You've found the acquisition target that checks every box.

Strong cash flows: $1.5M in owner-adjusted EBITDA. Experienced management team that's staying on. Defensible market position in a fragmented industry. Multiple-year customer contracts. The kind of business that compounds predictably.

Purchase price: $7.5 million.

Your SBA lender delivers the constraints: SBA 7(a) financing maxes out at $5 million per borrower—a statutory limit that has constrained larger acquisitions for over a decade. For the remaining $2.5M, the typical alternative is a blend of equity and seller-side instruments (seller note, earnout, subordinated debt). In practice, that mix often results in buyers giving up roughly 25–30% ownership—without materially reducing complexity or execution risk.

Or you walk away from a deal that otherwise makes strategic sense.

This financing gap—the space between what SBA will cover and what larger acquisitions actually cost—has historically been a major constraint for self-funded searchers. While some buyers have bridged this gap using aggressive seller notes or partial equity, deals above $5M remained difficult to finance without institutional capital.

In recent years, that constraint has begun to ease.

A small, specialized group of lenders now offers "pari passu" structures—conventional debt instruments structured to sit alongside SBA loans at equal priority. These structures don't change the SBA cap itself, but they add senior conventional debt that can extend total financing to $6.5-8.5M (with exceptional deals reaching ~$9M), with rates typically ~1-3% above the SBA portion.

But the availability of these structures raises several questions the promotional materials don't emphasize:

Why are lenders suddenly willing to take this risk? What happens to businesses carrying dual debt service when revenue growth stalls? And what does the adoption of these structures signal about either opportunity or risk in the lower-middle market and Main Street?

The term "pari passu" is Latin for "equal footing"—in lending, it means two loans with equal claim priority on the same collateral.

Here's how the structure typically works:

Layer 1: SBA 7(a) Loan ($5M maximum)

Layer 2: Conventional Pari Passu Loan (typically $1.5-3M additional)

Layer 3: Seller Note (10-30% typical)

Layer 4: Buyer Equity (10-20% typical)

The critical innovation isn't the existence of multiple debt layers—mezzanine lending has existed for decades. The innovation is that the conventional portion sits at the same priority level as the SBA loan, not subordinated behind it.

Note: The first case below is deliberately hypothetical to illustrate a failure mode most lenders would decline under DSCR screens.

To illustrate why pari passu structures require exceptional business quality, consider an over-leveraged scenario that would not receive underwriting approval:

A buyer financing a $7.5M acquisition with $5.0M SBA 7(a) at Prime + 2.75% (≈9.75%) on a 10-year amortization and $2.0M conventional pari passu at ~12–13% (also 10-year) would face approximately $1.13–$1.15M in annual senior debt service—before any seller-note or working-capital requirements.

At $1.2M EBITDA, this results in DSCR ≈ 1.04–1.06x, meaning 92–96% of cash flow is consumed by senior debt service. This is well below typical lender minimums (generally ≥1.25x) and therefore would not be approved.

A more realistic case: the same $7.5M acquisition supported by $1.5M EBITDA produces DSCR ≈ 1.28–1.35x—tight but within lender tolerance for highly stable, contract-driven businesses. Even then, senior debt service consumes ~74–78% of EBITDA, leaving ~$330–390K in remaining cash flow compared to ~$700K under SBA-only financing—demonstrating the materially reduced cash flexibility inherent in pari passu structures.

Three converging market dynamics explain the recent adoption:

The search fund market has expanded significantly over the past decade. Traditional (investor-backed) search funds commonly acquire in the low- to mid-eight figures EV, with median purchase prices ≈ $12.8–$14.4M in recent Stanford studies.

Self-funded searchers typically pursue smaller, SBA-financeable targets—often SDE-based or sub-$10M EV—where bankable multiples keep leverage workable. But rising valuation expectations—driven by competitive buyer pools, compressed supply, and stronger seller positioning—have pushed a growing share of otherwise “SBA-sized” targets above the $5M financing threshold.

In practice, the gap between what SBA can finance and what high-quality SMBs actually cost has widened, creating demand for structures that extend debt capacity without introducing outside equity partners.

