The Seller’s Role in Financing
The Seller’s Role in Financing
Understanding Promissory Notes
It is not uncommon for a prospective seller to be asked to assist in financing the sale of a chiropractic business. There are many factors to consider in this decision, and it is important for sellers to fully understand the implications of their role in financing before signing any documents. We have put together this guide to help you understand the weight of this situation and how promissory notes factor into the circumstances of the purchase.
If the seller is financing 100% of the purchase price on a promissory note, then the seller is effectively acting as the bank in this transaction. As the bank, the seller would need the usual financing protections, including priority. This means that as the bank, the seller needs to be in the first position to reclaim the practice and all of its assets if the buyer defaults. To ensure that his happens, the seller must have a lien search performed against the buyer.
In this case, the seller must have the proper documentation in place, chiefly a subordination agreement with the landlord of the office space. This would give the seller the right to take back physical assets such as furniture, equipment, and any other tangible items in the event of a default.
However, very few sellers will finance 100% of the practice sale. The vast majority will assist with financing in some small capacity, but typically no more than 10 to 20% of the purchase price.
If the seller is financing less than 100% of the purchase price, a bank would be involved to lend the remaining difference. In this case, the seller’s risk is increased because the bank now has priority to all assets of the business if the buyer defaults.
Typically, the bank will require that the seller file a subordination document at closing in order to protect the bank. This notifies the buyer and seller of the bank’s rights with the transaction. This document is typically nonnegotiable. In this case, the seller will still file a lien against the practice and buyer, but will be second in line for the assets, behind the bank and the SBA, if the buyer defaults.
Because of the higher risk the seller has when financing all or part of the purchase price, the seller’s promissory note will typically have a higher interest rate than a bank would. In this situation, Practice Brokers will draft the documents needed for the sale, following SBA guidelines, and transfer them to the bank’s lawyer acting on behalf of the SBA. Please note that these documents will be heavily scrutinized by the lender prior to closing.
It is very important that the seller fully understands all the documents specifying their rights and obligations in this transaction. When they sign the subordination agreement, they are effectively putting themselves in the back seat. Practice Brokers is always here to help you make sure you fully understand the implications of your sale. Contact us today with any questions you may have about this complex process.