A 504 loan from the SBA really has three components. First, a private lender makes a conventional loan for at least 50% of the cost of the project. Then the SBA guarantees up to another 40% of the project. As the borrower, you can get the loan by putting as little as 10% down.

"The 504 is just a wonderful program," says Jerry Burns, vice president and manager of the government guaranteed lending group at West Coast Bank in Portland, Ore. "We use it a lot when a well-established business has capital financing needs but is trying to preserve its cash preserves."

The SBA typically will make guarantees of up to $1 million under the 504 program, which means that the loan can be for as much as $2.5 million. Under some circumstances, for meeting such public policy goals as business-district revitalization, rural development, and aiding minority and veteran-owned businesses, SBA's guarantee can go as high as $1.3 million.

The mechanics of the 504 program also require another player — a Certified Development Company, also known as a CDC, which does a lot of the legwork of working directly with the Small Business Administration. "The borrower does not have to have any direct contact with SBA," Hammersley says. "The second mortgage is provided through the CDC, while your bank provides the first mortgage and other services."

Cash flow does matter

While a 504 loan can be used for expanding a business, you'll still have to show a lender that your cash flow will support the additional borrowing costs.

"It may take a couple of months to build or install whatever you're funding, and then another month or two before you start getting any payments," says Pat Campbell, vice president at West Coast Bank. "So if you're going to need several months of production before you start getting a return on a $2 million investment, how are you going to fund that expansion, that loan, in the meantime? There's a lag between ramping up production and seeing profits. Your expansion may be profitable, but managing your cash flow during that time is crucial."

Loans under the 504 program can be for 10 or 20 years. The interest rate on 504 loans changes monthly, and is tied to the rate being paid on the types of 20-year debentures that SBA sells.

In addition to the usual costs of getting a loan, borrowers also have to pay a guarantee fee to the SBA of one-half of one percentage point (50 basis points) of the amount of the loan. There's also a funding fee of one-quarter point (25 basis points), and an underwriter fee of 40 basis points.

Existing businesses' advantage

Successful businesses have an advantage in that they can use their history to build a case for a new loan.

"You can show that you will be more profitable as a result of what you do with the loan because you'll be able to take on business you've been turning away, you'll be able to successfully start sales in a neighboring state, [and] you'll have a facility to maintain the inventory you need for sales to bigger markets. [There's] any number of possibilities," says Hammersley.

"The single important thing to getting a loan and having the process go smoothly is developing a plan for how much you need, what you're going to do with it, and showing how this is going to affect your cash flow."

To be eligible to borrow under the 504 program, you have to have a tangible net worth of not more than $7 million and have had an average net income of not more than $2.5 million after taxes for the preceding two years. For more information, check out the SBA's Certified Development Company (504) Loan Program page (www.sba.gov/financing/sbaloan/cdc504.html).