The COVID-era disruption became a stress test for small-business resilience. Businesses that remained profitable through 2020-2021 demonstrated strong unit economics or operational adaptability. For lenders evaluating risk in 2023-2025, this created a selection effect: the surviving cohort was inherently stronger.

Live Oak Bank—the nation's largest SBA 7(a) lender—approved 2,280 SBA loans totaling $2.8B in FY2025, reinforcing lender confidence in extending beyond SBA-only structures.

When Prime was 3-3.5% (2020-2021), dual SBA + conventional all-in costs sat near 7-9%. As Prime climbed to 8.5% in 2023, all-in borrowing costs rose to 11-14%.

This should have killed demand for leveraged acquisitions. But simultaneously, equity investors sought 25-35% ownership stakes for $1-2M checks.

For buyers confident in stable cash flows and 3-5 year hold periods, retaining control even at higher interest rates became the superior economic trade-off.

Unlike traditional SBA lending—where hundreds of banks participate—the pari passu market is concentrated among a small number of SBA Preferred Lenders:

Lenders with public combination / pari passu programs:

Specialized non-bank arrangers:

Regional SBA PLPs participating on a case-by-case basis:

Who's absent:

Large national banks (Chase, Bank of America, Wells Fargo) do not publicly market pari passu SBA/conventional structures. This remains a relationship-driven, semi-bespoke financing solution.

Across public deal examples and lender commentary, consistent patterns emerge:

Common characteristics:

What's absent:

Realistic financing reach:

Most pari passu structures land in the $6.5-8.5M range. Deals exceeding ~$9M require exceptional stability, collateral support, and buyer track record.

For a $7.5M acquisition generating $1.2M EBITDA:

Traditional SBA-only structure (5M loan):

Pari passu structure (5M SBA + 2M conventional):

This is a dramatic shift—debt service now consumes ~92-98% of EBITDA.

With DSCR stretching toward 1.15-1.20x in some models, there is minimal cushion. Most lenders prefer 1.25-1.35x DSCR at close.

Two senior loans = two covenant packages. Violating one can trigger cross-default across both.

SBA loans amortize over 10 years. Conventional pari passu loans often balloon at year 5-7, creating forced refinancing or exit pressure.

Personal guarantees now cover $7-8M instead of $5M. Only the SBA portion is government-guaranteed; the conventional lender can pursue personal assets aggressively.

Public data on pari passu outcomes is limited:

We do not know:

These structures began proliferating after 2020; they have not yet been tested by a downturn of significance.

The intellectually honest view:

Pari passu works for experienced operators buying stable, cash-generative businesses. It is riskier than SBA-only—but often cheaper than giving up 25-35% equity.

Pari passu makes strategic sense when:

Pari passu is likely a mistake when:

Step 1: Calculate debt service coverage.

Model EBITDA at 85% of current performance. If DSCR < 1.25x, structure is too aggressive.

Step 2: Stress-test working capital.

Model peak WC needs + 25% buffer.

Step 3: Assess execution risk.

If value creation requires significant investment, pari passu limits flexibility.

Step 4: Compare to equity dilution.

Debt may be NPV-positive even at 13-14% rates—if cash flows are stable and exit multiples hold.

Step 5: Negotiate structure flexibility.

Pari passu and hybrid debt structures have meaningfully expanded financing options for self-funded acquisitions in the $6.5-8.5M range—beyond what SBA-only financing could support, while preserving owner control.

But the innovation comes with real trade-offs:

For experienced operators acquiring stable, defensible businesses, these structures can unlock acquisitions that were previously out of reach.

For others, the reduced margin for error can turn manageable challenges into existential crises.

Key insight: These structures don't eliminate risk—they reallocate it. Instead of equity dilution risk (control, influence, forced exits), you assume leverage risk (cash flow compression, higher PG exposure, refinancing obligations).

Optionality only creates value when you understand exactly what you're choosing.

What's your experience with hybrid debt structures in acquisitions? Have you successfully deployed pari passu financing, or have you deliberately avoided it?

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