Small Business Guide to SBA Loan Default

  • Do your homework to find out what your options are
  • Gather as much data as you can
  • Work with the SBA on a settlement

Running a business can be tough ⁠– it doesn’t always work out the way we planned. This can leave us worrying about paying back those pesky business loans. This guide is crafted to help anyone who:

I’m Jason Milleisen, the founder of Distressed Loan Advisors. As an SBA default expert, I use my wealth of professional experience to negotiate settlements. This is thanks to my stint as a workout officer for the largest SBA in the U.S., followed by the past 10 years of working directly with borrowers as a consultant, I’ve learned a lot I can share. 

If you’re looking to cross a bridge (or perhaps a gauntlet would be more appropriate), you have to start somewhere. This means taking that crucial first step of admitting to yourself that failure (and the resulting default) is a real possibility. Where do you get started when you’ve defaulted on your SBA loan? How do you get from zero to one?

Take a look in the mirror

While it may be emotional to have your SBA loan hanging over you, consider your options wisely. Before the SBA will even sniff at a settlement, they need to know you’ve already done everything in your power to pay off your loan in full.

Your loan is likely secured by your business assets. If the collective value of these business assets will cover the loan, you’ll need to sell them to repay the full amount. If you’re lucky, you might not have to sell everything, and your business can still continue to operate on bare-bones resources. The reality, however, is that in most situations, the business folds.

In the vast majority of situations, selling the business assets won’t cover the full loan. You’ll need to close your business as well as selling off the assets. 

In both cases, you’ll need to contact your bank before selling anything to get written approval to sell the assets. If you skip this crucial step, it could be disastrous. Your lender has a lien on all the business assets, and they won’t be willing to release them if you sell the assets for less than the bank values them at.

Examine your settlement options

While you may be struggling to pay your SBA loan back, that doesn’t automatically mean you get approved for settlement. In fact, a huge number of Offers in Compromise are rejected. This can be for several reasons, so making sure you’re eligible will save you a lot of time. To be eligible for an SBA loan settlement:

What is an Offer in Compromise?

Also known as an OIC, an Offer in Compromise is a proposal sent by the borrower to settle the debt at a reduced amount. To support this proposed settlement offer, you’ll need to provide full disclosure on your personal finances (some banks require business financials, although the SBA doesn’t typically require them). 

This settlement offer is first sent to your lender, who will recommend it to the SBA if they deem the offer to be acceptable. Then, it’s up to the SBA to approve or reject your proposal. Either way, both your lender and the SBA have to agree to your terms for the settlement (unless the file has been referred to the SBA, in which case it only needs SBA approval).

Having worked with many different clients, I’ve negotiated deals for all kinds of situations. Mostly, the same issues arise across the board, causing the settlement process to slow down or the proposal to be rejected. Here’s how to address these pain points to set you on the right track from the start.

Meet your financial difficulties head-on

Can’t make ends meet? Struggling to pay off debts? Scared they’ll come for your business and home? Sticking your head in the sand won’t help.

If you want to get out of the rut you’re stuck in, you need to take the necessary steps forward. Ignoring bank phone calls or ignoring lenders’ letters won’t stop them from coming. You’re better off calling the bank directly to ask how you can cooperate, otherwise you’re inviting litigation. Having a lender who feels like you’ve handled the situation openly and honestly could generate a nudge toward a “yes” when the lender is on the fence about your OIC.

Be thoughtful and prepared

If you want to settle, you need to balance the SBA’s requirements, with the reality of your personal finances. Lenders are typically interested in the low hanging fruit: this means funds sitting in a checking or investment account, or in real estate (especially any pledged real estate), so it’s important to consider how, where and when you’ll be able to raise any capital you plan to include in your offer.

Arm yourself with enough information to understand the process, and specifically what order each step goes in. It’s a good idea to lay out a plan for yourself. Consider how you’ll close your business. How and where will you sell your assets? What other avenues do you have for funding (such as family and friends) if you lack the assets or income to fund the loan yourself? 

Get permission first

Before selling any business assets to drum up cash to settle your loan, you must ask for permission from your lender. While this may seem to slow down the process, banks and lenders don’t like the idea of you selling their collateral without their knowledge. They want to know how much you are selling it for (to ensure you didn’t give it away), and want to ensure that every single penny goes in their pocket, not yours.

