Life Insurance Requirements for SBA Loans: An In-Depth White Paper
November 3, 2025
Ben Koplan
CLU, CFP®, LifeEase
Life Insurance Requirements for SBA Loans: An In-Depth White Paper
Executive Summary
This white paper provides a comprehensive overview of life insurance requirements, with a particular emphasis on Small Business Administration (SBA) loans. It details why life insurance is commonly required as collateral, how collateral assignment works, precise SBA requirements and exceptions, the underwriting process, and practical guidance for borrowers and lenders. This document is designed for business owners, insurance professionals, attorneys, and lenders seeking clarity and actionable information on this important topic.
1. The Role of Life Insurance in Business Lending
Businesses seeking additional financing—whether for inventory, equipment, expansion, or new markets—often turn to loans. SBA loans, especially the flagship 7(a) program, allow small businesses to secure large financing, with loan amounts up to $5 million covering diverse needs. However, a significant percentage of loan applications are declined each year, often due to insufficient collateral. Life insurance, assigned as collateral, can bridge critical gaps for approval.
Common Uses of Business Loans
- Expansion (42%)
- Equipment Purchases (29%)
- Commercial Real Estate/Remodeling, Marketing & Franchising
Reasons for Declined Applications
- Poor credit scores (personal/business)
- Insufficient collateral
- Insufficient cash flow
- High existing debt
2. Life Insurance as Collateral: How It Works
When used as collateral, life insurance functions as a form of security for the lender. The borrower or business purchases and owns the policy, designates the beneficiary, and pays premiums. The lender receives a “collateral assignment” during the loan term, meaning if the insured passes away before the loan is repaid, the lender will be paid the policy proceeds up to the outstanding balance. Remaining benefits go to named beneficiaries. On loan payoff, the collateral assignment is released, leaving the owner with the full policy for future planning (business or personal protection, etc).
3. SBA-Specific Life Insurance Requirements
SBA 7(a) Loan Program
- Typical Requirement: Life insurance is required, generally matching the full loan amount and term.
- Collateral Reduction: May accept reduced coverage or waive requirement if sufficient business or personal assets are pledged as collateral.
SBA 504 Loan Program
- Direct Collateral: Life insurance requirement is conditional, typically applying only if collateral is insufficient. Purchasing property or equipment may fully secure the loan, negating the need for insurance.
Non-SBA Commercial Loans
- Discretionary: Requirement is set by the lender, not standardized.
SBA Guidance and SOP 50 10 8
- Key Principle: If a business’s success depends on one or two individuals (sole proprietors,
single-member LLCs, critical owners), life insurance and collateral assignment are usually
required. - Determining Requirement: Lenders must assess business ownership, collateral sufficiency,
succession of management, and individual involvement in operations.
Coverage Amounts
- Should match or exceed loan principal and duration.
- May use new or existing policies if coverage and term satisfy the requirement.
- In scenarios where collateral (e.g., real estate) partially secures the loan, only coverage
equaling the unsecured balance may be required.
Assignment Process
- Assignment must designate the lender as “assignee” (not full beneficiary), recognized by
insurer’s home office. - Borrowers must ensure assignment is completed and premiums remain current. Delays or
lapses can stall loan closing or jeopardize the loan guarantee.
Exceptions
- If business is owned and operated by multiple equal partners with adequate succession,
requirement may be waived. - If an owner/principal is deemed uninsurable (e.g., due to health or age), lender must
document attempts and secure a written statement from a licensed provider confirming
inability to insure.
4. Impact of Life Insurance Collateral Assignment
For Lenders
- Risk Mitigation: Ensures the outstanding loan balance will be repaid in event of untimely
death of a key individual. - SBA Guarantee Protection: Meeting SBA insurance requirements is essential to maintaining
federal loan guarantee.
For Borrowers & Heirs
- Asset Protection: Prevents heirs/business partners from inheriting debt obligation or being
forced to liquidate assets. - Business Continuity: Provides funds for ongoing operations or succession plans.
5. Practical Considerations for SBA Life Insurance Assignment
- Timely Documentation: Coordinate underwriting and assignment early in the loan process to
avoid delays. - Coverage Selection: Work with knowledgeable insurance agents for policy
recommendations tailored to underwriting risks (e.g., age, health status, ownership
structure). - Monitoring: Lenders should monitor that premiums remain paid, and address cancellation
notices promptly.
6. Summary Table: SBA Loan Life Insurance Requirement
7. Key Case Examples
- Single Owner/Operator: Life insurance almost always required.
- Multiple Qualified Partners: May be exempt if succession assured.
- Substantial Collateral Provided: Reduced insurance may be required.
- Uninsurable Principal: Requirement may be waived with documentation.
8. Conclusion
Obtaining life insurance as collateral is a core requirement for SBA loans in most cases,
especially where business continuity depends on one or few individuals. The assignment
process, coverage selection, and ongoing communication between borrower, lender, and
insurer are essential to ensure compliance and safeguard all parties. Adhering to these
requirements can make the difference between approval and denial—while protecting both
lender and borrower interests if the unexpected occurs.
Learn more about LifeEase here.
The above information does not constitute legal, financial, tax, or other professional advice.