The majority of small business sales are financed with at least some seller financing. With the current difficulty of obtaining a small business acquisition loan from a bank or traditional lender, it is reasonable to believe that at least 80% of small business sales include at least some form of seller financing.
To better understand this common small business selling and buying practice, we will explore seller financing in three parts.
In Part I: We will look at five potential benefits for the seller in financing their business sale.
In Part II: We will look at six potential benefits for the buyer in using seller financing as a helpful tool to purchase a small business.
In Part III: We will show the basic mechanics of seller financing in order to provide for our sellers a few guidelines for considering how to best structure your sales deal, while exhibiting for our buyers some of the financial agreements, arrangements, or payment structures which may be available to you as you look to purchase a business.
Seller Financing: Five Seller Benefits
Many sellers may view seller financing as the “last hope” to sell their small business, however, in our direct experience, we have found that seller financing may potentially offer five benefits to the seller that an all-cash deal does not.
1) Getting a Better Sales Price:
Since a small business is generally not large enough to appeal to traditional lenders, buyers will sometimes have difficulty coming up with a large down payment. If a seller provides financing, the seller is more likely to receive a selling price more in-line, or closer to their asking price. When a buyer makes an offer of an all-cash 100% up-front payment, they will generally be looking to purchase the business at a steep discount.
2) Increase the Potential Pool of Buyers:
By providing financing for their business sale, a seller increases the number of potential buyers by letting in on the sale buyers who might not otherwise be in a position to purchase the business.
Three potential groups of buyers who may be included with a seller’s offer of financing include:
- Buyers who may be “credit challenged” for various reasons not related to their want or desire to buy a business, and, most importantly, not related to their ability to successfully run a business once purchased.
- Buyers who have a sizable down payment but who could not otherwise afford a business within that specific price range without the help of seller financing.
- Buyers who might consider buying a business if it required a lower down payment.
In offering financing a seller enlarges the pool of potential buyer prospects. With more buyer prospects, the chances are greater that the seller will be able to obtain an acceptable offer for their business.
3) Increase the Speed of Sale:
If a seller provides financing the deal will in general get done more quickly.
Even in those rare cases where a traditional lender will approve a small business loan, a bank tends to move much more slowly than a seller-financer can, (anywhere from 30-120 days to approve and close the loan). In most cases, seller financing can be done as quickly as the terms can be agreed upon between the seller and the buyer, and as fast as an attorney can get the financing agreements prepared.
4) Potential Tax Benefits:
Business sellers do not always consider the potential tax consequences of their business sale. By financing the sale, and with payments for the business spread out over a number of years, a seller can potentially reduce their tax burden especially for the year of the sale of their business.
Also, there may be potential tax breaks when a seller finances the sale of their business which can be explored.
5) Increasing Buyer Confidence:
A seller who shows a willingness to finance their business sale, in effect, tells the buyer through their financing that the seller has confidence that the business will continue to run, will run well for years to come, and that the business will, over time, pay for itself.
As the seller has day-to-day, direct knowledge of the business, and therefore direct knowledge of the businesses’ true finances, the seller is in the best position to know exactly how much can be taken out of the business to pay back the seller-financed loan, and approximately how much income the business will still be able to provide and produce for the new owner on which he or she can make a living.