Structuring Your Seller-Financed Business Note for Optimal Cash-Out in the Future

Tara Mastroeni
Published: December 29, 2013 | Updated: January 29, 2023

Seller-Financed Business Note

Are you seller-financing all or part of the sale of your own small business and planning on selling the business note? You are definitely not alone! Up to 90% of businesses sold in the U.S. today involve some form of seller financing (otherwise known as owner financing).

The reason is simple: lack of investment appetite and/or risk-tolerance within the institutional banking industry. Banks are hoarding their money and staying away from risky investments like trying to help the little guy get their business off of the ground.

As with any investment, there are always risks, plain and simple. This is the same in the world of buying private notes. If you are thinking about, or planning to create a business note with the intention of selling on the open market, you must keep several major items in mind, in order to receive the maximum cash out possible.

At Amerinote Xchange, we recommend you keep the following tips in mind:

Do not finance more than 70% of the business sale

Getting a minimum of 30% verifiable cash down is a first step to properly structuring your note. Also be sure that the borrower is not borrowing the 30% down payment from another financial institution or entity; this will put the deal at risk when selling the business note.

While you are at it, check up on the credit of your borrower. A borrower/buyer with solid financial history will decrease your risk and increase your ability to sell your note later. In order to get the note sold, all we need at Amerinote Xchange is a very low average credit (FICO middle score) of 635 (ish). That being, said, the higher the credit score of the borrower, the better.

Look for interest rates above 10%

Make sure the terms of your note include an optimal interest rate of 9.5% to 12%. You want your note to be profitable to you and attractive to your business note buyer. If the borrower wants a 5% rate, with all due respect, the borrower needs to go to a bank to get that low rate (if they can qualify). Banks can afford that risk, you cannot!

You also have to keep in mind that most note buyers have to borrow their money in order to keep buying notes so they can stay in business and keep their doors open. This means that the note buyers have to pay for the money that they use just like anyone else.

It is pretty safe to say that most note buyers are paying between 7.5% and 11% (or higher) for their money (a.k.a. their cost of capital minus their profit).

Money is not as cheap as one may think; you may see commercials on TV promising mortgage rates at 5.5% (and that’s up significantly in the past year), but that has nothing to do with the purchase of debt instruments. This is a very exotic type of financial transaction — too exotic for commercial banks like B of A and Wells Fargo for sure…. Note buyers pay through the nose for their capital.

Get familiar with short note terms

Note terms that are five years or less turn to cash more easily than longer-term notes. A fully amortized payment schedule is also beneficial for cash turnover in the future. Stay far, far away from balloon payments if you are planning on receiving the most for your business note. Balloon payments can be the kiss of death when it comes to note sales. Keeping the pay-back-period at five years or under will make your life and your wallet a lot happier.

File for UCC-1 liens

UCC-1 (Uniform Commercial Code-1) liens are legal forms that you can file to show that you have interest in the inventory, fixtures, and business of your buyer. This ensures that you will have access to the assets of the business should they be unable to pay you. The lien makes your note attractive to note buyers because it is more secure. Do not skip this step or cut corners. Cutting corners equals getting stuck with a note that you do not want.

Get a personal guarantee in writing

This item only pertains to those business sellers that are selling their business to another corporation or entity (such as a family trust, government agency, S-Corp, LLC, C-Corp, sole proprietorship, etc.). If you are selling to a private individual, this step does not pertain to you.

If you are selling to an entity and not a private individual, then it is 100% imperative that you require a written personal guarantee from an individual within the corporation or entity buying your business. If you do not get a personal guarantee, you will not sell the note! I can’t stress this enough. Business notes will not sell if there is a corporate borrower with no personal guarantee.

In closing we’d like to stress that, though we have been in the note-buying business for more than a decade, we are not attorneys or licensed financial planners. We are a seasoned private investment firm that purchases notes. You should always seek the advice of an attorney and/or licensed professional if you have a specific need or questions regarding your own situation.

In the meantime, we’re always here to speak about the options available when selling a business note. Contact us at Amerinote Xchange anytime. Good luck, and we hope to hear from you soon.

Source for data on frequency of seller-financing in small business transactions: