Review of the SBA 504 Hotel Loan Program
Two Loans – The SBA 504 loan will be split into two loans. The first is a commercial loan which has a minimum of 50% Loan to Value, the second is a loan by the SBA and has a maximum of 35%. The commercial lender will close the permanent loan at 50% as well as an interim loan which is equal to the second loan by the SBA. SBA will then fund the interim loan between 3 and 4 months.
Purpose – At this point in time, SBA 504 loans can only be used in order to acquire hotels, or to finance a hotel which has been recently developed. In certain conditions, the loan can be used in order to renovate. Starting in 2016, SBA 504 loans can be used in order to refinance. The SBA 504 refinance program has been expected to be functioning by the late days of May 2016.
Rate – On the first commercial loan, the rate tends to be a fixed rate for the first 5 years which is then switched to either an adjustable rate for the 5 years after that, or it is reset. In the current state of the market, the rates are between 4.25% and 5.25%. The current SBA debenture has a 20 year fixed rate, which is issued each month by the SBA. The rate table which is found on our home page reflects the latest rates of the SBA.
Maximum Loan – Even though the only limit is on the 2nd SBA Loan and is to be 5 million (if SBA green 504 with renewable energy program then it’ll be 5.5 million), the commercial lender may decide to lend over 50% of the original project costs. In a case like such, as the project costs continue to rise, the commercial lender may decide to lend higher than 50% in order to maintain the combined value of the loan at 85%. In theory, this will increase the loan to a much higher number such as 20 million. It’s important to note that this type of loan does not require any FF&E reserves, and on top of that the lender is not required to escrow taxes or insurance.
Debt Service Cover Ratio – Your Debt Service Coverage Ratio is determined by dividing your Net Operating Income, before both depreciation and interest, by your annual debt service. The ratio that you are left with should result in 1.25 or above.
Initial Deposit, Amortization, Prepayment – Most of your initial deposit will be used by the commercial trader in order to obtain the necessary third party reports including the appraisal that you need, and the Phase I report. The 2nd loan which is taken out will be fully amortized. This means that it will be amortized for a total of 20 years, then matures for 20 years. However, the commercial loan can be amortized for 15, 20, 35, or 30 years but is not allowed to mature for less than 10 years. While the commercial loan’s prepayment is entirely negotiable and generally takes between 3 and 5 years, the 2nd loan has a declining prepayment of 10 years.
SBA Guarantee Fee and Points – The fees of the Total SBA and CDC vary on a few things, the main being the amount that the loan is for. A good estimate for the 2nd loan is 3%. The points which are assigned are only charged by the first lander and will usually vary depending on the lender. Although, it is generally 1.5 points in which half a point is paid by the loan lender to the SBA. It is up to the lender whether or not they charge you points on the interim loan.
Costs on the First Loan – While there will be smaller additional charges including surveying, legal fees, and external attorneys, even though some are only needed if the lender and hotelier feel necessary, there are many other fees that need to be thought about such as:
- The first loan costs (between 0.5 and 1.0 points)
- Appraisal (Around $5K)
- Phase I Report (Around $2K)
- Lender Processing (Around $4K)
Personal Guarantee and Assumption – The SBA is very strict when it comes to requiring the guarantee from a partner that owns 20% shares of the company or more, which is why if a partner is not willing to offer the full guarantee which is necessary then they must reduce their ownership to under 20%. It is important to make sure that the first loan will be assumable, although the 2nd loan will be assumable but the buyer will need to be qualified in order to assume the loan, otherwise problems will arise.
Benefits of 504 Loans for Hotels
There are many benefits to 504 loans, especially for hotels. These loans consist of:
High Loan to Value – SBA loans tend to offer the best LTV while at the same time offering the lowest equity injection. During the lending process and SBA approval, a portion of the down payment may be taken care off by the seller where the buyer will place between 5% and 10% equity.
Assumption and Transferring Ownership of Companies – SBA 504 loans are assumable and the loan borrowers are able to have their hotel’s buyer assume the loans in order to avoid having a huge prepayment penalty.
FF&E and PIP Costs. A large number of conventional lenders only finance the real estate parts of your hotel business, although the SBA happens to include both the FF&E and PIP/renovation costs.
National Coverage – With the guarantee that SBA offers, our lenders are able to finance hotels in a variety of markets as well as in all 50 states. There is no longer a limit on hoteliers when it comes to choosing which bank should deal with their financing.
SBA 504 Loan Drawbacks
There are a lot of policies and regulations when it comes to SBA 504 loans, which is why previously it was very difficult and lengthy loan to file and process. Nowadays the process is very easy to handle and takes a lot less time.
The 2nd loan of your SBA 504 loan is processed by CDCs and is directly approved by the SBA. It is an incredibly time consuming process and on occasion the CDCs do not have enough staff in order to meet their project deadlines on time. Any inquiries that you have for the CDC to the SBA can take between 20 and 30 days, and the projects themselves can often take between 5 and 6 months if there are any inconveniences or mishaps. Any agreements for hotel franchises must be approved by the SBA for each loan, which can take up to 60 days.
High SBA Guarantee Fee, Owner Operators, and Cash-Outs – The CDC processing and the 2nd loan’s guarantee fee is high and is around 3% of the debenture, which makes this type of loan very expensive. On top of that, SBA loans are only abled for the owners that operate the hotel, which stops corporate investors from taking out these loans.
SBA loan proceeds are only able to be used for borrowing business, and unfortunately these borrowers are unable to cash-out from the hotel’s equity cases including:
- Buying out the other business partners.
- To pay-off debts which aren’t related to or caused by the hotel.
Paying Off Debts Which Aren’t Related to the Hotel – When it comes to paying off debt not caused by the hotel, such as HELOCs and personal credit cards, the debt cannot be paid by the loan unless there is proof that the funds which were paid were used to pay for something specific to the business itself. Although the hotel can be refinanced in order to include Property Improvement Plans, renovations, and remodelling.
Citizenships and Job Requirements
It is required that at least 51% of the hotel’s ownership must be with either a US citizen or a Legal Permanent Resident. Unless at least 51% of the hotel’s ownership is under US citizens, there will be a significant job requirement making this type of loan unsuitable for hotels, considering that hotels tend to have limited staff and don’t necessarily increase their employees by a significant over a short period of time.