[co-authors: James Stevens, Jeremy Tomes]*

On May 8, the Office of the Inspector General (OIG) of the Small Business Administration (SBA) issued a report summarizing its review of the SBA’s implementation of the Paycheck Protection Program (PPP). The PPP provides guaranteed loans to certain businesses, individuals, and organizations as a lifeline in the wake of the coronavirus pandemic and outlines provisions for lending and forgiveness of these loans. In its report, the OIG concluded that although the SBA’s interim rules for implementing the PPP are “mostly aligned” with key provisions of Section 1102 of the CARES Act, which created the program, the SBA’s administration of the PPP has fallen short in four key areas:

• Prioritizing underserved and rural markets

• Loan proceeds eligible for forgiveness

• Guidance on loan deferments

• Registration of loans.

The OIG primarily attributed the SBA’s shortcomings to the agency’s inexperience with a program of such magnitude, noting that prior to the PPP, the SBA’s largest lending volume in any single year was $25.4 billion. The CARES Act authorized $349 billion for PPP loans, and subsequent legislation passed on April 24^th added another $310 billion to the program. As of May 6^th, the OIG report notes that SBA lenders had approved over 4 million loans totaling over $525.8 billion, an amount that is over 20 times larger than the SBA’s prior largest annual volume in just 33 days of PPP lending.

Regarding prioritizing underserved and rural markets, the OIG “did not find any evidence” that SBA-issued guidance emphasized such lending, including loans targeting veterans and members of the military, or small businesses owned or controlled by socially and economically disadvantaged individuals, women, or businesses in operation for less than two years. To this end, we note that SBA guidance making it easier to lend to existing customers that had already been verified under a lender’s BSA/AML program likely contributed to the relative lack of PPP lending to businesses with limited histories.

With respect to loan proceeds eligible for forgiveness, the OIG found that the SBA’s formal guidance failed to align to the allowable use requirements for PPP loans. Specifically, the OIG found that although the CARES Act “did not create any restrictions on the portion of the loan that needed to be used for payroll, [the] SBA added a requirement in its Interim Final Rule, that at least 75 percent of the loan proceeds must be used for payroll.” In addition, although the CARES Act authorized loan terms of up to 10 years for repaying amounts not eligible for loan forgiveness, the SBA imposed a two year repayment requirement. According to the OIG’s analysis of data from the first round of PPP lending, “tens of thousands of borrowers would not meet the 75-percent payroll cost threshold and would therefore have to repay the amount of nonpayroll costs in excess of 25 percent in less than two years.”

The OIG further found that the SBA had failed to issue guidance regarding the ability of borrowers to defer repaying PPP loans for a period of not less than six months and not more than one year. As a result of this deficiency, the OIG opined that “lenders may not be adequately prepared to service PPP loans that carry [non-forgivable] balances, and borrowers may not know what is required to repay outstanding balances.” To this end, the SBA’s interim rules restrict non-payroll uses of loan proceeds to payments of mortgage interest, rent and utilities. According to the OIG, “many small businesses have more operational expenses than employee expenses,” and thus will have non-forgivable balances.

Finally, the OIG found “no evidence that [the] SBA registered loans as required by the CARES Act.” The Act requires registration using the applicant’s taxpayer ID number. Although the SBA collected such numbers, it has not implemented the required loan registry.

SBA’S Suggested Actions

To address the above-noted deficiencies and “better align PPP requirements with the provisions of the CARES Act,” the OIG’s report recommends that the SBA implement the following actions:

• Issue guidance to lenders requiring the lenders to prioritize borrowers in underserved markets, and revise the PPP borrower application to include the collection of optional demographic information for principals for the remaining available lending authority and any future lending under the program.

• For loans that are already disbursed, include optional demographic information on forms used to request loan forgiveness.

• Evaluate the potential negative impact to borrowers regarding the specified percentage of loan proceeds eligible for forgiveness, and update the requirements, as deemed necessary.

• Issue guidance to lenders on the deferment process for PPP loans.

• Register PPP loans by TIN.

Key Points

• The OIG’s report highlights the fact that tens of thousands of PPP loans likely have non-forgivable balances which are required to be repaid. PPP lenders will need to ensure that adequate collections capacity exists to collect such balances, and those lenders found to be lacking are likely to face regulator criticism and potential enforcement action.

• The report’s emphasis on lending to underserved markets reinforces public statements issued by the federal banking agencies advising bank lenders that PPP loans are likely eligible to receive credit under the Community Reinvestment Act.

• It is unclear whether the OIG’s recommendation that the SBA revisit loan forgiveness will have an impact on existing PPP loans. In this regard, it is conceivable that a greater percentage of such loans could be deemed eligible for forgiveness.

* Troutman Sanders