This article compares government-guaranteed financing options for rural businesses and explains methods for determining which type of financing is best for your goals.
USDA business loans are known to be an affordable financing solution for many rural businesses. However, to qualify for USDA commercial loans, a business must meet certain requirements that could make it difficult and sometimes more expensive to leverage a USDA loan over an SBA loan.
If USDA business loans are not a fit for your business, an SBA loan could be a comparable, affordable financing solution. Learn more about how to determine which is the best for your business.
What is a USDA Business Loan?
A USDA business loan is a commercial loan that’s guaranteed by the United States Department of Agriculture (USDA). This essentially means that the USDA will absorb a majority of the risk of the loan for qualified rural business owners so that banks can offer more attractive, business friendly terms. By doing so, the USDA supports more entrepreneurs with access to funding to grow their business, support economic growth, and create more opportunities throughout their industries.
There are different USDA loan programs for different types of businesses. USDA programs offer options for general business loans, as well as industry-specific loans for renewable energy, food supply, agriculture, and more. We see USDA business loans most often utilized for large-scale, long-term development projects with the majority of the funds dedicated to real estate or large equipment financing.
What is an SBA Loan?
SBA loans are similar to USDA loans in the sense that SBA loans are also guaranteed by the government. The Small Business Administration (SBA) guarantees a percentage of the loan amount for qualified borrowers to help them access competitive bank financing even if they do not qualify for conventional loans.
Unlike most USDA loan programs, your business does not have to be in a rural area to qualify for an SBA loan. Additionally, SBA loans have different financial requirements than USDA loans that may make them a more efficient option for younger businesses seeking working capital or business acquisition financing to power their growth. SBA loans are also a good option for businesses that might otherwise qualify for a USDA business loan, but the overall financing need is lower. For reference, the average USDA Business & Industry loan size from 2019-2021 was $4.3 million whereas the average SBA 7(a) loan size during the same period was $563,190 (SBA Atlas).
USDA B&I Loan vs.
SBA 7(a) Loan
USDA business loans and SBA loan programs operate independently of each other, but both agencies are equipped with multiple government-guaranteed programs. Meaning, you could access attractive financing terms if you qualify to be used for many of the same things.
However, depending on your goals and financials, the deal structure available through one program may make it a better option for your business.
The key factors that help define which program is best for your business are:
- Loan Amount
- Available Collateral
- Equity Investment
- How You Plan to Use the Funds
Why Consider SBA Loans Over USDA Loans
Both USDA business loans and SBA loans offer similar benefits to entrepreneurs that are financing business expansions:
- Extended Repayment Terms: Dispersing your monthly payments over a longer repayment term can facilitate healthier cash flow and more power for continual growth. Your loan term will be dependent on how you choose to use the funds, and in some cases collateral, ranging from a minimum of 7-10 years for working capital and a maximum of 30 years for real estate purchases.
- Flexible Use of Proceeds: Both loan programs allow business owners a unique level of flexibility in how they choose to use the funds, from real estate purchases to equipment financing, hiring, working capital, and debt refinancing.
- Entrepreneur-Friendly Eligibility: Government guaranteed loans like these were created to support entrepreneurs with more options outside of just conventional financing programs. If conventional business loans aren’t a good fit for your business, you could qualify for competitive financing under either a USDA loan or an SBA loan.
One rule of thumb to know: If you’re purchasing real estate or equipment using a loan of $3 million or more, and you qualify for the USDA programs based on location, equity injection, and collateral sufficiency, then the USDA loan could be the better option. If you are seeking a loan of less than $3 million dollars and/or are using the proceeds for mainly working capital, the SBA loan might be better to consider. Here’s why…
SBA Loan Pros: Longer Repayment Terms for Working Capital, Less Money Down, and Cheaper Closing Costs
You can use SBA loans and USDA loans for similar purposes, however, the differences in the loan programs’ terms may make the SBA loan the better option for your business. These are three primary benefits to leveraging an SBA loan over a USDA loan in this scenario:
Longer Repayment Terms for Working Capital
If you’re purchasing property with your loan, you may be eligible for the longest term available under either program, which can range from 25-40 years. However, if you are seeking working capital the SBA loan term will likely be longer than the USDA loan.
USDA loans offer up to a 7-year term for working capital. SBA loans are up to 10-years for working capital. The additional 3 years to your repayment term can have a significant impact on your monthly liquidity and cash flow.
Typically Less Money Down
The USDA requires businesses to meet certain equity thresholds from 10-25%, dependent upon number of years in business, of the total loan project costs to qualify for USDA financing.
