Why your LOI was declined, and what the bank actually tested

You found a good business. The broker liked you. Your resume, your credit and your down payment all checked out. Then the letter of intent came back declined, or the loan sat in underwriting for weeks and the lender stopped answering. Nobody told you which test you failed.

After almost twelve years of putting deals in front of SBA and conventional lenders, we can tell you that the business is rarely the problem and the buyer is rarely the problem. The deal, as written, was not bankable. Here is what the bank actually tested, and why a broker will turn down an offer before the bank ever sees it.

Brokers decline the LOIs they think will not finance

A seller’s broker has one job: get the business closed. An offer that looks generous on price but will not survive a credit desk costs the seller three months and usually a lower price afterward. So brokers read an LOI the way a lender would, and when the structure looks like it came from a template, they pass. They rarely say that out loud. They say the seller “went another direction.”

That is the first thing to understand: the LOI is where the deal is financed or not. By the time a lender sees it, the structure is already set.

The four tests

1. Coverage on every historical year, not the best one

Debt-service coverage is the ratio of the cash the business produces to the payments on the new loan. Lenders do not run it once. They run it on each of the last two or three years, after taking out a salary for you as the new owner and setting aside the working capital the business needs to operate. A business that was priced on this year’s earnings can fail the test on last year’s, and the lender will not carry the whole price if one year does not cover.

Most buyers never see this because the broker’s summary shows one number, usually the best year with every add-back the seller could find.

2. Add-backs that survive underwriting

The seller’s earnings figure is a recast: net income plus the expenses that supposedly will not continue under you. Some of those are real. The owner’s own salary above market, a one-time legal bill, a family member on payroll who does not work there. Others are hopeful. A “personal” truck the business needs, travel that was really customer entertainment, repairs that will recur.

A lender’s analyst strikes the hopeful ones and reruns coverage. On a business with $600,000 of claimed earnings, losing $80,000 of add-backs can be the difference between a loan and a decline. The buyers who get financed are the ones who did that strike-through themselves, before the offer, and priced accordingly.

3. The equity injection and the seller note

An SBA 7(a) acquisition requires the buyer to put real equity into the deal, and every lender has its own policy on what counts: cash, sometimes a seller note, sometimes neither. When a seller note is allowed to count, the lender usually requires it to sit on standby, meaning the seller is not paid on it for a period the lender sets. A note that pays the seller monthly from day one does not count toward anything, and it competes with the bank for the same cash flow.

The 80/10/10 structure that circulates in buyer courses, eighty percent bank debt, ten percent seller note, ten percent buyer cash, is a starting point. It is not a rule, and it is the single most common reason we see for a declined LOI: the buyer offered a structure the lender’s policy does not allow, and nobody caught it until credit did.

4. The valuation and the Quality of Earnings

On a change of ownership, the lender needs the price supported by an independent valuation, and above certain deal sizes a Quality of Earnings report on the seller’s numbers as well. If the price in your LOI is above what a valuation will support, the gap has to be filled with more equity, a bigger seller note on standby, or a lower price. If the seller will not move, the deal dies in month three, after you have paid for the appraisal.

Buyers who know this ask one question before they sign: “What price will the valuation carry?” It is usually a different number from the asking price.

Why the lender stopped answering

A lender who goes quiet is usually a lender whose analyst has found a problem the loan officer does not want to deliver. The file is not dead; it is stuck behind a question nobody has asked you yet. Sometimes that question is small, a missing tax transcript or a year of coverage that needs an explanation. Sometimes it is the structure, and the file will not move until the LOI is amended.

Either way, the fix is the same: find out which test failed, change the deal so it passes, and put the answer in front of the bank the same day. Waiting does not help, and switching lenders without changing the structure means failing the same test in a new building.

What a bankable LOI looks like

• A price set against what a lender will carry, not against what the seller hopes for, with coverage checked on every year the bank will look at.
• A recast you did yourself, with the add-backs you expect the analyst to strike already removed.
• An equity injection and seller note that match the lender’s policy, including the standby terms, settled before the offer goes out.
• A working capital figure in the structure, so the loan funds the business and not only the purchase.
• The lender chosen before the LOI, so the file goes to a desk that has funded this kind of business before.

On a general contractor acquisition we are structuring now, the seller’s books were recast three years back, reconciled to the transaction level, and the lender’s own model was run on the restated numbers before the term sheet was written. The deal still clears credit on the date in the LOI because the tests were run before the bank ran them.

If you are under LOI right now

Send us the LOI or the deal summary and the broker’s financials. A senior advisor reads them and comes back within 24 hours with the scope and the price for a deal structure engagement, or, if the deal cannot be financed as written, with a fast no and the number that would make it work. Buyers at this stage are against the wall with the seller waiting, so we work on the deal’s clock. Ask for a scope.

Still choosing a target? A deal review runs these tests on a listing before you write the offer, with a written memo in two business days and an hour with an advisor, from $199.

Investment Consulting USA is not a lender and does not approve loans. Lender credit policies differ and change; the tests above are the ones we see applied most often, and your lender’s own policy governs.