A sale-leaseback makes sense when the equity locked in your building can do more work elsewhere, such as retiring expensive debt, buying out a partner or funding growth, and the business can comfortably pay the new rent. You sell the property to an investor and sign a long lease to stay. The cash is real, but so is the rent: lenders treat it as a fixed charge, much like debt service. If coverage still works with the rent counted, you have put idle equity to work. If it doesn't, you have borrowed against your building on worse terms than a mortgage, with no end date.
- What you get
- The building's equity in cash, without a new loan on your balance sheet
- What you give up
- Ownership, future appreciation and control over the property
- New cost
- Rent, usually on a long triple-net lease
- How lenders see the rent
- A fixed charge, counted beside debt service in fixed charge coverage
- When it works
- Proceeds retire costlier capital, and coverage holds after the rent
- When to walk away
- Proceeds leave the business and coverage gets thin
What a sale-leaseback actually trades
In a sale-leaseback, the company (or the owner's real estate entity) sells the building it operates from to an investor and, at the same closing, signs a lease to keep using it. The buyer is usually a real estate investor who wants a long, dependable rent stream from an operating tenant. Nothing about the business changes on the day. What changes is the balance sheet: a building and possibly a mortgage come off, cash comes in, and a lease obligation starts.
The trade is simple to state. You swap an asset that earns you nothing but saved rent and slow appreciation for cash you can put to work, and in exchange you take on rent for as long as you stay. Whether that is a good trade depends on two numbers you can calculate before you sign: what the cash will earn or save where you put it, and what the rent will cost against the cash flow the business actually produces.
The investor sets its price from the rent you agree to pay. A higher rent buys a higher price, which is why a sale-leaseback behaves like a loan: you can take more cash up front by committing to pay more every year. Treat the rent the way a lender would, as a fixed obligation that does not flex when a year goes badly.
Where the proceeds go decides whether it's worth it
Owners use sale-leaseback proceeds for three things, and they are not equally sound.
- Paying down expensive debt. Retiring a high-cost term loan, a stack of merchant cash advances or a mezzanine note swaps an expensive obligation for rent that is usually cheaper. Fixed charges can fall even after the rent is added.
- Buying out a partner or funding a recapitalization. The cash leaves the business, but the rent stays. This can be the right way to settle ownership without selling the company, as covered in recapitalizing a business. The test is whether coverage survives with the rent added and no debt retired.
- Funding growth. Proceeds that go into equipment, a second site or an acquisition can earn more than the building did. The rent starts on day one, and the return from the new investment arrives later, if it arrives. Lenders will look at coverage on today's results, not on the plan.
If the goal is simply cash for the owners and the business is already leveraged, a sale-leaseback usually makes the company weaker. That is the case to think hardest about before signing.
How lenders count the rent
Once you rent the building, the rent is an operating expense, so reported EBITDA falls by the amount of the rent. Where a lender's fixed charge coverage definition includes rent, as many do, it adds the rent back to earnings and then counts it as a fixed charge alongside principal and interest. Where the definition leaves rent out, the rent still comes straight out of the earnings the test starts from. The rent does not disappear from the test; it moves from the building's mortgage payment, if there was one, to a lease payment that never ends while you stay. See DSCR vs FCCR for how the two tests differ.
Here is a worked example in plain numbers. A business earns EBITDA of 1,000 while owning its building. After cash taxes and maintenance capex of 150, it has 850 to cover fixed charges. It pays 120 a year on a mortgage with a balance of 600, and 480 a year on a term loan with a balance of 1,800. Suppose its lender's covenant is 1.25x, so fixed charges must stay at or below 680.
| Before | After: proceeds repay the term loan | After: proceeds go to the owners | |
|---|---|---|---|
| Sale price of the building | — | 2,000 | 2,000 |
| Mortgage paid off at closing | — | 600 | 600 |
| Net proceeds and where they go | — | 1,400 to the term loan | 1,400 out of the business |
| New annual rent | 0 | 210 | 210 |
| Mortgage payments | 120 | 0 | 0 |
| Term loan payments | 480 | about 107 | 480 |
| Total fixed charges | 600 | about 317 | 690 |
| Cash flow available | 850 | 850 | 850 |
| Room under a 1.25x covenant (fixed charges could reach 680) | 80 | about 363 | 10 over the limit |
The same transaction produces opposite results. Used to retire the term loan, it cuts fixed charges roughly in half. Used to pay the owners, it swaps a 120 mortgage payment for 210 of rent, keeps every dollar of term loan debt, and pushes fixed charges past what a 1.25x covenant allows. Run this arithmetic with your own figures and your own covenant before you talk to a buyer. The debt service coverage and covenant headroom pages show the other tests a lender may apply.
A sale-leaseback puts idle equity to work only if coverage still holds with the rent counted. Check that first.
