fit.

Sellers
You will attract more potential buyers: Using seller financing can attract a much larger pool of would-be buyers among those who happen to have minimal cash on hand or have lesser access to traditional funding. The more qualified prospects interested, the more chances you’ll find one that is mutually good for both parties.

You want a premium for your sales: More enthusiastic buyers simply translate to more opportunities for a bidding war that will push the selling price of your business to the stratosphere. And because you will be paid for overtime by a buyer, they’ll be able to afford a higher purchase price.

You want to decrease your tax exposure: In general, a seller will only pay tax when they receive the buyer’s payment. This will stretch out your tax liability over many years. Remember though that your tax rates and perhaps your tax bracket will likely shift in the future, either favorably or unfavorably, depending on the play out between the new tax rates and whether your new tax bracket is higher or lower. Consult a tax advisor for how this may impact your specific situation.Click Here