M&A Financing

M&A Financing: Funding Merger and Acquisitions with SBA Loans

Read Time: 7 minutes

Summary: Mergers and acquisitions surged in 2024-2025, driven by easing interest rates and increased financing availability. U.S. activity dominated, accounting for 54% of deals. Billions of dollars worth of M&A loans, including SBA 7a and 504 programs, provide essential funding for acquisitions, covering purchase costs, working capital, and integration. Buyers need a strong credit score of 700+, collateral and business plans. Financing blends debt and equity, enabling growth while balancing risk and repayment.

Mergers & Acquisition Funding

Mergers and acquisitions are surging back as economic conditions improve. In 2024, global M&A deal value rebounded to about $3.4 trillion, a 12% increase from 2023. The United States alone accounted for roughly 54% of global M&A activity by value in 2024. Rising stock markets and easing interest rates have boosted dealmaking confidence. The U.S. Federal Reserve cut rates by 100 basis points in late 2024, which, along with other central banks’ cuts, helped fuel the new M&A increases.

Financing availability has been a key driver of this M&A uptick. Corporate debt markets reopened in 2024 as high-yield bond issuance jumped 74% to $388 billion, and leveraged loan volume more than doubled to $770 billion. This greater capital availability provided crucial flow for M&A deals despite earlier headwinds like inflation and regulatory uncertainty. Overall, deal sizes have grown from an average global deal value of $443 million, and CEOs are regaining confidence. Nearly 59% of optimistic CEOs plan to pursue an acquisition in the next year, and this includes many small businesses as well.

Overall, the M&A market is active and competitive. With trillions in transaction value, strong sectors like tech, healthcare, and finance leading the way and credit is flowing again. Small business owners are increasingly exploring M&A financing options to capitalize on growth opportunities.

What Is an M&A Loan?

An M&A loan which is also known as an acquisition loan, business acquisition loan or even a merger loan – is a business loan used specifically to buy another company. In other words, it’s financing for mergers and acquisitions. The loan provides the buyer with the capital to purchase the target business, which typically includes buying out the previous owners.

These loans come in various forms like term loans, lines of credit, etc., but are used for funding an acquisition. Both banks and non-bank lenders offer M&A financing. Many banks have dedicated acquisition financing programs, and there are also great government-backed options like SBA loans and private financing sources. An SBA acquisition loan can cover a large portion of the purchase price, as much as 90%, with the buyer contributing the rest as a down payment.

The acquiring company or entrepreneur borrows money to pay the seller of the business being acquired. The loan is then repaid over time often using the cash flows of the acquired business. Lenders often structure these deals based on the target’s cash flow or assets, and may layer multiple loan types to fund the full purchase price. Essentially, a business acquisition loan provides upfront capital for a business purchase, which the buyer pays back with interest, ideally from the combined company’s future earnings.

Because M&A loans are tailored to business purchases, lenders will closely evaluate the value and performance of the target business as well as the buyer’s credentials. Different lenders will have different risk appetites. Banks tend to offer lower rates but require strong credit and collateral. Specialized finance companies or mezzanine lenders may finance riskier acquisitions at much higher interest rates. Regardless of type, any M&A financing must ultimately make sense for all parties, providing the buyer the needed funds while giving the lender confidence the loan will be repaid through the success of the merged entity.

How M&A Financing Works

M&A financing works much like other business financing, but with some unique considerations. Here’s an overview of how it works, including types of financing, uses, eligibility, and approval factors:

• Types of financing: M&A deals can be funded through debt, equity, or a combination. Common debt options include term loans, lines of credit, and asset-based loans dedicated to the acquisition. Equity financing involves raising investment rather than borrowing, often used when debt alone isn’t sufficient or to lower leverage. Many acquisitions use a blend of options like the buyer invests some equity and finances the rest with an SBA acquisition loan.
• Uses of funds: Acquisition financing isn’t just for the purchase price. Loan proceeds can cover buying the business itself and related costs. Often M&A loans also provide funds for working capital, integration expenses, new equipment, or refinancing existing debt. This ensures the acquired business has sufficient liquidity to run post-acquisition. As an example, an SBA acquisition loan might finance the buyout and also include extra working capital to smooth the transition. M&A funding can be used to buy the company and then set it up for success afterward.
• Eligibility: Qualifying for a business acquisition loan can be challenging. Lenders typically look at both the buyer and the target business. Common requirements include a solid personal credit score of 720+, a down payment or equity injection usually 10–20% of the purchase price. Strong business financials from the target like consistent revenue, profitability, and cash flow are also needed. Lenders also favor buyers with relevant industry experience in the business they’re acquiring. This means experience running a similar company gives confidence that the new owner can maintain and grow the business. Additionally, both the buyer and target should be in good standing with no recent bankruptcies or disqualifying legal issues, and the target business should meet any size or eligibility rules if using programs like SBA loans.
• Approval factors: Beyond basic eligibility, lenders evaluate overall strength of the credit request and business being purchased. Key approval factors include the cash flow coverage which means that the acquired business’s earnings comfortably cover loan payments. Also needed is that the value of collateral assets of the business or personal assets can secure the loan. The purpose of the acquisition matters too – whether it’s expansion, entering a new market, or buying out a competitor. If the numbers show that the combined business will generate strong cash flow and the buyer has a solid plan, the chances of approval are much higher. Conversely, deals that are highly leveraged with too much debt will face tougher scrutiny.
• Application process: The process starts with the buyer preparing a detailed loan application and acquisition plan. You’ll typically need to submit several years of financial records and a business plan or acquisition plan outlining how you will operate the business. Lenders also require a formal valuation or purchase agreement. The timeline can vary significantly and SBA loans typically take 30-90 days from application to funding, depending on the complexity of the transaction. During underwriting, expect lots of questions and due diligence as lenders will analyze the deal from all angles. It’s best to have all documentation organized to avoid delays and this includes personal financial statements, detailed schedules of the target’s assets and debts, legal documents and anything else the lender requests.

SBA Loans for M&A

One of the most popular ways to finance a small business acquisition in the U.S. is through SBA loans. The U.S. Small Business Administration (SBA) offers loan programs that encourage banks to lend to small businesses by partially guaranteeing the loans. For mergers and acquisitions, the SBA’s 7a loan program is especially relevant, and the 504 loan program can play a role when real estate or heavy equipment is involved. Let’s explain how SBA 7a and SBA 504 loans work with how to apply, qualifications, and documentation for an M&A loan.

SBA 7a Loans

The SBA 7a is the flagship SBA loan program and is frequently used to buy existing businesses. A 7a loan can provide up to $5 million in financing for eligible small business purposes, including acquisitions. Key features of 7a loans for M&A include:

• Loan size: Up to $5,000,000, depending on the deal and lender’s approval.
• Term lengths: Up to 10 years repayment term for business acquisitions, and up to 25 years if real estate is included. A 10-year term means lower monthly payments versus typical bank loans which might be 5-year terms.
• Interest rates: Rates are usually variable and tied to Prime plus a percentage referred to as basis points. For example, an SBA 7a loan’s rate might be WSJ Prime + 2.75%. Even though the rate may be slightly higher than some conventional loans, the longer terms often make the monthly payment more affordable.
• Use of proceeds: 7a funds can be used to purchase a business and can also cover related costs like partner buyouts, franchise purchases, or expansion through acquisition. Additionally, the 7a allows financing of working capital, equipment, or real estate as part of the acquisition, which adds flexibility. Essentially, if it’s needed to grow the business, a 7a loan can probably fund it.
• Down payment: While SBA loans enable lower down payments than most conventional loans, the borrower still needs to inject some equity. Typically, banks require a minimum of 10% and sometimes up to 20% down for a business acquisition with a 7a loan. However, the down payment can sometimes be supplemented by seller financing or other subordinated debt.
• Collateral and guarantees: The SBA requires that the loan be fully secured if possible, meaning the lender will take collateral in available business assets. Most SBA 7a loans also require a personal guarantee from the owners with 20% or more ownership. Partners with less than 20% ownership may be asked to provide a personal guarantee depending on the strength of the deal.

