Congratulations if you have successfully applied for and received a Paycheck Protection Program (PPP) loan. However, your anxiety level should not decrease. In its effort to provide more clarity to the application of the PPP, the Small Business Administration (SBA) and the U.S. Treasury Department (Treasury) provided additional information in the SBA FAQs. The FAQ updates on April 23, 2020 and April 28, 2020 (Click here to see questions 31, 37, and 39) may dramatically affect your business and PPP loan. You have until May 7, 2020 under the new Safe Harbor Rule to return your PPP loan money in full if the new FAQ questions adversely impact whether you should keep your PPP loan. In this client alert, we will look at the issues answered by the SBA and additional questions raised in anticipation of the May 7, 2020 Safe Harbor deadline.
SBA FAQ 31 and 37
First, what is the significance of May 7, 2020? As of May 7, 2020, “Any borrower that applied for a PPP loan prior to the issuance of this guidance and repays the loan in full by May 7, 2020, will be deemed by the SBA to have made the required certifications in good faith.” Conversely, after May 7, 2020, when the SBA examines the applicable certifications, the SBA will not presume a “good faith” standard, and every loan will be subject to SBA review (and review by Treasury, the Internal Revenue Service, and the U.S. Department of Justice).
Second, which certification is most under scrutiny after May 7, 2020? For the PPP, the CARES Act expressly eliminated the normal requirement that a borrower be unable to obtain credit elsewhere. But, when a borrower files a PPP application, the borrower must certify in “good faith” that its PPP loan is a necessity (Necessity Certification). The good faith certification is as follows: “(c)urrent economic uncertainty makes this loan request necessary to support the ongoing operations of the Applicant.”
Third, does a business have to make that decision ignoring the reality that no one knows the potential economic disruption and damage yet to come from the COVID-19 pandemic? FAQ 31 says a borrower must make the Necessity Certification, “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.” That quoted language is the sole guidance Treasury provides regarding the potential factors a business should weigh to determine if the PPP loan is necessary for ongoing obligations. None of those terms are defined, except it is inferred that public corporations may be able to access the stock or bond markets to raise funds.
Fourth, what can a business do if the Necessity Certification cannot be made in good faith as of the application date? According to FAQ 31, “any borrower that applied for a PPP loan prior to the issuance of this guidance (April 23, 2020) and repays the loan in full by May 7, 2020, will be deemed by the SBA to have made the required certification in good faith” (emphasis added).
Fifth, why did Treasury create a Safe Harbor Rule, dramatically changing the PPP rules four weeks into the PPP program? This Safe Harbor was announced a few days after the media reported that numerous public companies (e.g., Shake Shack and Ruth’s Chris Steakhouse) applied for and received large PPP loans, while at the same time many thousands of smaller businesses had received nothing. FAQ 31 infers that public corporations have other means to raise capital to sustain their businesses, and should not be using the PPP intended for small businesses.
Sixth, doesn’t the Safe Harbor only apply to big public corporations that applied for PPP loans? No. Five days after announcing the public corporation rule at FAQ 31, Treasury announced in FAQ 37 that the Safe Harbor, and the analysis of the good faith Necessity Certification, applies to every business no matter how large or small.
Seventh, how will the SBA ever know whether our determination of the Necessity Certification was a good faith business judgment? Treasury in FAQ 39 (see explanation below) said it will audit every business with a $2 million or larger PPP loan before loan forgiveness is granted. Additionally, the SBA, Treasury, and U.S. Department of Justice have all announced they will aggressively investigate and prosecute all businesses (no matter the size) that fraudulently applied for or utilized the PPP loans for uses other than intended by the PPP and the CARES Act. Subject to further SBA guidance, businesses should plan to document and demonstrate the necessity of their PPP loan as part of the loan forgiveness application.
Eighth, doesn’t the fact that we received the PPP loan approval from our lender and the SBA mean we have already proven we satisfy the Necessity Certification? No. FAQs 31 and 37 are retroactive back to the day the business filed its PPP application, when it made the Necessity Certification. Other Treasury guidance says the lender and the SBA rely solely on the business’s own Necessity Certification. It is completely up to the business to determine for itself (and be prepared to document and justify when applying for loan forgiveness) that it made its Necessity Certification in good faith on its application.
Ninth, can’t we have more time to determine if we might lose additional business, have to layoff more employees, or suffer additional economic damage due to the COVID-19 pandemic? No. FAQ 31 has an absolute deadline of May 7, 2020 to return the PPP money if your business determines it had adequate access to other sources of liquidity.
SBA FAQ 39
Will the SBA review individual PPP loans? Yes. All loans are subject to being reviewed as mentioned above. However, all PPP loans in excess of $2 million will be audited by the SBA and Treasury at the time of the application for forgiveness. The FAQ states that additional guidance relating to the applicable procedures will be forthcoming.
