Insights

What Is Seller Financing?

July 7, 2023

Seller financing is when the seller of a business acts as a lender to the buyer by offering financing for all or some of the purchasing price. The Buyer and Seller negotiate the terms of

the financing agreement just like the buyer would negotiate the terms of a loan with a traditional lender. These include the interest rate, the number of payments per year, the loan's size, and the loan's length.

A buyer wants to use seller financing for two main reasons. The first reason is that they only qualify for part of the loan amount from a traditional lender. The second reason the buyer would want to use seller financing is that they want the seller to carry some of the risks of the business being able to continue and service the debt.

Why would a seller agree to provide financing for a buyer?

There are many reasons why a seller should offer some seller financing ranging from increasing the size of the potential buyer pool to limiting the tax liability caused by selling a business and the extra monetary benefits the seller receives.

A seller must offer seller financing to maintain the pool of potential buyers. This is because some buyers may not have the total valuation in the capital that is easily accessible and can be deployed rapidly. The buyer would be required to go through a traditional lender, whether a conventional or an SBA lender. This process is time-consuming, and the buyer is not guaranteed they will qualify for a loan. If a seller offers financing, they can decide if the buyer is qualified. In addition to determining whether the buyer qualifies for seller financing, they can also speed up the financing process because the seller already knows their business.

In addition to speeding up the approval process for the buyers. Buyer's like to see a seller offering seller finance because if the seller is carrying some of the risks, the business will continue to do well after the transaction. If a seller is unwilling to offer seller financing, the potential buyer might offer a lower valuation for the business. The buyer would do this because they do not think the company will perform as well with new ownership if the seller is not offering seller financing.

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Another benefit of offering seller financing is the added monetary benefits. The financing agreement will have a stated interest rate on the loan. If the buyer used traditional third-party funding, they would pay the lender the interest payments. Since the seller is the lender, they receive the interest payment instead of the other party. Over the life of the financing agreement, the seller will receive more money than the amount they financed.

The use of seller financing can produce tax savings over time. This is because instead of receiving the business's total purchase price, the seller receives a lower amount on the day of closing. This can result in a lower tax bill from selling one's business. The seller would then receive the rest of the financing agreement with interest or interest during the term of the financing agreement with a balloon payment at the end for the financing amount.

Seller financing is when the seller acts as a lender to a buyer of their business. Buyers tend to like when a seller offers to finance and view it as a sign that the seller believes the company will be able to service the debt the seller holds. Seller financing benefits the seller by increasing the valuation of their business, expanding the pool of potential buyers, and the monetary benefits that a seller would miss out on if they did not offer seller financing. These benefits are why a seller should consider offering seller financing when they sell their business.

Author
Drew McDougal
Deal Analyst
Benchmark International

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Benchmark International is a global M&A firm that provides business owners with creative, value-maximizing solutions for growing and exiting their businesses. Benchmark International has handled over $10 billion in transaction value across various industries from offices across the world. With decades of M&A experience, Benchmark International’s transaction teams have assisted business owners with achieving their objectives and ensuring the continued growth of their businesses. The firm has also been named the Investment Banking Firm of the Year by The M&A Advisor and the Global M&A Network as well as the #1 Sell-side Exclusive M&A Advisor in the World by Pitchbook’s Global League Tables.

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