Rollover equity is common in private business transactions. Instead of selling 100% of the company, an owner sells a controlling or substantial interest and keeps a smaller stake after closing. The seller may remain involved for a transition period, participate in future growth or retain exposure to a second sale.
When the buyer is using an SBA 7(a) loan, however, a partial sale is not simply a smaller version of a complete acquisition. The current SBA rules impose specific borrower, guaranty and transaction-structure requirements that can materially affect the seller.
Federal regulations allow 7(a) proceeds to purchase some or all of an owner’s interest or some or all of the business itself. SBA Standard Operating Procedure 50 10 8 further defines a partial change of ownership as a transaction in which loan proceeds fund the purchase of all or part of one or more owners’ interests while at least one original owner remains after the sale.
One of the first issues is who must become a borrower. The operating company and every new direct or indirect owner acquiring any ownership interest must be co-borrowers on the new SBA loan. The percentage does not create an exception. A new owner acquiring even 1% must generally become a co-borrower.
That requirement matters because borrower obligations are broader than simply owning equity. The lender will underwrite the new owner, require documentation and may consider the owner’s assets when evaluating a collateral shortfall. A transaction involving several new investors can therefore become more complicated than a deal with one acquiring owner.
The SBA also prohibits multi-step partial ownership transactions. A common structure in conventional M&A involves existing owners and new investors forming a holding company that then acquires 100% of the operating company. Under the current SBA rules, that type of multi-step structure is not eligible when used to accomplish a partial change of ownership.
The ownership transfer must be designed within the SBA’s permitted framework rather than built around a newly formed acquisition entity that becomes the operating company’s sole owner.
The most important issue for many sellers is the guaranty. Under ordinary SBA rules, owners with less than 20% of the borrower are generally not automatically required to provide a full personal guaranty solely because of their ownership percentage. A selling owner who retains less than 20% after a partial sale is treated differently.
When a seller receives loan proceeds for part of the seller’s interest and remains a direct or indirect owner after closing, the seller must provide a guaranty for the full loan amount even if the retained interest is below 20%. The guaranty lasts until the later of two events: at least two years after final loan disbursement, or the point at which the loan has remained current for 12 consecutive months.
The SBA does not require a seller providing this limited-duration guaranty to pledge personal assets solely to cover a collateral shortfall. Even so, signing a guaranty is a meaningful obligation. A seller who expected to retain 5% or 10% as passive upside may be surprised to learn that the retained interest also creates continuing exposure to the acquisition debt.
This changes the economic discussion around rollover equity. In a conventional transaction, a seller may view retained equity primarily as an investment decision. In an SBA-financed transaction, it is also a financing decision.
The seller must evaluate the value of the retained ownership against the guaranty, continued information rights, governance provisions, distribution policy and the ability to exit the remaining stake.
The rule can also influence the size of the rollover. A seller who retains 19% does not necessarily avoid the guaranty that would apply at 20%; the special rule reaches a selling owner who retains less than 20%. A seller who exits completely, by contrast, is no longer an owner and does not fall within this retained-seller guaranty provision.
That can make a complete sale structurally cleaner even when the parties initially prefer a rollover.
Sellers should also distinguish between remaining as an owner and serving as a consultant. In a complete change of ownership, the seller generally cannot remain an officer, director, stockholder or employee, although the business may engage the seller as a consultant for a limited transition period. In a partial change of ownership, the seller may remain involved as an owner, officer, director, employee or key employee, subject to the transaction documents and lender approval.
Before agreeing to a rollover, the seller should ask the lender and transaction counsel to explain the exact post-closing obligations. The purchase agreement, operating agreement or shareholders’ agreement, guaranty documents and SBA loan documents need to work together.
It is not enough for the letter of intent to say that the seller will “retain 10% equity” without addressing how that interest will be held and what obligations accompany it.
Advisory List has published a broader breakdown of the SBA acquisition-financing changes, including the rules for complete ownership transfers, seller notes, partial buyouts and business-expansion acquisitions.
Rollover equity can still work in an SBA-financed transaction, but it should not be treated as a casual compromise between a full sale and no sale. The seller’s retained interest affects the structure of the loan, the identity of the borrowers and the seller’s continuing exposure.
Those issues should be resolved early, before the parties become committed to a deal structure that the lender cannot approve.