A common point of confusion around the liquidation of business assets is getting “credit” for the sale. Proceeds from the sale of business assets must be applied to the principal balance of your loan. The proceeds cannot be used to fund your settlement. Any funds that are going to fund your OIC must come from personal reserves. Business assets (including cash in the business account) are part of the collateral package.

Start digging for buried treasure

To get your offer taken seriously, you need to show them what you’ve got (i.e. full disclosure), and that you’ve done everything to gather as much as possible. Defaulting on an SBA loan and subsequently pursuing an OIC is much like an invasive medical procedure. Stressful? Yes. Uncomfortable? Very. Necessary for a positive outcome? You betcha.

Don’t have enough in your own piggy bank? Try turning to friends and family to borrow capital. Look to refinancing your house, taking on extra credit cards or dipping into an overdraft. While these suggestions are far from ideal, neither is dealing with the Treasury after they add a 28% penalty to your loan balance.

Be completely honest

The SBA Offer In Compromise (OIC) process requires full disclosure. This means being completely honest about the funds and assets that you have. If you’re not, and the SBA or your lender finds out you have hidden assets (there are several ways), your offer will be rejected. Here’s a quick rundown of what needs to be included:

  • Life insurance policies (cash surrender value is a common target)

  • Real estate owned by you or your spouse, both commercial and residential

  • Valuable personal property – home, gold, gemstones, antiques, artwork, valuable collections, pricey electronics, expensive furniture.  They don’t want your couch or your 1981 Toyota, but if you are living an extravagant lifestyle with expensive possessions (like a luxury boat), be prepared to part with them.

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Shut your doors and sell off what you’ve got

There are three ways to liquidate assets from your business. The method you pick may rely on your industry contacts, the time you have, and the value tied up. Consider these three options and pick a plan of action that suits you:

Sell as a “Going Concern”

Like selling a used car, it’s possible to sell your business as a whole, with the idea that the buyer might carry on trading. The idea behind this is that there is greater value in the business as a complete entity than in the parts separately.

Unlike selling a used car, however, your business currently doesn’t work. That means that when you’re scoping out a buyer for your business as a ‘Going Concern,’ you’ll likely be selling the business for less than what you owe. It’s basically like a short sale on a house.

Sell for parts

If nobody wants to take over your downtrodden business, you need to look at selling off the individual parts of the system. Look at the valuable assets within the company, such as industrial equipment, real estate, vehicles and high-tech electronics.

Consider using eBay, Facebook Marketplace, or Amazon for smaller items like laptops and tablets, costly tradesmen’s fittings, high-value clothing stock and so on. There are also auction companies that will handle everything, but it usually comes at a fairly high price.

Let the bank to find a buyer

This is usually the last resort, only to be used if you have no other options. The problem with having the bank sell your possessions is that they’re not likely to push for the highest price. They take what they can get. In these situations, they typically value the speed of the sale over getting top dollar. [Need help with tax debt? Check out our reviews and best picks of tax debt relief providers.]

Submit a detailed, fair and correct Offer in Compromise

If you’ve sold off all your assets and you still can’t pay back your loan, you need to move into phase 2 – submitting an Offer in Compromise package to your lender.

Ask your lender about OIC

The first stage of this is to speak directly with your lender to see if they’ll accept an Offer in Compromise. There’s no point pouring time into the process if there’s no chance they’ll entertain it. Most banks will say yes, but occasionally I come across situations where lenders, for one reason or another, won’t consider an OIC once a borrower has gone into default.

Bear in mind that there is a myriad of reasons why your lender may reject your request for an Offer in Compromise on your SBA loan. Here are some typical ones:

  • Your loan is already fully secured with collateral. In this sense, the lender knows they can receive the full amount by selling your collateral, so why would they accept a lower offer?

Submit a pristine set of documents

To set the wheels into motion, you’ll need to submit a catalog of forms and personal financial information. This must all be accurate and truthful or you run the risk of rejection. First, you need to fill out these five forms:

The last two forms, the 770 and 1150, are especially vital to this process. The SBA Form 770 is for you to make full, accurate disclosure of your assets. Don’t try to hide anything or transfer assets; they ask about everything and they will find out, and you’ll be subject to enforced collection.

