Seller Financing

The terms that actually get negotiated

'Seller carries 15 percent' is not a deal term, it is the opening of one. Seven variables determine what the note is worth to the person holding it:

• Principal — the carried amount, usually expressed as a percentage of purchase price.
• Rate — commonly 6 to 10 percent as of 2026, frequently below the bank rate, because a seller carrying paper is buying a closing rather than making an investment.
• Term and amortization — three to seven years is standard, and whether the note fully amortizes or ends in a balloon changes the buyer's coverage profile dramatically.
• Standby and subordination — whether the note sits on full standby, with no principal and no interest paid for a stated period, or is merely subordinated to the bank while continuing to amortize. On SBA-financed deals the lender dictates this, and it is the single biggest driver of when the seller sees money.
• Security — a UCC-1 on business assets behind the bank's lien, a pledge of the buyer's equity, a personal guarantee from the buyer, or in weak deals nothing at all.
• Right of offset — whether the buyer may reduce note payments to satisfy an indemnification claim. Unlimited offset rights are a standard point of contention; sellers' counsel typically seeks a cap, or a requirement that the claim be finally determined before any offset is taken.
• Default remedies and cross-default — what happens if the buyer misses payments, and whether a default under the bank loan trips the seller note as well.

A worked example inside a real capital stack

A $3,200,000 purchase price financed as $2,240,000 of bank debt (70 percent), a $480,000 seller note (15 percent), and $480,000 of buyer equity (15 percent).

The seller note is written at 8 percent over 5 years with the first 24 months interest-only, which is what a partial standby — interest permitted, principal deferred — usually looks like in practice.

Months 1 through 24: interest only, at $480,000 times 8 percent divided by 12, or $3,200 per month.

Months 25 through 60: the $480,000 of principal amortizes over the remaining 36 months at 8 percent, which is $15,041 per month.

Total paid over the five years is $618,292, of which $138,292 is interest. The seller who carried $480,000 receives $618,292 in total, and receives 88 percent of it in years three through five.

Two things fall out of that schedule that both sides should see before signing. The seller is exposed for two full years while receiving interest only, so the entire principal is at risk through the riskiest stretch of the buyer's ownership. And the buyer faces a step-up from $3,200 a month to $15,041 a month in month 25, a $142,000 swing in annual debt service. Any debt service coverage ratio calculated only on year one is describing a deal that does not exist in year three.

Why a seller agrees, and the tax angle

Sellers carry paper for four reasons, in roughly this order of frequency. The lender required it. It expands the buyer pool to people who cannot write the full check. It signals confidence, since a seller refusing to carry anything tells every buyer something about the durability of the earnings. And it can defer tax.

On the tax point — general information about US federal tax law, not tax advice for any particular transaction — the installment method under Section 453 of the Internal Revenue Code generally allows a seller to recognize gain attributable to the note as principal payments are received, rather than entirely in the year of sale, which can spread the gain across several tax years and keep a seller out of a higher bracket. Two carve-outs recur in practice. Depreciation recapture is recognized in full in the year of sale regardless of the installment terms, under Section 453(i). And the installment method does not apply to inventory. Because the allocation of purchase price across asset classes drives both the recapture and the deferral, and because that allocation is customarily fixed in the letter of intent long before the closing documents are drafted, sellers typically bring their own tax adviser into the structure conversation before the letter of intent is signed rather than after.

What sellers and brokers underestimate

The note is unsecured risk, not deferred cash. A seller in second position behind an SBA lender, on a business now operated by someone else, holds an instrument whose value depends entirely on the buyer's performance. That risk gets priced into the rate or into the headline price, or it gets absorbed silently — a $3,200,000 deal with $480,000 carried is not a $3,200,000 deal.

Standby means standby. Sellers routinely hear 'the note is on standby for two years' and continue to model receiving payments. Full standby means zero dollars for the standby period, and a lender can require it for longer than the seller expects.

A seller note with a broad right of offset behaves like an earn-out with worse optics. If the buyer can withhold note payments over any disputed indemnity claim, the seller has effectively accepted a contingent payment without being compensated for the contingency, which is why the offset language deserves the same attention as earn-out mechanics.

Collecting on a default is expensive and slow. The bank's lien sits ahead of the seller's, the business is usually worth less by the time the default occurs, and foreclosing on a business already sold is a poor outcome for everyone in the room. The seller's real protection is buyer selection and a meaningful equity injection, not the remedies section.

The buyer's ability to service the note is not separable from the price. Every dollar carried is a dollar of debt service the business has to produce, so the seller note, the bank loan and the SDE multiple all have to clear the same coverage test simultaneously.

Related terms

• Debt Service Coverage Ratio (DSCR)
• Earn-Out
• Letter of Intent (LOI)
• Asset Sale vs. Stock Sale