Best Practices: Eligible Transaction Structures for Changes in Ownership

In recent weeks, my colleagues have been examining various components and modifications introduced by the newly enacted Standard Operating Procedure 50 10 8 (“SOP”). As we continue to further analyze the SOP, it is important to discuss the changes made to the rules concerning changes of ownership structures. This article aims to provide an overview of the eligible transactional structures related to changes in ownership once the SOP takes effect on June 1, 2025.

Under the new SOP, a borrower may still use loan proceeds to effectuate a change of ownership by way of ownership purchase (including redemption) or through acquisition of business assets. However, the most robust changes introduced by the SOP pertain to transactions involving partial changes in ownership. While there’s been no change to the rule that requires for all 20% or more owners to fully guarantee the loan, the SOP imposes stringent restrictions on transactions involving a partial change of ownership when a seller retains partial ownership in the business.

For transactions involving a partial change of ownership, the SOP requires for all equity owners who are acquiring or gaining any ownership interest in the business, whether directly or indirectly, to be co-borrowers on the loan regardless of the percentage of ownership being gained. As such, even if a person or an entity is only gaining 1% equity in the business, said person or entity must be a co-borrower on the loan because of their equity increase in the business and the fact that they are directly or indirectly benefiting from the loan. Moreover, any seller  retaining ownership must now provide a personal guarantee for the full amount of the SBA loan for at least two years following disbursement of loan proceeds, even if the seller’s post-sale percentage of ownership in the business is less than 20 percent – this is vastly different from a complete change of ownership transaction where the SOP only requires a personal guarantee from each owner of 20% or more ownership interest in the applicant.

The new SOP further clarifies that SBA loan proceeds may not be used for partial change of ownership transactions involving  an Eligible Passive Company (EPC)/Operating Company (OC) structure and also reversed course on recently published SBA Procedural Notice 5000-862692 pertaining to multi-step partial changes of ownership. A multi-step partial change of ownership would involve existing owners and  new owner(s) creating a new entity that will acquire the stock or assets of the target company. Moving forward, these types of transactions are no longer eligible for SBA financing.

Regardless of the transaction type, the SOP caps the maximum use of proceeds for any change of ownership at the business valuation amount. Any financed capital required to meet the shortfall must be subordinate to the SBA loan. Furthermore, the SOP reiterates that any seller earnouts that allow the seller to receive additional compensation contingent on the company’s future performance are prohibited. However, the SOP does allow for buyer-specific rebates where the buyer might receive a partial refund of the purchase price based on specific performance factors of the target business; provided, that such rebate will first  be applied to pay down the 7(a) loan to a point that will not trigger a subsidy recoupment fee (if the loan term is more than 15 years), with any remaining funds to be used for business purposes.

For further assistance please contact the attorneys at Starfield & Smith, P.C. at 215-542-7070 or email us at info@starfieldsmith.com.