The SBA Form 1150 is a chance to give your side of the story. This is your moment to show your real assets and income and why this won’t cut it. To nail this form, get in the lender’s shoes and look back at yourself; have you considered all the avenues to assets that the lender will consider? This form is to prove that you’ve tried to squeeze every bit of blood from the stone, yet it still won’t cover the full loan. 

You’ll also need tax documentation:

Submit your Offer in Compromise (and hold your breath):

If everything goes smoothly, you’ll have an answer in 4 to 8 months. To speed this process up, try to be as responsive as you can, replying promptly to email and phone calls with any information needed. While you may have airdropped an encyclopedia-worth of paperwork with your application, your lender and SBA will likely need more information later. You may be sure you get it to them promptly to prevent bottlenecking (or having it put on the back burner) your application. Clerical errors are one of the biggest hold-ups for financial entities. Take the time to double and triple-check everything you submit.

What’s taking the SBA so long to decide on your OIC?

There is no standardized procedure between lenders. Delays can be caused by internal hold-ups in the bank, such as short staffing or the need for third-party verification of documentation. The same goes for different branches of the SBA – some are more efficient than others and therefore operate more quickly. Both of these scenarios are out of your control.

Appraisers slow down the process as lenders need to confirm valuations on your assets. If there are discrepancies between your valuations and that of an appraiser, you may see the process drop down a gear as lenders and the SBA seeks to verify this.

Should I follow up with the SBA or my lender?

While you don’t want to badger anyone, you want to keep your finger on the pulse of the process. Don’t hound your lender immediately – wait a couple of weeks before initiating follow-up. Not sure what to say, try this script:

“Hello. I have submitted an ‘Offer in Compromise’ and I was wondering if anyone had had a chance to review it yet. Is there any more information that you need from me, which would help to ease the process? Have you any idea what the bottlenecks are, and if I can be of any help in speeding things up?”

Approved? Great news — now what?

Just because you’ve been accepted, doesn’t mean you can sit back and put your feet up. 

  • Are all parties in agreement?

Just because your lender has approved your OIC, doesn’t mean you’re off scot-free. You need to have approval from both your lender and the SBA before your settlement is fully accepted.

  • Have you got your settlement in writing?

Verbal conversation isn’t enough. Always, always, always get your settlement agreement in writing. Bear in mind that there’s no standardized procedure for this. Some banks may send you a letter from their attorney, others may drop you a note on headed paper. The SBA likes to keep it casual, sending nothing more than an email.

  • Have you contacted an attorney?

Settlement agreements are often legally binding agreements. If there’s a fault in the paperwork or a clause you can’t adhere to, this may cause legal problems later. Having an attorney verify the papers are valid and accurately reflect the settlement terms can save you a headache later and give you peace of mind now.

  • Have you made a strategic plan to stick to the terms?

Getting a settlement on your SBA loan is only the first hurdle. You’ll now need to work out how you’re going to honor the terms of the settlement. If you default at this stage, there could be legal repercussions that could result in drastic consequences like foreclosure, bank levy, or wage garnishment.

Making monthly installments? Automate your payments if possible. Budget wisely to make do without this money and find side hustles to fill in the gaps.

Not so lucky this time? Get back on the horse

Don’t feel disheartened if your Offer in Compromise was rejected. Rejections happen, but it doesn’t necessarily mean game over. If you’ve been rejected, get up, shake off the dust and go at it again. It’s wise to use your first try as a learning experience. The easiest route to pinpointing your downfall would be to simply ask. Give your lender a call and ask to speak about your recent application. Try using wording a little like this:

“Hi. I recently had an Offer in Compromise rejected. Please, could you help me to identify where I went wrong? I thought my offer was representative and realistic, however, your team doesn’t agree. I’d love some insights on where we differ in opinion, and how I could improve my offer to meet your expectations.”

Be aware that sometimes, if you’re rejected by the SBA, they may send your debt to the U.S. Treasury for collection (settlements are hard to come by once that happens), so this is not the time to throw in the towel. It’s time to persist and see this thing through.

FAQs on SBA settlement

While no two cases are the same, as a consultant specializing in SBA default and forgiveness, I do get the same questions more than once.  Below is a collection of those questions, and the answers.

Q: I heard SBA settlements are really rare, is it even worth the effort trying?