The lease terms that decide the real cost
The sale price gets the attention, but you will live with the lease for far longer. These are the terms worth negotiating, and the ones a future lender or buyer of your business will read.
| Term | What to look for | Why it matters later |
|---|---|---|
| Initial term and renewals | A long initial term with renewal options at your election | Lenders want the lease to outlast their loan; a short lease on a critical site is a credit risk |
| Rent and escalators | A starting rent you can cover in a weak year, with predictable increases | Escalators compound; the rent in year ten is the one that tests you |
| Triple-net obligations | Clarity on who pays taxes, insurance, roof and structure | Major repairs you must fund act like extra rent |
| Assignment and change of control | The right to assign the lease to a buyer of the business | A lease that can't transfer can block a sale; see why the lease matters in a business purchase |
| Purchase option or right of first refusal | A chance to buy the building back | Keeps a path back to ownership; affects how the deal is accounted for |
| Landlord cooperation | A commitment to sign a landlord waiver for your lenders | Asset-based and equipment lenders need access to collateral inside the building |
| Guaranty | Whether the owners must personally guarantee the lease | A personal guarantee on a long lease is a large contingent obligation |
Accounting matters too. Under current lease accounting, a long lease puts a right-of-use asset and a lease liability on your balance sheet, and some lenders adjust leverage for it. If the leaseback is structured as a finance lease, or you keep an option to repurchase at a set price, the transaction may not count as a sale at all and will be treated as a financing. Have your accountant review the structure before you agree it.
Consents, payoffs and taxes
If the building secures a loan, that loan is paid off from the proceeds. A mortgage may carry a prepayment penalty, and an SBA 504 loan has its own prepayment terms, so get a payoff letter early. If your operating company has a credit facility, read its negative covenants: most restrict asset sales and many require the net proceeds to prepay the loan. The lender's consent, and its agreement on how the cash is applied, belongs in the plan from the start.
A sale can trigger tax on the gain and recapture of depreciation you have taken on the building. The after-tax proceeds, not the headline price, are what you have to deploy. That is a question for your tax adviser, and it can change which option below wins.
Sale-leaseback against the other ways to use the building
A sale-leaseback is one of several ways to turn real estate into capital. A cash-out refinance keeps ownership but adds debt. An SBA 504 refinance can refinance owner-occupied real estate on long terms if you meet its occupancy rule of at least 51% of an existing building. Keeping the building unencumbered can be worth something too, as collateral that supports a larger operating loan.
| Option | Cash raised comes from | Ownership | Ongoing cost | Effect on covenants |
|---|---|---|---|---|
| Sale-leaseback | The building's full sale value, less any mortgage | Given up | Rent, often with escalators | Rent becomes a fixed charge; debt falls if proceeds repay it |
| Cash-out refinance | A new mortgage against appraised value | Kept | Principal and interest | Adds debt; leverage and debt service both rise |
| SBA 504 refinance | Bank and CDC loans on owner-occupied property | Kept | Long-term principal and interest | Adds debt on long amortization |
| Keep it unencumbered | Nothing now | Kept | Taxes, insurance and upkeep | The building supports collateral coverage for other loans |
A sale-leaseback usually raises the most cash and leaves the least debt on the books. It also removes the one asset that can outlast a bad year. Owners who plan to sell the company should also weigh how buyers price a business that rents its home; see buying the building with the business vs leasing it and, if you want to keep the building but separate it from the business, the propco/opco structure.
How we look at one
When a sale-leaseback is part of a refinancing or a recapitalization, we model it the way a lender will: EBITDA after the new rent, fixed charges with the rent included, leverage with and without lease adjustments, and the covenants the new or existing lender will test. That model goes into the lender package with the rest of the file, so every lender sees the post-transaction business, not the one that owned its building. Once documents are in, the package is built in a day. How we underwrite explains what goes into it.
Common questions
- Is a sale-leaseback a loan?
- Legally it is a sale and a lease, but it behaves like financing: you receive cash now in exchange for fixed payments for years. If you keep a repurchase option at a set price or the lease is a finance lease, accountants may treat it as a financing rather than a sale.
- Will my lender let me do a sale-leaseback?
- If the building secures their loan, it has to be paid off at closing. If it doesn't, your credit agreement probably still restricts asset sales and may require the proceeds to prepay the loan. Expect to need consent, and expect the lender to re-run fixed charge coverage with the rent included.
- Does rent count against me in a coverage test?
- Yes, one way or another. Where the lender's fixed charge coverage definition includes rent, the rent is added back to earnings and then counted as a fixed charge next to principal and interest. Where it doesn't, as in most debt service coverage tests, the rent still reduces the EBITDA the test starts from.
- Can SBA loan proceeds fund a sale-leaseback or the cash I take out?
- No SBA loan is involved: the investor buying the building pays for it. The SBA rule that matters comes later. SBA loan proceeds cannot fund a distribution to owners, or refinance debt that did, so if leaseback cash goes to the owners and the business then borrows to replace it, that replacement debt cannot be refinanced into a 7(a) loan. An SBA lender will trace how the proceeds were used.
- How long should the lease be?
- Long enough to outlast any loan the business will carry and any sale you are planning. Renewal options at your election give you length without committing to it. A short lease on a site the business can't easily leave is a risk lenders and buyers will price.
- Is a sale-leaseback better than a cash-out refinance?
- It raises more cash and leaves less debt, but you lose ownership and future appreciation and take on rent for as long as you stay. A cash-out refinance keeps the building and adds debt. Compare both on after-tax proceeds and on coverage after the transaction.