The Coronavirus Aid, Relief, and Economic Security Act (CARES Act) Paycheck Protection Program (PPP) aims to provide qualifying small businesses, nonprofit organizations, veterans organizations, tribal businesses, sole proprietors, and independent contractors forgivable loans of up to $10 million. The PPP is operated similarly to the Small Business Administration’s 7(a) Loan Program – the SBA’s primary program for providing financial assistance to small businesses. In contrast to the SBA 7(a) Loan Program, the SBA has authorized a wide variety of financial institutions (searchable here) to make PPP loans.
On April 2, 2020, the SBA published an interim final rule and updated the application form in order for lenders to begin issuing loans on April 3. The interim final rule was supplemented on April 3 (regarding affiliation and faith based organizations), April 14 (regarding self-employed individuals), April 24 (regarding promissory notes, authorizations, affiliation and eligibility), April 27 (regarding seasonal employers), April 28 (regarding disbursements), April 30 (regarding corporate groups and nonbank and non-insured depository institution lenders), May 5 (regarding nondiscrimination and additional eligibility criteria), May 8 (extending the deadline for ineligible borrowers to return loan disbursements), May 13 (regarding increasing loan amounts to include partner compensation), May 14, (eligibility on certain electric cooperatives), and May 18 (treatment of entities with foreign affiliates), and is subject to further revision during a public comment period. The SBA, in consultation with the Department of the Treasury, has also posted additional FAQs to address borrower and lender questions, which have been updated on an almost-daily basis. On April 22, 2020, Congress approved an additional $310 billion increase to program after the $349 billion initially allotted under the CARES Act was exhausted. On May 3, 2020, the SBA reported that it had processed over 3.8 million loans for more than half a trillion dollars in less than one month.
Current key PPP features are described below.
When must I submit a loan application?
The last day to apply for and receive a PPP loan is June 30, 2020, although it is likely that the money will be exhausted before that date. Given that PPP loans will be made on a first-come, first-served basis, prospective borrowers are encouraged to apply as soon as possible.
Who is eligible for PPP relief?
- Small Business Concerns. Under the Small Business Act, “small business concerns” must be independently owned and operated, located within the United States and not dominant in their field of operation. They must also fall below certain size standards set by the SBA, which are sorted by NAICS code and available here. Additionally, a prospective borrower will qualify as “small business concerns” if it met the following criteria as of March 27, 2020:
- (1) the maximum tangible net worth of the business was not more than $15 million; and
- (2) the average net income after federal income taxes (excluding any carry-over losses) of the business for the two full fiscal years before the application date is not more than $5 million.
- Other businesses, nonprofits, veterans organizations, or tribal business concerns. Other types of businesses and nonprofits may be eligible to receive loans if they have fewer than the greater of (i) 500 U.S. based employees or (ii) the number of employees listed by NAICS code in the SBA’s “size standards” available here.
- Note: The CARES Act includes a waiver of certain rules for affiliated entities (such as chain hotel and restaurant franchises). Businesses that are majority owned, directly or indirectly, by a common parent may not receive more than $20 million in PPP loans in the aggregate.
- Sole proprietors and independent contractors, including “gig economy” workers, are also eligible to receive loans. The eligibility criteria for sole proprietors and independent contractors is available here.
- Under the interim final rules, the following prospective borrowers are ineligible from participating:
- Employers engaged in any activity that is illegal under federal, state, or local law (including cannabis companies operating under valid state and local licenses);
- Individuals who employ household employees (such as nannies or housekeepers);
- Employers where an owner of 20% or more of the equity is incarcerated, on probation, on parole; presently subject to an indictment, criminal information, arraignment, or other means by which formal criminal charges are brought in any jurisdiction; or has been convicted of a felony within the last five years;
- Employers who have obtained a direct or guaranteed loan from the SBA or any other federal agency that is currently delinquent or have defaulted within the last seven years and caused a loss to the government;
- Hedge funds and private equity firms; and
- Employers that are the debtor in a bankruptcy proceeding, either at the time they submit their application or at any time before the loan is disbursed.