A: SBA settlements are not a foregone conclusion. Deals of this kind are saved for cases where the lender really sees no other way to recuperate the full amount and the borrower can offer good reasons why they can’t honestly pay it back in full.

Despite how difficult it is, settlements are possible – especially if it’s clear to the lender and the SBA that a settlement is going to result in their best recovery.

Q: I’m desperate to solve this as quickly as possible, how long will the SBA settlement process take?

A: While, yes, it is humanly possible that you could get your answer within 4 months, that’s hardly ever the case. I certainly wouldn’t bet my last dime on it. The average wait time is around 4 to 8 months, but this only happens if there are absolutely no hiccups along the way.

Be prepared for this to take longer than expected. I’ve seen my fair share of hold-ups over my time. As each lender is different, so is each SBA branch. While office policies differ throughout regional locations, as do the staff in each company. This means different wait times for each.

Equally, you may have to enter a negotiation where you’re posed with counteroffers. This back and forth takes time.

Ask yourself what is within your control that can speed up the process. Make sure all your documentation is correct and complete and submitted on time. Ensure that you’re responsive with all parties concerned and promptly provide any extra details needed.

Q: Who do I start with? My lender or the SBA?

A: As a general rule of thumb, you’ll go through your lender unless you’ve heard directly from the SBA or the Treasury. Once the lender gets to the point where they realize they can’t squeeze one more cent from you, they close the file and refer you over to the SBA. Lenders really don’t like it if you try to go over their heads by going directly to the SBA without talking with them first.

In less common circumstances, you might get a letter directly from the SBA. Often called a 60-day letter, this is a pretty good indication that your lender isn’t involved in the process any longer. In that case, you’re dealing directly with the SBA, so talk to them first. They may send you back to the lender anyway, but that’s just life!

Q: My business received a ’60-day letter.’ What does this mean?

A: This means that the loan has been “charged off.” The SBA is now giving you 60 days to work out repayment terms or submit an Offer In Compromise.

Q: The 60-Day letter was addressed to me personally? Does that make me personally liable?

A: The signing of the personal guarantee is what makes you liable. Never ignore a 60-day letter addressed to you personally, sign it’s a sign that you are likely personally liable. If you receive a letter of this nature addressed to you personally, you need to deal with it immediately. Don’t leave it until the last minute – the consequences are tragic if you can’t pay. 60 days is a hard deadline. 

Q: The bank never asked for the money. Does that mean my SBA debt has been forgiven?

A: While the silence might be a relaxing breather for you, it doesn’t mean the bank has forgotten about you. Often it means they’ve passed you over and therefore have no need to hound you anymore. Instead, you’ll sit in the backlog of the SBA or Treasury until someone comes looking further down the line. Once it’s reached these guys, settlements are far harder to obtain. The Treasury, especially, aren’t looking to make deals. It’s better to be proactive rather than hiding in the dark hoping a genie has granted your wish true. Contact your lender and find out how you can start the process to remedy the situation.

Q: I spoke to the bank and they said that settlements aren’t an option. Why would they lie?

A: This is simply not true – unless they’ve stipulated good reasons. If your bank is telling you that settlements are an impossibility, it’s one of three things:

There are some great cues that give you an indication of whether they’re talking baloney. Often they’ll say that regular rules don’t apply because it’s an SBA loan. Incorrect.

Banks don’t want to settle. They want the full amount or to keep charging you outrageous interest rates. Settling means accepting defeat and lower profits. By telling you that settlements aren’t possible, they’re stalling. Either they’re hoping you believe them and either pay up in full or through interest — or they’re hoping they can buy a bit more time before you wise up.

There are a few reasons you won’t be able to settle. If your collateral will cover it, you won’t be able to settle. If your guarantor can pay it, you won’t be able to settle. If your business is still open, the settlement’s out the question again. And if you’ve done something wrong, like lying about assets, no settlement for you either.

Q: Do I need a lawyer to settle my SBA loan?

A: Lawyers are experts in law, not finance. While it’s advisable to have a lawyer check over the legal documentation concerning your settlement, many attorneys are inexperienced when it comes to negotiating a SBA loan settlement. 

SBA loans are a very specific type of debt. You need a specialist in the OIC process, with experience in the field, to advise you on settling your SBA loan. Attorneys don’t always have the required niche skill set to do this.

