SBA Loans for Franchises: What Banks Actually Look For

Most franchise buyers do not have $300,000 in cash sitting in a brokerage account. They finance. And for the majority of first-time franchisees, that means an SBA loan.

The Small Business Administration does not lend money directly. Instead, it guarantees a portion of loans made by approved lenders — typically 75-85% of the loan amount. This guarantee reduces the bank's risk, which means they will lend to borrowers and businesses they would otherwise reject.

For franchises specifically, SBA loans are the standard path. The business model is proven. The brand provides structure. The failure rate is lower than independent startups. Banks like this. But "lower risk" does not mean "automatic approval." Lenders still scrutinize every application, and most rejections come down to the same handful of issues.

Here is what banks actually evaluate — and how to position yourself for approval.

The SBA Franchise Directory: Step Zero

Before a bank will even consider your application, your franchise must be listed on the SBA Franchise Directory. This is a database of franchises that have been reviewed and approved for SBA lending.

Most established franchises are already listed. But if you are looking at a newer or smaller system, verify this first. If the franchise is not in the directory, the franchisor must submit their FDD and franchise agreement for SBA review — a process that can take weeks or months.

No directory listing, no SBA loan. Check this before you fall in love with a brand.

The Five C's: What Every Lender Evaluates

Bankers are trained to evaluate loans using the "Five C's" framework. Understanding this framework helps you see your application through their eyes.

1. Character

This is your personal credibility. Lenders want to know: Are you the kind of person who pays their debts?

What they look at:

• Personal credit score (minimum 680 for most SBA lenders, 700+ preferred)
• Credit history — late payments, collections, bankruptcies
• Criminal background check
• Resume and professional history
• References (sometimes)

A bankruptcy in the last seven years is often disqualifying. Recent late payments raise red flags. If your credit history is spotty, address it before you apply. Pay down balances, resolve collections, and let your score recover. Six months of cleanup can make the difference between approval and rejection.

2. Capacity

Can you actually repay the loan? Lenders model your projected cash flow against your debt service obligations.

What they look at:

• Debt Service Coverage Ratio (DSCR) — your projected cash flow divided by your loan payments
• Personal income and existing debt obligations
• The franchise's Item 19 financial performance data
• Your pro forma projections

The magic number is a DSCR of 1.25x or higher. This means for every $1.00 in loan payments, you are projected to generate $1.25 in cash flow. Below 1.0x means you cannot cover your payments. Banks want a cushion.

If your DSCR is borderline, lenders may require a larger down payment, a shorter loan term, or a co-signer with additional income.

3. Capital

How much of your own money are you putting into this deal? Lenders call this your "equity injection."

The SBA minimum: 10% of the total project cost must come from the borrower. For a $400,000 total investment, you need at least $40,000 in equity.

The practical reality: Most lenders want 20-30% down for franchise loans, especially for first-time buyers. That same $400,000 project might require $80,000-$120,000 of your own capital.

Acceptable sources of equity:

• Cash savings
• Investments (stocks, bonds, mutual funds)
• Home equity (through a HELOC, not as direct collateral for the SBA loan)
• 401(k) rollover (ROBS — Rollover for Business Startups)
• Gifts from family (with a signed gift letter confirming no repayment expectation)

What does NOT count: Borrowed money. If you take a personal loan or credit card advance for your down payment, lenders will find out. This is called "debt stacking" and it will kill your application.

4. Collateral

What assets can the bank seize if you default? SBA loans require collateral, but the requirements are more flexible than conventional loans.

Typical collateral for franchise loans:

• The business assets themselves (equipment, inventory, fixtures)
• Personal guarantee from all owners with 20%+ equity
• Liens on personal real estate if equity exceeds $25,000 (for loans over $350,000)

The personal guarantee is the critical piece. You are personally liable for the loan. If the business fails, the bank can pursue your personal assets — your house, your savings, your other investments. This is not a limited-liability situation.

Spouses may also be required to sign the guarantee, even if they are not involved in the business. This protects the lender from borrowers transferring assets to avoid collection.

5. Conditions

What is the broader context of this loan? Lenders evaluate the specific circumstances of your deal and the external environment.

What they consider:

• The franchise system's track record and stability
• Industry trends (is this sector growing or declining?)
• Your specific territory and location
• Local economic conditions
• How the loan proceeds will be used

A loan application for a fast-casual restaurant in a growing suburb will be viewed differently than the same brand in a declining rural market. Lenders are not just betting on you — they are betting on the whole picture.

What Kills Applications

Most SBA loan rejections fall into a few predictable categories:

Insufficient equity. You cannot borrow your way into a franchise. If you do not have 20%+ of the project cost in verified, unencumbered funds, you are not ready.

Weak credit. Below 680 is difficult. Below 650 is nearly impossible. Recent derogatory marks (late payments, collections, charge-offs) matter more than old ones.

No relevant experience. Lenders want to see that you can actually operate this business. If you are buying a restaurant franchise with no food service background, that is a concern. You do not need to have been a franchisee before, but you need transferable skills — management experience, industry knowledge, or a strong partner who fills the gaps.

Unrealistic projections. If your pro forma shows you hitting top-quartile Item 19 performance in Year 1 with no industry experience, the bank will not believe you. Conservative, defensible projections build credibility. Aggressive projections trigger skepticism.

The franchise itself. Some franchise systems have poor track records, high failure rates, or pending litigation. The bank's underwriting team researches the brand. If they find red flags, your personal qualifications will not matter.

The Application Package

A complete SBA loan application includes:

• SBA Form 1919 — Borrower information
• Personal financial statement — Assets, liabilities, net worth
• Three years of personal tax returns
• Resume — Emphasizing relevant experience
• Business plan — Executive summary, market analysis, financial projections
• Franchise Disclosure Document — The full FDD from your franchisor
• Franchise Agreement — The actual contract you will sign
• Proof of equity — Bank statements, investment accounts, gift letters
• Lease or LOI — For your proposed location (if applicable)

Missing documents delay your application. Incomplete applications signal disorganization. Assemble everything before you submit.

Choosing a Lender

Not all SBA lenders are equal. There are three tiers:

Preferred Lenders (PLP): These banks have delegated authority to approve SBA loans without sending each application to the SBA for review. Faster decisions, typically 2-4 weeks to approval. Most major banks and specialized franchise lenders have PLP status.

General Lenders: These banks must submit applications to the SBA for approval. Slower process, typically 4-8 weeks. Often community banks or credit unions.

Franchise-Specialized Lenders: Some lenders focus specifically on franchise financing. They understand FDDs, know the major brands, and have streamlined processes. If you are buying a well-known franchise, these lenders can move faster because they have already underwritten the brand.

The Numbers: What to Expect

SBA 7(a) loan terms for franchise acquisitions typically look like this:

Run the math before you commit. A $300,000 loan at Prime + 2.5% (roughly 10% in the current environment) over 10 years means monthly payments around $3,960. That is $47,520 per year in debt service that your business must cover before you pay yourself anything.

The ROBS Alternative

If you have substantial retirement savings, you may be able to use them without taking a loan. A Rollover for Business Startups (ROBS) structure allows you to invest 401(k) or IRA funds into your own business without triggering early withdrawal penalties or taxes.

How it works: You create a new C-corporation. That corporation establishes a 401(k) plan. You roll your existing retirement funds into the new plan. The plan then purchases stock in your corporation. The corporation uses that capital to buy the franchise.

The benefits: No debt service. No interest payments. No personal guarantee on a loan. You are investing in yourself.

The risks: If the business fails, you lose your retirement savings. There are also ongoing compliance requirements and administrative costs. The IRS scrutinizes ROBS transactions. You need a specialized provider to set it up correctly.

ROBS is not for everyone. But for buyers with large retirement accounts and limited liquid savings, it can be a way to access capital that would otherwise be locked away.

Positioning Yourself for Approval

Start preparing 6-12 months before you plan to apply:

Clean up your credit. Pay down balances below 30% of limits. Resolve any collections or disputes. Do not open new accounts or make large purchases.

Accumulate your equity. Save aggressively. Liquidate non-essential investments. Have a clear, documented source for every dollar of your down payment.

Build your narrative. Your resume and business plan should tell a coherent story about why you are the right person to operate this franchise. Connect your past experience to the skills required.

Choose the right franchise. A strong franchise system makes your application stronger. High brand recognition, solid Item 19 numbers, and low franchisee turnover all signal lower risk to lenders.

Get pre-qualified early. Before you sign a franchise agreement, have a preliminary conversation with a lender. They can identify potential issues while you still have time to address them.