Existing businesses (operating for 2+ years) could qualify for SBA expansion financing with as little as 0% down. However, as a general rule of thumb, the typical equity injection for SBA loans is approximately 10%. You can often attribute any large scale, significant purchases or recent investments you’ve made into your business into this figure.
Cheaper Closing Costs
The USDA loan typically requires a feasibility study of the borrowing entity. This is a program requirement that lenders must follow. Typically, if you are financing a loan in excess of $3 million, the cost of the study could be worth the loan’s benefits. However, if you are seeking a lower amount, the USDA route could be cost prohibitive due to the feasibility study, as well as other legal, appraisal, environmental review and guarantee fees paid by the borrower.
SBA Loan Cons: Personal Guarantee, Application Process, Funding Timeline
If the SBA loan sounds like it may be the better option for your financing, there are still a few hurdles to keep in mind, such as:
The SBA requires that all business owners with more than 20% ownership to personally guarantee their own loan, which typically includes personal property and residences.
The SBA loan application process is a document heavy process that can be overwhelming without the right preparation. Plan to dedicate time to your application, loan underwriting, and closing process to keep your application moving efficiently. You can get started by reading our best tips for the SBA 7(a) application here.
Personal Credit Scores
While the SBA does not set a specific threshold, the Agency states lenders must have “reasonable standards”. In most cases, experienced SBA lending institutions will require anywhere from a 660 to 680 personal credit score minimum for all partners with 20%+ ownership in the borrowing entity.
Should I Use a USDA Business Loan or an SBA Loan for My Business?
Ask these questions to determine if an SBA loan would be a better fit for your business instead of a USDA business loan.
- Where is the project located?
Most of the USDA business loan programs require businesses to be in an officially recognized rural area of 50,000 inhabitants or less. If your project is not in a rural location, you can go ahead and rule out most USDA business loans and begin focusing on SBA options.
Not sure if your project counts as a rural location? Check your business designation here.
- How much do you need?
It is rare that our bankers would suggest the USDA business loan over the SBA loan for a business seeking less than $3 million in financing. There are sometimes exceptions, however, the USDA required feasibility study is often cost prohibitive to businesses with this financing need. In this case, an SBA loan may be a more efficient option.
- How much equity do you have to invest?
Businesses are required to make an equity injection of approximately 10-25% of their loan in order to obtain a USDA loan. If you’ve been in business for over 2 years that figure may be closer to 10%, but it’s often still higher than the typical SBA equity injection.
SBA loan equity injection requirements typically range from 0-10% depending on the age of the business and its financial history. The equity injection can take the form of recent investments into the business, large equipment purchases, cash at the closing table, or a combination of all three.
Try to estimate how much you’ve invested or plan to invest in your business. If you’ve been in business for less than 2 years and an equity injection of 20%-25% would place a burden on your ability to grow, you may want to consider the SBA loan.
- How will you use the loan proceeds? Are you buying real estate?
While you can use the loan proceeds from both loan programs to accomplish similar goals, you may secure longer terms for real estate purchases under the USDA loan. Assuming you qualify in every other regard and your real estate can be used to secure the loan, it might be better to leverage the USDA loan. This loan would give you a 30-year term for real estate compared to the SBA’s maximum term of 25 years for real estate.
If you’re seeking a loan for working capital, it’s might make more sense to leverage an SBA loan. This loan program offers up to 10-year terms compared to the USDA’s maximum of 7-year terms for working capital loans.
It’s important to note that there is no one size fits all financing solution. In addition, SBA and USDA loan programs can be used in combination in certain cases assuming the business and financing request(s) are eligible under each of the programs.
Ultimately, the right financing is the one that gets you the resources you need on the right terms to accomplish your long-term goals. Before working with each business owner, we take the time to examine your unique goals, timeline, and financials to point you towards our recommended program for you and your industry.
As your experienced lender, our goal is to craft a creative financing solution that helps you reach your goals, improve your financial health, and grow into your full business potential.
Ready to Finance Your Business?
Get Started at West Town Bank & Trust
About West Town Bank & Trust | West Town Bank & Trust is proud to serve small business owners and entrepreneurs, helping them access affordable capital and financial services when they need it most. Since 1922, we’ve been creating long-lasting relationships with our customers based on old-fashioned values and future-thinking ideas. We’re guided by trust, respect, and honesty, and we’re driven by “what’s next”. Whether solutions come from surprisingly innovative tools or trusted products you’re familiar with, our single-focused purpose is your financial well-being. We don’t just think outside the box, we think outside of the bank, so you can feel unquestionably confident banking with us.
West Town Bank & Trust is chartered in North Riverside, Illinois, and retains its operations in Raleigh, North Carolina.