In terms of SBA policy, there is no requirement for you to have a lawyer in the SBA settlement process. 

Q: I don’t have a lump sum right now. Is a payment plan possible?

A: One of the major reasons that settlements work in the financial industry is because you’re offering to save them the hassle, time, and resources involved in chasing you by paying a significant portion of it all at once. In this sense, and as it says on the SBA Form 1150, lump sums are most certainly preferred. 

That said, in some circumstances, a payment plan will work. If you can’t raise a lump sum, but you have a steady job, this source of income starts to look promising. This is most often when I’ve seen payment plans approved.

When possible, I always push for the lump sum.  Why? By paying a lump sum, you get it over and done with.  With a payment plan, all you need to do is miss a single payment, and the entire settlement can be voided and send you back to square one.

The consequences of an SBA loan default

Unfortunately, there are some pretty monumental consequences if you default on your SBA loan. You may think your home is safe, but actually, banks can come after the equity in your home. You may find that your business has to shut down and that ‘enforced collections’ make you sell all business assets – including commercial real estate.

If that’s not enough, banks can go to court and obtain a personal judgment against you. In this case, you could subpoenaed for information. In some states, you could be arrested if you don’t respond. 

Q: I was smart enough not to put my home as collateral. I’m safe, aren’t I?

A: No. Just because you didn’t put your home up against the loan, doesn’t mean you’re off the hook. In some states, courts allow creditors to put a judgment lien on your house. Even if they can’t foreclose, it could prevent you from refinancing or selling your home.

Q: I took the loan out and put my house as collateral. I only did this because I was told by my bank that the lien would be released after 12 months of paying on time. Why haven’t they released it?

A: You need to get it in writing. If you were speaking to a salesperson, they may have been saying whatever they thought would get you to sign up. Do you think that 3 years later they’ll remember what they told you?  And if they do, do you think they’ll own up to it? Likely not.

Q: Will a business loan settlement harm my personal credit?

A: While my previous understanding was no, my experience has proved me wrong on rare occasions. For my entire career, I’ve told clients that an SBA settlement will not harm their personal credit. However, I had a client come back to me following entry on his credit report referring to the SBA settlement. This happened again a couple of weeks later with a different client. Upon investigation, I found that those clients who had had a credit entry dealt with the SBA directly – although this could have been a coincidence. Either way, by challenging this entry, we had it removed from their reports.

Q: When I started, I registered as a corporation, so I’m not personally liable – am I?

A: It doesn’t matter how you structure your business. When you took out your SBA loan, you signed to be personally liable for the loan with a personal guarantee. This means that you agree to use your own funds if the business cannot repay.

Q: If I settle this SBA loan, what are the chances of ever getting another SBA loan?

A: This is a major consequence of SBA settlement. It’s very unlikely you’ll ever be able to get an SBA loan if you don’t pay back. The SBA adds you to the Credit Alert Verification Reporting System (CAIVRS). This also means that you’ll have difficulty getting any federally subsidized loans including government-guaranteed student loans or FHA loans.

Q: I overpaid for my business. Could I reduce the repayment amount based on the lower value it’s worth?

A: No. For the SBA to even consider a settlement, you need to close shop or sell the business. They won’t reduce the loan balance based on the value you should have paid, even if the price was inflated by seller fraud.

Some people mention predatory lending, that the bank should have known the business was a lemon. Keep in mind the lender’s job is not to vet the business for you. Their job is to figure out if you can repay the debt. A loan approval is not the bank certifying that the price you are paying is the right price.

Q: If the SBA guaranteed 75% of my loan to the lender, I’ll only need to repay 25% right?

A: The SBA’s guarantee is to the lender. This means that the lender gets reimbursed for 75%, not the borrower. In fact, the SBA guarantee has no impact on what you, the borrower, owes. It only impacts who is taking the financial loss if you default and don’t repay your SBA loan in full.

This 75/25 structure encourages lenders to lend money to small businesses. If lenders know that their total sum owed is insured by the SBA for 75%, they know they only lose 25% of the loan in the worst-case scenario. This makes lenders more likely to provide credit for riskier small businesses.

Q: I’m only 50% liable though, aren’t I? My business partner and I are 50/50 owners in the business.

