Are you a small business owner in need of funding? A Small Business Administration (SBA) loan may be a good option for entrepreneurs who want to consolidate debt, buy equipment, purchase real estate, increase marketing, hire new employees, and more. SBA loans have some of the most competitive rates in the marketplace and typically offer longer terms, so payments are very low.
Of course, as with any loan, there are requirements that the business owner must meet. One important requirement is insurance. You typically need to have a variety of policies in place during the life of your loan. In addition to the insurance requirement to qualify for a loan, the right type of insurance may mean the difference between success and the possibility of losing your business.
Here’s what you need to know about the types of insurance generally required when you’re seeking an SBA loan.
What is business insurance?
In short, business insurance is a contract between the insurance company and the business. The insurance company agrees to provide financial protection in the event of a specified loss in exchange for premium payments. At the time of a loss, the business will file a claim.
Why does a business need insurance?
Business insurance may help protect business owners and independent professionals against everyday risks, such as mistakes, stock or premises damage, and legal costs. Some policies may even protect against business interruption and supply chain breakdown.
What is the penalty for not having business insurance?
There is no single penalty for operating a business without insurance. Whether you may face a fine, other penalties, or legal consequences depends on what type of insurance is required, where your business operates, and other circumstances.
For instance, businesses may be required to carry certain coverage under state law, particularly when they have employees. Other insurance requirements may come from an industry regulator, a commercial lease, a client contract, or a lender.
If a business fails to carry legally required coverage, the consequences may include fines, penalties, liability for costs that insurance would otherwise have covered, or other enforcement actions. In some situations, failing to maintain required coverage may also create problems with a landlord, customer, or lender. The amount and type of penalty depend on the specific requirement and jurisdiction, so there is no universal uninsured business fine.
How collateral impacts insurance requirements
Depending on the type and size of your loan, your lender may require you to put up collateral. The term refers to any type of property or equipment that the lender may seize and sell if you default on the loan. If collateral is required for your loan, the lender will typically require you to have insurance on it. For example, if you put a building up as collateral for a loan, you’ll likely be required to have insurance on the building. This allows the lender to recoup money if the building is destroyed by a fire, flood, or other disaster.
Types of business insurance typically required for an SBA loan
In some cases, lenders may require a business to carry certain types of insurance before approving a loan application. The lender uses insurance requirements to offset some of the risks they assume when issuing a loan. The most common types of insurance required for SBA loans include the following:
Workers’ Compensation Insurance
Workers’ compensation is usually required for companies with hired employees. If you employ contractors, there may be exceptions. This type of insurance provides wage replacement and medical benefits to employees injured in the course of employment. To obtain an SBA loan, small business owners must be in full compliance with state and federal requirements.
Hazard insurance
If an SBA loan is secured by collateral, the lender may require insurance to protect that collateral against covered losses. Hazard insurance generally protects physical business property, such as buildings, equipment, or other assets, from risks covered by the policy. The specific coverage required depends on the type of collateral, the loan, the property’s location, and the lender’s requirements.
If you're applying for a loan, you may want to be prepared for additional coverage when your property faces risks that may not be included in a standard insurance policy. Depending on the location and circumstances, this may include coverage for hazards such as floods, windstorms, or earthquakes. Your lender may require evidence of adequate insurance before closing and may require the policy to remain in force for the life of the loan.
Flood Insurance
If the Federal Emergency Management Agency (FEMA) indicates that any part of the loan collateral is or will be located in a special flood hazard zone, you'll need to secure appropriate flood insurance. Borrowers who don’t maintain required flood insurance for the term of the loan are ineligible for future SBA assistance. The only exception is when flood insurance required for personal property collateral can’t be obtained or is prohibitively expensive.
Real estate insurance
For real estate insurance, coverage must be in the amount of the full replacement cost. If full replacement cost insurance isn’t available, the policy must be for the maximum insurable value.
Life insurance
Life insurance may be required as part of the risk-management component of an SBA loan. This is especially true when the business depends heavily on one or more individuals for its continued success. If the death of a key owner would materially affect the business’s ability to repay the loan, life insurance may provide funds to help address the outstanding debt.