SBA 504 Loans

The SBA 504 loan program is designed for major fixed assets, primarily commercial real estate or large equipment, and is structured differently. A 504 loan involves two lenders: a Certified Development Company (CDC) and a bank. In most SBA 504 loans, a bank or non-bank lender covers a minimum of 50% of the project, the CDC finances up to 40% with SBA backing, and the borrower provides the final 10% as an equity injection (50-40-10 split). For M&A purposes, 504 loans are most useful if the acquisition includes significant real estate or expensive equipment. For example, if you are buying a manufacturing business that owns a factory, you might use a 504 loan for the building/machinery and a 7a or other loan for the business goodwill.

Some deal points on 504 loans:

• Loan size: The CDC portion can go up to around $5 million (or $5.5M for certain projects) per borrower. With the bank portion, total project financing can be much larger. In practical terms, 504 loans excel at financing projects like buying the business’s building.
• Terms and rates: 504 loans provide long-term, fixed-rate financing for assets. The CDC portion often carries a fixed interest rate for 20 or 25 years for real estate or 10 years for equipment. These rates are usually very competitive because the loans are backed by the SBA, whereas the bank portion may be variable or fixed.
• Use of proceeds: Limited to fixed assets that promote business growth. You can use 504 to buy land, purchase or renovate buildings, or buy heavy equipment. You cannot use 504 funds for working capital, inventory, or goodwill. Therefore, business acquisition where the value is mostly in customer lists, brand, etc., wouldn’t qualify for 504, as it does not have large fixed assets. But if the deal includes property, a 504 can finance the real estate while a 7a or seller note covers the intangible part.
• Down payment: Usually 10% from the borrower, but can be 15% or 20% if the business is a startup or the property is special-use. Still, this low down payment is attractive for buyers who might otherwise need 25-30% down with conventional financing.
• Overall, SBA 504 loans are a powerful tool for financing the real estate or equipment portion of an acquisition, while SBA 7a is the go-to for financing the business itself. Often, they can be combined: e.g., a buyer uses a 504 loan to buy the building and a 7a loan for the business assets.

How to Apply for an SBA Loan for M&A or a Business Acquisition

The application process for an SBA loan is more involved than a standard bank loan, but the steps are still straightforward.

1. Find an SBA lender: Find an SBA-approved lender like First Bank of the Lake. You will apply for an SBA loan through the lender, not directly to the SBA.
2. Submit a loan application & documents: You’ll need to provide extensive documentation. This includes financial statements and tax returns, business plan or purchase agreement for the acquisition, pro forma financial projections for the combined business, details on collateral, and personal information. SBA loans also require forms like a personal financial statement and a debt schedule, among others. Be prepared to show how the business sale price was determined as lenders may require a third-party business valuation for acquisitions to ensure the loan amount is reasonable relative to the business value.
3. Credit underwriting: The bank and SBA will evaluate the application against program guidelines. Eligibility checks include making sure the business is small by SBA standards, and is for-profit and U.S.-based, and that the buyer is a U.S. citizen or legal resident. They’ll also ensure you’re not using the loan for an ineligible purpose. The lender’s credit committee will look at cash flow, credit scores, equity injection, collateral and decide whether to approve. Because the SBA guarantee reduces their risk, lenders might be a bit more flexible on collateral or credit score than for a conventional loan – but you still must show a viable deal.
4. Loan approval and closing: If approved by the lender, you’ll receive a commitment outlining the loan terms. Then comes closing, where you sign the loan agreement, personal guarantee, security agreements for collateral, etc. The loan funds will typically be disbursed directly to the seller as payment for the business purchase at closing. SBA loans often take a bit longer to close because of the paperwork, and it’s not unusual for the process to take 60–90 days from application to funding.