Note: Prospective borrowers in certain industries that were ineligible for SBA 7(a) loans may still be eligible for PPP loans, such as small casinos and other 31016\13322641.113322641.2 legal gaming businesses (pursuant to the Interim Final Rule published April 24, 2020). In addition, on May 11, 2020 a Michigan federal court ordered in favor of a group of strip clubs who argued that they should be also eligible for PPP funds (DV Diamond Club of Flint LLC v. SBA, E.D. Mich., No. 20-cv-10899, 5/11/20).
The PPP expressly excludes creditworthiness, collateral, or personal guaranty requirements. It also waives the SBA requirement that prospective borrowers certify their inability to get credit elsewhere. Instead, all that a prospective borrower needs to establish is that (i) it was in operation on February 15, 2020, and (ii) that it had employees for whom it paid salaries and payroll taxes (note that “(ii)” does not apply to prospective borrowers who are sole proprietors or independent contractors).
What does “the uncertainty of current economic conditions makes necessary the loan request” actually mean?
In the loan application, prospective borrowers must certify, among other things, “that the uncertainty of current economic conditions makes necessary the loan request” to support ongoing operations. The SBA has stated that borrowers must make this certification in good faith, taking into account their current business activity and their ability to access other sources of liquidity sufficient to support their ongoing operations in a manner that is not significantly detrimental to the business.
- Note: On May 13, 2020, the SBA clarified that any borrower who, together with its affiliates, received less than $2 million of PPP loans will be deemed to have made the required certification concerning the necessity of the loan request in good faith.
Presumably sources of liquidity “significantly detrimental to the business” means high interest loans or equity offerings that would cause significant dilution to existing shareholders, although the Department of the Treasury has not provided additional clarification. The most basic reading of the guidance is that public company loan applicants, and private company loan applicants with adequate sources of liquidity, will be under greater scrutiny when making the “hardship certification,” but that all companies now have some affirmative obligation to consider alternative sources of cash in connection with their application. According to Sec. Mnuchin, “[t]he intent of [the PPP] was for businesses that needed the money…not for big public companies that have access to capital…[and] not for companies that have access to plenty of liquidity and other sources.” At minimum, borrowers should prepare an internal memorandum describing the financial hardship resulting in their need for PPP funds, as well as their access to other sources of liquidity.
Any borrower that applied for a PPP loan prior to the issuance of this guidance and repays the loan in full by May 18, 2020 will be deemed by SBA to have made the required certification in good faith.
Lastly, the SBA has decided, in consultation with the Department of the Treasury, that it will review every loan in excess of $2 million (in addition to other loans, as appropriate, following the lender’s submission of the borrower’s loan forgiveness application).
What are the loan terms?
The maximum amount of any loan will be the lesser of (i) $10 million and (ii) 2.5 times the average total monthly payments for “payroll costs” incurred either during the 1-year period before the date the loan application was submitted or, at the borrower’s election, during the 2019 calendar year (with adjustments for seasonal employers and new businesses). For company groups that are majority owned, directly or indirectly, by a common parent, the maximum loan amount may not exceed $20 million in the aggregate (even if the related businesses are eligible for waivers of the affiliation provisions under the CARES Act or are otherwise not considered to be affiliates under the SBA’s affiliation rules).
For purposes of the program, “payroll costs” include:
- salary, wages, commissions, or similar compensation; cash tips or the equivalent (based on employer records of past tips or, in the absence of such records, a reasonable, good-faith employer estimate of such tips);
- payment for vacation, parental, family, medical, or sick leave;
- allowance for separation or dismissal;
- payment for the provision of employee benefits consisting of group health care coverage, including insurance premiums, and retirement; and
- payment of state and local taxes assessed on employee compensation.
For purposes of the program, “payroll costs” exclude:
- compensation paid to employees residing outside of the United States;
- employee cash compensation in excess of $100,000;
- compensation paid to independent contractors (since they presumably have the ability to apply for their own loan under the program);
- federal employment taxes imposed or withheld; and
- certain qualified sick and family leave wages for which a credit is allowed under the Families First Coronavirus Response Act.
