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SBA 504 Q&A: Life Insurance Requirement

Jan 2021

Q: When is life insurance required on a Small Business Administration (SBA) 504 loan?

A: When the loan is not fully collateralized, life insurance is required for the following:

• Sole proprietorships;
• Single member LLCs; and
• Businesses otherwise dependent on one owner’s active participation.*

In the cases outlined above, the Certified Development Company (CDC) is unable to waive the life insurance requirement and the borrower will need to obtain a collateral assignment of an existing life insurance policy or a new policy.

The only exception is in the event the borrower is deemed uninsurable, in which case the CDC must obtain written documentation from a licensed insurer stating the same and submit a change request to the SBA to remove the life insurance requirement from the loan authorization.

* Examples of businesses dependent on 1 owner’s participation include businesses where special training or licenses are required, i.e., doctor’s offices, assisted living facilities, law offices, mechanic shops, etc.

Q: How is the required amount of life insurance determined?

A: Per the Sacramento Loan Processing Center for the purposes of life insurance calculations, the loan is considered fully collateralized when the value of the discounted collateral is equal or greater than the net debenture plus the first mortgage amount. When the loan it not fully collateralized, the amount of life insurance required is equal to the difference between the net debenture, plus the third party loan less the value of the discounted collateral.

Discounted collateral values per SOP 50 10 6:

• Improved commercial real estate at 85% of fair market value determined in accordance with the appraisal requirements.
• New machinery and equipment (NOT FF&E) at 75% of price, minus any prior liens.
• Used or existing machinery and equipment (NOT FF&E) at a maximum of 50% of net book value or 80% with an orderly liquidation appraisal, less any liens.
• Other cost categories are based on standard liquidation rates.

Policy term requirements as outlined in SOP 50 10 6:

• 10 years for a 10-year debenture.
• 20 years for a 20- or 25-year debenture.

If you have a question for our SBA 504 loan experts, email us at info@ffcfc.com.