Benefits of the 504 Loan
The 504 Loan program offers borrowers a fixed rate for 10 or 20 years, with lower fees than the 7(a) program, and often a lower down payment of 10%. Additionally, fees on the 7(a) loans tend to rise with the project size. For example, the guarantee fee for a loan over $700,000 is 3.5% for a project up to $1 million. When the project exceeds $1 million the rate jumps to 3.75%. However with the 504 loan, the fees involved stay flat as a percentage when the loan amount increases. On a $1,250,000 commercial real estate project the fees for a 7(a) loan can top $36,000, while the fees for a 504 loan are just over $22,000.
In regards to interest rates, the 7(a) loan typically has a variable rate. While such rates are historically low now, they are currently rising and will continue to do so making it a more expensive proposition. Some banks do offer fixed 7(a) interest rates for 20 to 25 years. However, they also make money by selling off the guarantied portion of the 7(a) loan on the secondary market at a premium depending upon how the deal is structured for as much as 10 to 16% of the guaranty. The premiums that the lenders receive when they sell the loan are higher for variable rates, and for longer term loans with prepayment penalties.
In addition, the 7(a) loan program has the “All Collateral Available Test.” This is where a small business borrower typically has to pledge all collateral available, including their personal residence to secure the loan. This test does not exists with a 504 loan.
After weighing all the facts, financing real estate with a 504 loan or a 7(a) loan isn’t even a contest. The 504 loan is clearly safer and better for the borrower’s bottom line and can be an important tool for small business growth.
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