Qualifications and Requirements

To qualify for an SBA acquisition loan, the buyer and the target business must meet key requirements:

1. The target must be a small business under SBA size standards (varies by industry, but generally under 500 employees or under a certain revenue threshold).
2. The Loans | U.S. Small Business Administration, located in the U.S. SBA loans can’t fund purely speculative or investment ventures.
3. The buyer should have a good credit score of 700+, and no recent bankruptcies or delinquencies. They must also be personally able to guarantee the loan.
4. Adequate down payment: As noted, around 10%-20% of the purchase price typically from the buyer’s own funds.
5. The business financials should show it can support the debt. SBA lenders usually look for a Debt Service Coverage Ratio (DSCR) above 1.25 – meaning the business’s annual net income should be at least 1.25 times the annual loan payments. If the DSCR is too low, the loan amount might be reduced or denied.
6. Management experience: While not an official requirement, it helps if the buyer has experience in the industry or in running a business. Some lenders may require a resume or ask about your operational plan to ensure you can handle the new business.
7. For 7a, the lender must document that the buyer can’t get equivalent credit elsewhere on reasonable terms.
8. Collateral: SBA loans over certain amounts often require the lender to secure available collateral via business assets, possibly personal real estate equity. Lack of collateral won’t automatically disqualify you if the cash flow is strong, but all owners with 20%+ stake must sign a personal guarantee regardless.
9. Franchise or special cases: If the business is a franchise, it must be on the SBA approved registry. If it’s a partner buyout, the remaining owner must assume 100% ownership after the loan (SBA typically doesn’t finance partial buy-ins unless it leads to full ownership).

M&A Financing FAQ

Below are answers to common questions business owners have about merger and acquisition financing:

1. What is M&A financing?

M&A financing refers to the funding used to purchase another company. It’s the capital that a buyer arranges through loans, investor equity, or other means, in order to pay for a merger or acquisition. It’s how the buyer gets the money to buy the target business.

2. How can I finance an acquisition?

You can finance a business acquisition with debt, equity, or a combination. Options include bank loans or a business acquisition loan, SBA loans, seller financing, raising investor funds, or using the acquiring company’s cash. Most deals use multiple funding sources.

3. How much can I borrow for a business acquisition?

The amount you can borrow depends on the deal and your finances. Banks will lend based on the target’s cash flow and collateral. SBA 7a loans go up to $5 million for acquisitions, while other lenders might finance larger amounts if the business supports it. Essentially, you can borrow as much as the company’s earnings can reasonably repay.

4. How much down payment is required for an SBA acquisition loan?

Most lenders expect the buyer to put in 10% to 30% of the purchase price as equity or a down payment. For SBA loans, around 10% down is common, depending on the strength of the transaction. The rest of the price can be financed by the loan. In some cases, seller financing can reduce the cash you need upfront.

5. Can I use an SBA loan to buy a business?

Yes. SBA 7a loans are a popular way to finance buying a business. They offer long 10-year terms and relatively low down payments, which are great for acquisitions. You still apply through a bank. If the business is small and meets SBA criteria, an SBA loan is often the best option for M&A funding. As an example, an SBA acquisition loan can cover up to 90% of the purchase price.

6. What credit score do I need for an SBA M&A loan?

Generally, you’ll want good credit – roughly a 720+ personal credit score is a common benchmark. A score of 720 or above puts you in a strong position. Some lenders or SBA loans might work with slightly lower scores if other aspects like cash flow and collateral are very strong, but prime credit greatly improves your approval odds and terms.

