Why Use Seller Financing to Buy a Business
5 Questions to consider when buying a business through seller financing:
What is The Meaning of Seller Financing?
How Does Seller Financing Work?
What are The Benefits for Buyers?
What are The Benefits for Sellers?
Is Seller Financing Safe?
In 2018, the number of businesses bought and sold passed the 10,000 marks.
If you're looking for a business to buy you have several options.
One of those options is using seller financing to buy a business. It means that even if you don't have enough money to pay the full price upfront, you can still buy the business you want.
Read on as we take a look at the ins and outs of using seller financing.
What Is Seller Financing?
Put simply, seller financing is when there seller finances some of the cost of buying the business.
It's a bit like the buyer taking out a loan to fund part of the purchase, but the loan is from the seller rather than a financial institution. In effect, the seller is loaning the buyer some of the money to buy the business and will receive this money back with interest over an agreed period.
How Does It Work?
First, both parties have to agree to use seller financing for a portion of the sale of the business.
The buyer will usually have to provide financial information to the seller to prove that they can afford the loan repayments. The seller may also ask to see evidence that the buyer has the business experience to keep the business afloat while paying down the loan. This could be in the form of a business plan.
The seller will probably also look at the buyer's credit history. If any of the information provided gives the seller cause for concern, they are within their rights to refuse the sale. This is similar to the process that you would go through when taking out a loan with a bank, for example.
Once the seller approves the buyer, a contract will be drawn up laying out the amount of the loan, the interest rate, the repayment schedule, and any collateral requirements. It is also very likely that there will be a clause stating that if the buyer does not keep up repayments on the loan, they will forfeit ownership of the business.
Benefits for the Buyer
The most obvious benefit for the buyer is that it allows them to buy a business without needing to have the full asking price available to pay upfront.
With less money paid out upfront, and manageable monthly payments, this gives the new business owner more leeway with their cash flow which can then be used to help the business grow. In addition, seller financing usually leads to a quicker sale as there are fewer hoops to jump through than there are with the banks.
It may also be the case that a buyer is more likely to get financing by this method, as sellers may not have such strict financial requirements as financial institutions do. Sellers may offer more favorable rates of interest than the banks can offer, too.
Also, the seller has a vested interest in seeing the business succeed so that they receive all of the money and interest that they are owed. This means that are more likely to be open to offering advice and guidance to the new owner about how to help the business grow.
Benefits for the Seller
This all sounds great for the buyer, but why would a seller want to lend someone money to buy their own business?
Well, for a start, it opens you up to far more buyers. Buyers who may have the perfect experience to make your business success may not meet the requirements for a bank loan. Offering seller financing gives you a much wider choice of buyers so that you can find the right fit.
Another major benefit is that you're taking an interest in the amount that you lend. That means that your money is going to work for you. You may also be able to sell at a higher price and much more quickly than you could otherwise.
There are also tax benefits. Instead of paying tax on the full sale price of your business, your gains become incremental allowing you to spread your tax burden out over a much longer period.
Is Seller Financing Safe?
There are risks involved in seller financing, but the vast majority of these are on the side of the seller.
The biggest risk is that the buyer is unable to keep up repayments on the loan. The seller must then begin the process of taking back ownership of their business or trying to recover any outstanding payments. It may be the case that the business you repossess is no longer worth as much as when you sold it.
The seller also receives less money upfront, so if they are thinking of investing in another business, they have less capital with which to do so.
On the whole, however, the process is a good deal for both sides. Provided that the legal documentation is drawn up correctly, and the seller is diligent in choosing the right buyer, seller financing can benefit everyone.
Are You Thinking of Using Seller Financing to Buy a Business?
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