The amount of any Economic Injury Disaster Loans received between January 31, 2020 and April 3, 2020 will be added to the loan amount and subject to the $10 million cap.
Prepayment penalties, annual fees, and origination costs are all waived. Loans will accrue fixed interest at a rate of 1.0%, with a maturity date on the second anniversary of the origination date. Lenders are also required to provide complete payment deferment of principal, interest, and fees for 6 months (however interest will accrue over this period).
Each prospective borrower may only apply for one PPP loan.
The lender must make a one-time, full disbursement of the loan no later than 10 calendar days from the date of loan approval.
What can PPP funds be used for?
Proceeds from the loans may be used to cover “payroll costs” (as defined above), mortgage interest payments, rent, utilities, and interest on debt incurred prior to February 15, 2020 (as well as refinancing Economic Injury Disaster Loans). At least 75% of the PPP loan proceeds must be used for payroll costs.
What types of debt will be forgiven?
Borrowers are eligible for forgiveness of their “payroll costs” (as defined above), mortgage or rent obligations, and utility payments for an 8-week period beginning on the origination date of a covered loan. Loan forgiveness may not exceed the principal amount of the loan, and will be reduced (i) proportionately if employees are laid off, and (ii) dollar-for-dollar to the extent that employee salaries are reduced by more than 25%. Prospective borrowers will have until June 30, 2020 to restore full-time employment and salary levels for any changes made between February 15, 2020 and April 26, 2020. Additional guidance from the SBA on loan forgiveness is still forthcoming.
What type of documentation is required for a loan?
In addition to the loan application form, which is available here, prospective borrowers should also be prepared to submit additional documentation necessary to establish eligibility (such as payroll processor records, payroll tax filings, Form 1099-MISCs, or income and expenses from a sole proprietorship). If a prospective borrower does not have this documentation, it must provide other supporting documentation, such as bank records, sufficient to demonstrate the qualifying payroll amount.
What are the penalties should SBA determine that I was ineligible for a loan?
On May 13, 2020, the SBA stated in its FAQs that, should it determine in the course of its review that a borrower lacked an adequate basis for the required certification concerning the necessity of the loan request, the SBA will seek repayment of the outstanding PPP loan balance and will inform the lender that the borrower is not eligible for loan forgiveness. If a borrower repays the loan after receiving notification from the SBA, the SBA will not pursue administrative enforcement or referrals to other agencies based on its determination.
Borrowers who make other misleading or erroneous statements on their PPP loan applications may still be subject to liability under the civil False Claims Act (31 U.S.C. § 3729 et seq.). The three elements of a False Claims Act violation are (i) that a statement made to the federal government was false; (2) knowledge; and (3) materiality (i.e. the false statement influenced the payment decision). Actual knowledge is not required – instead “knowledge” can be shown through “reckless disregard” or “deliberate ignorance.” Statements made to PPP lenders (i.e. private lenders implementing loan programs that are federally-funded or federally-guaranteed) could also result in liability.
Civil penalties for violations of the False Claims Act may include treble damages (with damages calculated as the loss to the federal government or the amount improperly obtained), plus statutory civil penalties of over $22,000 per false claim. The federal government may also pursue criminal penalties, including jail time, in certain cases.
In addition, according to the loan application, knowingly making a false statement to obtain a guaranteed loan from SBA is punishable under the law, including under 18 U.S.C. § 1001 (false statements to federal officials) and 3571 by imprisonment of not more than five years and/or a fine of up to $250,000; under 15 U.S.C. § 645 (misrepresentation of size status) by imprisonment of not more than two years and/or a fine of not more than $5,000; and, if submitted to a federally insured institution, under 18 U.S.C. § 1014 by imprisonment of not more than thirty years and/or a fine of not more than $1,000,000.
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The rapid regulatory roll-out of the PPP program, along with the near-daily changes in the rules, creates serious uncertainty and a need for guidance. As a recipient of a PPP loan ourselves, our firm is evaluating the evolving regulatory system both for own firm and for our small and medium-sized business clients.