New York Business Development Corporation 
Lender Corner - FAQ
by James Conroy III, Vice President, NYBDC
jconroy@nybdc.com  
                    

Don’t Let the Prepayment Penalty Fool You!

In most transactions involving the SBA 504 Program, borrowers and bankers question the need for, and calculation of, the prepayment penalty. The SBA 504 is a bond transaction funded by the sale of Bond Debentures, backed by the full faith and credit of the United States. Therefore, investors who purchase these Debentures are guaranteed a return for their investment. If a SBA 504 borrower prepays, than a penalty must be paid to the bond holder to ensure a rate of return. The penalty is calculated at 100% of one year’s interest in the first year, declining to zero at the midpoint of the loan.  The example below illustrates the prepayment penalty for a $250,000 SBA 504 loan for the first five years.

 

Year 1

Year 2

Year 3

Year 4

Year 5

% of Rate

100%

90%

80%

70%

60%

Interest Rate

7.30%

7.30%

7.30%

7.30%

7.30%

Prepayment Multiple

7.30%

6.57%

5.84%

5.11%

4.38%

Loan Balance

$250,000

$244,258

$238,082

$231,441

$216,616

Prepayment Penalty

 $18,250

 $16,048

$13,904

$11,827

$ 9,488

But don’t let the prepayment penalty fool you.  There are circumstances when the apparent need for prepayment can be overcome.  The SBA 504 Program provides tremendous flexibility to a company that may preclude them from prepaying the loan.  Some common issues arise that trigger a discussion about prepaying the SBA 504 Loan: 

1.   Change banking relationship – A new bank can refinance the existing first mortgage on the SBA 504 without disrupting the SBA 504.  The customer simply has to notify us of the change in writing prior to the closing. 

2.   Refinance and increase first mortgage – The SBA 504 can subordinate to additional financing so long as the new money is being used to improve the asset securing the SBA 504 Loan and/or recoup working capital that was used to improve the asset. 

3.   Expand the building – The existing SBA 504 mortgage could subordinate to all new money needed for the expansion, including another SBA 504 loan.  An updated appraisal is required to accommodate this request.

4.   Relocate and sell existing building – The existing SBA 504 mortgage could be assumed by a purchaser subject to credit approval.

In all cases, it is important for the banker/company to contact our servicing department at 1-800-923-2504 to discuss the transaction details at the earliest point possible. 

Lender's Corner - Don't Let the Prepayment Penalty Fool You
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