Whether life insurance is required depends on the circumstances of the loan, including the business’s ownership structure, the role of the individual in the business, the loan amount and term, and the lender’s underwriting requirements. Instead of assuming that every SBA borrower needs a policy, ask your lender whether life insurance will be required and, if so, which owners or key individuals should be covered.
When coverage is required, the lender will typically specify the amount and term of coverage needed and may require the lender to receive a security interest or other rights in the policy. The requirements may also change based on the structure of the business or the level of risk the lender identifies during underwriting.
Liquor liability insurance
Any business that sells alcohol, regardless of size, is exposed to liquor liability and could benefit from purchasing liquor liability insurance.
Professional liability insurance
Professional liability insurance (PLI) protects professionals such as accountants, lawyers, and physicians against negligence and other claims initiated by their clients. Professionals who have expertise in a specific area require this type of insurance because general liability insurance policies don’t offer protection against claims arising out of business or professional practices such as negligence, malpractice, or misrepresentation.
Best practices to get business insurance
Here are four suggestions to consider before purchasing business insurance.
1. Assess your risks
Think about what kind of accidents, natural disasters, or lawsuits could damage your business. If you need help, the National Federation of Independent Business (NFIB) provides information for choosing insurance to help you assess your risks and make sure you've insured every aspect of your business.
2. Find a reputable licensed agent
Commercial insurance agents may help you find policies that match your business needs. Keep in mind that they receive commissions from insurance companies when they sell policies, so it's important to find a licensed agent who’s interested in your needs as much as his or her own.
3. Shop around
Prices and benefits may vary significantly. You should compare rates, terms, and benefits for insurance offers from several different agents.
4. Reassess annually
As your business grows, so do your liabilities. If you have purchased or replaced equipment or expanded operations, you should contact your insurance agent to discuss changes in your business and how they affect your coverage.
Final thoughts
It’s a smart strategy to have your ducks in a row before you apply for an SBA loan. Check with your lender before you start the application process to determine if you need additional insurance. Visit the SmartBiz Loans® Small Business Blog for articles that may help you prepare for the loan process:
- How to Qualify for an SBA Loan – This article takes a deep dive into the requirements to apply for an SBA loan and outlines how the application process works.
- SBA 7(a) Checklist – We’ve compiled a comprehensive checklist you may follow to help expedite the SBA 7(a) loan process.
FAQs
What insurance is required for an SBA loan?
SBA loan insurance requirements depend on the type of collateral, the loan's purpose, and the lender's policies. SBA lenders may require adequate insurance to protect collateral securing the loan. This may include hazard or property insurance, and additional coverage may be required depending on the business and its circumstances.
Is hazard insurance required for an SBA loan?
Generally, the answer is yes, especially when the loan is secured by business property or other insurable collateral. Hazard insurance helps protect the property against covered losses such as fire and certain other hazards. The lender will typically require coverage that is appropriate for the property and may require the lender to be listed appropriately on the policy.
Do you need life insurance to get an SBA loan?
Life insurance isn't automatically required for every SBA loan. However, the SBA or lender may require life insurance when an owner's death would materially affect the business's ability to repay the loan. Requirements may depend on factors such as the loan amount, ownership structure, and the lender's underwriting policies.
Do SBA loans require flood insurance?
Flood insurance may be required when collateral securing an SBA loan is located in a federally designated flood hazard area. If flood insurance is required, the lender generally needs evidence that appropriate coverage is in place before or as a condition of funding. Requirements may vary based on the property and its location.
Does an SBA loan require general liability insurance?
General liability insurance isn't a universal SBA requirement for loans. However, a lender may require it as part of its underwriting or risk-management requirements, particularly when the business's operations create liability exposure. Certain industries, leases, contracts, or professional requirements may also make liability coverage necessary regardless of the loan.
Can you get an SBA loan without business insurance?
It may be possible, depending on the business, loan structure, and type of insurance involved. However, if insurance is required to protect loan collateral or satisfy the SBA's or lender's requirements, the business generally must obtain the appropriate coverage before the loan may be funded. It's best to ask your lender about specific insurance requirements early in the application process so that you have time to secure the necessary policies.