Analysis
We understand the frustration that businesses are facing with delayed guidance and FAQs that change the fundamental rules of the game. Because the PPP was rolled out far too quickly, they are making up the rules as they go. Some of the guidance or rules are retroactive. Some of the guidance only applies after the date the rule or guidance is issued.
The FAQs state they do not have the force of law, but on many issues they are the only guidance available. The FAQs themselves have been revised, edited, and supplemented no less than 10 times, and new updates are released every couple of days, often late at night and on weekends. The PPP is a moving target, making compliance extraordinarily difficult.
FAQ 31 and 37 appear to conflict with CARES Act Section 1102, which expressly states that the normal “availability of credit elsewhere” requirement for SBA loans “shall not apply” to the PPP loans. Yet, FAQ 31 and 37 indirectly attempt to reimpose such a rule with the requirement that a business must evaluate its “ability to access other sources of liquidity” that could support ongoing operations “in a manner not detrimental to the business.” Court cases down the road will determine if Treasury actually has the authority to superimpose this new test, contrary to Congress’ intent. By then, however, the PPP money will have run out again, and businesses may fail as a consequence.
We understand that the SBA and Treasury were embarrassed by the more than 225 public businesses that received PPP loans. That was an unintended consequence of the program criteria in the CARES Act and the initial SBA and Treasury program guidance. It was the Treasury’s own initial descriptions that strongly urged businesses to apply quickly (on a first come, first served basis) and to apply for the maximum amount eligible. Now they are clawing back on their own guidance, putting all businesses in potential jeopardy of being second guessed by the SBA and Treasury in the upcoming audits.
The Safe Harbor is like a “get out of jail free” card, no questions asked. It only applies to the Necessity Certification. Each business needs to quickly determine if it needs to take advantage of the Safe Harbor and repay the loan on or before May 7, 2020. The FAQ does not state how to repay the loan, but we presume it would be repaid to the lender that deposited the PPP loan proceeds into your bank account.
Recommendations
Every business that applied for and received a PPP loan needs to evaluate its own Necessity Certification. While you now have four weeks of additional experience and information about the business damages you have suffered or may suffer from the COVID-19 pandemic, the Necessity Certification is to be measured as of the application date. All of that must be evaluated in light of the economic uncertainty that the business must deal with due to the COVID-19 pandemic.
- Good Faith Business Analysis. Every business is different, and must make its own determination of its good faith Necessity Certification. Make a very careful record of your analysis, including any documentation and supporting materials to establish the economic necessity for your business. Be prepared to turn over that record to your bank and the SBA when you apply for loan forgiveness. Will you have to layoff employees (or layoff even more employees) or reduce wages if you do not receive the PPP loan? Even if you have a cash reserve or a line of credit, would it be enough to get your business through the current negative impact? If you use your entire cash reserve and line of credit to keep your business going in the next two months, what is likely to happen to your business if another economic shutdown occurs because of the rebound COVID-19 infections this summer, or next fall and winter as predicted by Dr. Anthony Fauci and the Centers for Disease Control and Prevention? Have you lost orders or have invoice billings already tailed off, or are you likely to lose orders in the next few months? Have your customers or suppliers lost orders, laid off employees, had infections, had employees die, or had other significant impacts to their business viability? Is your industry (e.g., restaurants) particularly impacted by the government shutdown orders?
- PPP Eligibility. In addition to your Necessity Certification analysis, now is the time to double check that your business actually met the eligibility PPP loan criteria (e.g., 500 or fewer employees) when you applied for the loan. While the Safe Harbor only applies to the Necessity Certification, a business may determine that repayment of the PPP loan by May 7, 2020 is a practical way to clean up questionable situations and reduce the likelihood the government investigates your business for fraud.
- Reputational Risk. Even if your business complies with PPP in every respect, and can clearly establish its good faith Necessity Certification, we know that the names of the borrowers and PPP loan amounts are public information. Some lists are published in numerous media outlets. In addition to the Good Faith Business Analysis, each business should carefully evaluate whether damage to its business reputation with customers or vendors may occur if it becomes public knowledge that your business obtained a PPP loan. The court of public opinion can be harsh, even if you are completely justified in receiving and using your PPP loan. All of these issues must be evaluated in a time of mass layoffs, record unemployment, state ordered business shut downs, over 65,000 COVID-19 deaths, and unprecedented economic uncertainty.
This is the current guidance relating to the Necessity Certification known as of the date of this publication. Everything described above may be superseded as Treasury and SBA roll out additional guidance and rules, shifting the sands as we all try to gain a foothold to help our businesses survive the pandemic.
Borrowers will need to take into account their current business situation, including their access to other sources of liquidity, and use their own business judgment and common sense to describe the need for the PPP loan in light of actual and anticipated shortfalls and increasing uncertainty as they move later into the year.