7. Do I need collateral for an SBA acquisition loan?

Usually yes. Lenders typically secure the loan with the assets of the business being acquired (equipment, inventory, etc.) and often require a personal guarantee. If the business assets aren’t sufficient, lenders may ask for additional collateral like personal real estate. Expect to pledge business assets and possibly sign a lien on personal assets for a large acquisition loan.

8. How long does it take to secure M&A financing?

It varies by financing type. A bank or SBA loan for an acquisition might take 1-3 months from application to funding for due diligence, appraisals, etc. Online lenders or alternative financiers can sometimes fund smaller business acquisition loans in a few weeks or even days with much higher interest rates. It’s wise to allow a few months buffer in your deal timeline for financing to come through, especially with SBA or more complex deals.

9. What interest rates can I expect on an M&A loan?

Interest rates will depend on the type of financing, the lender and current market rates. SBA 7a loans are often Prime + 2-2.75%, which today is around 9-10% APR. Conventional bank loans might be slightly lower for very qualified borrowers. If using mezzanine financing or unsecured loans, rates could be higher.

10. What is seller financing in an acquisition?

Seller financing is when the seller gives the buyer a loan as part of the deal. The buyer pays a portion of the price at closing and issues a note to the seller for the rest. The buyer then pays the seller in installments post-sale with interest. It’s basically the seller “financing” part of the purchase price for you. This reduces the amount you need from a bank. Seller financing is common in small business sales to bridge funding gaps and show the seller’s confidence in the business.

11. What is an earnout in M&A?

An earnout is a contingent payment arrangement. The buyer pays part of the price upfront, and additional payments are made only if the acquired business meets certain performance goals after closing. For example, the seller may “earn” an extra payment if revenue hits a target next year. Earnouts help when buyer and seller disagree on the business’s future – it ties part of the price to actual future results. It effectively finances a portion of the deal with future earnings since the buyer only pays that part if the business performs well.

12. Which is better for acquisition financing: debt or equity?

Neither is universally “better” as it depends on your situation. Debt financing lets you retain full ownership and can be cheaper if the interest rate is low, but it adds fixed repayment obligations. Equity financing means no immediate payments and less risk of default, but you give up ownership and a share of future profits. Most acquisitions use a mix of financing like debt for cost-effectiveness and equity to ensure the debt isn’t too high to manage. The goal is to use debt up to a level the business can comfortably support, and use equity for the rest to keep finances balanced.

Moving Forward with an M&A Loan with First Bank of the Lake

It’s a thorough process, but the benefit is a loan with excellent terms for buying your business. Many small business owners use SBA 7a loans to acquire companies because of the lower down payment and longer repayment period. For example, a conventional loan might only offer a 5-year term, whereas a 7a loan gives 10 years, nearly halving the monthly payment. This preserves cash flow in the crucial early years of ownership.

Start the SBA loan process early. Engage with an SBA lender like First Bank of the Lake even before you sign a purchase agreement. We can pre-qualify you and the target business, which strengthens your position when making an offer. Also, be prepared for some back-and-forth as it’s normal for SBA underwriting to ask for additional info. Patience and organization are key, but in the end, an SBA loan can be one of the most cost-effective M&A financing options for small businesses, with interest rates often in single digits and payment terms that won’t strangle your new venture.

The friendly financial experts at First Bank of the Lake offer SBA loans designed with the needs of our customers in mind. We financed more than $600 million in SBA loans over the past 12 months and are ranked as the 15th largest SBA lender in the United States in 2024. Since our founding in October 1985, we have offered outstanding customer service and the best financial options for their needs. Today, First Bank of the Lake offers loans for business enterprises across the United States. To learn more about our bank or about SBA loans, visit our website or check us out on Facebook or LinkedIn. Our friendly and knowledgeable staff members will be happy to discuss your loan options with you and to help you achieve the highest degree of success in your chosen industry. Please contact us at (888) 828-5689 to get your business loan questions answered today!