A: No. When you sign for an SBA loan with another person, you typically both agree to be 100% liable for the loan (unless the guarantee you signed specifically says otherwise). This means that you’re liable for the full amount, as is your partner. Even if your partner pays nothing, you’ll be expected to pay as much as you can afford even if that means paying it in full. And vice versa.

Even if you try to escape by not paying, the banks and SBA will come after the person with the best financial profile. So, as you move up the financial ladder in life, you become a better target.

Q: I want to settle without closing my business. What if I sell it to a friend and buy it back later?

A: No. Some less-than-ethical consultants pitch this scheme. It’s not a sophisticated strategy, it’s a scam. This is fraudulent behavior that I’d never suggest to a client. Full disclosure is the wisest move. Unless you declare the nature of all transactions to your lender and the SBA, gaining approval, then it’s a fraud. If someone pitches this idea to you, ask them if the lender will know all the details. If there is a separate agreement that won’t be sent to the lender, that’s a red flag.

Q: I simply sell my business assets, hand the cash to the lender, and I’m off the hook?

A: It’s more complex than that. After you’ve had permission to sell your assets and you’ve done so, you enter the OIC stage. This is where you negotiate the figure to pay back.

The Offer in Compromise is about releasing your personal guarantee. If you have a personal guarantee to the loan, after you’ve sold your business assets and handed over the money, the bank can still come after your personal assets. This can include your home, savings and wages. As most banks are shrewd enough to realize there probably isn’t much money in your failing business, they hone in on personal guarantees to supplement the difference.

If your OIC is approved, it releases you from the personal guarantee. Once this is agreed, neither the bank nor SBA can chase your personal assets (unless you default on the settlement terms).

Q: I can repay the debt in full but it would devour all my savings. Can we negotiate a settlement?

A: It’s highly unlikely. If the combined value of the borrower’s assets and your assets will cover the loan, they’ll expect the money. They don’t settle for the sake of settling. You need to prove financial hardship and a lack of ability to repay the debt in full.

Q: I can’t help repay the money right now, will they consider a payment plan?

A: Payment plans are less common, and not the SBA’s preference. If your assets won’t cover the full amount, they’ll consider a payment plan:

Q: I was only a guarantor to help my friend in his business. The bank can understand it’s not my fault and negotiate, right?

A: The bank isn’t concerned with your altruism. They just want their money and you signed a paper saying you’d pay it back if your friend couldn’t. The whole reason you signed a personal guarantee: in case your friend’s business went under, you could pick up the debt. If you weren’t in a position to do this, you shouldn’t have agreed. In that respect, you have to honor the contract.

SBA Loans and Bankruptcy

Q: I’m considering personal bankruptcy. Will this affect my business? Can I get shut down?

A: Just because you file for bankruptcy personally, does not mean your business is free and clear. Filing for personal bankruptcy releases your personal liability. It does not release your business liability. In this sense, if there are assets of value in your business, they can still chase those if the loan doesn’t get paid.

In cases of personal bankruptcy, I’ve seen lenders allow businesses to continue to operate provided that they continue to make the loan payment as agreed. Then again, I’ve seen others treat the bankruptcy as an event of default, in which case they could attempt to shut you down and liquidate the business assets.

Q: Do I qualify for an SBA settlement if I haven’t declared my business bankrupt?

A: The SBA doesn’t require you to file for bankruptcy to undergo the settlement process. While there may be many reasons that business bankruptcy is a good strategic move, it has no bearing on the OIC process and does NOT release you from personal liability.

Q: If I file for chapter 7 bankruptcy, my house is safe, isn’t it?

A: It’s best to speak to a bankruptcy attorney about this, but in general, if there’s a lien on your home before bankruptcy, it will be there after bankruptcy. The only exception would be if there were no equity in the home. I’ve helped a number of clients over the years to negotiate a lien release following a personal chapter 7 bankruptcy discharge.

Q: My bankruptcy attorney says I should choose the bankruptcy route over SBA settlement. Isn’t bankruptcy quicker and easier?

A: Both routes have their pros and cons and suit different circumstances better. My advice is to do your research. The best way of doing this is to speak with the experts. Ask a bankruptcy attorney how the process works, the costs, the time, the hurdles, the rate of success and the future impact. Then do the same with an SBA default expert.

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