SBA modernizes the SBIC program

Eversheds Sutherland (US) LLP

Eversheds Sutherland (US) LLP

On July 13, 2023, the US Small Business Administration (SBA) finalized major revisions to the regulations governing the small business investment company (SBIC) program (Final Rule). The updated regulations represent the most significant changes to the SBIC program in over thirty years. The Final Rule, which can be found here, took effect on August 17, 2023.

The initiative to modernize the SBIC program is part of President Biden’s Investing in America agenda that seeks to “unlock unrealized potential and strengthen, diversify, and expand our network of SBIC licensed private funds to address capital deficiencies in underserved small businesses, start-ups, and critical US industries impacting our nation’s security” according to SBA Administrator Guzman. In line with this rationale, the Final Rule makes several key changes, including: (i) adding a new type of debenture aimed at facilitating more equity-focused investments; (ii) allowing SBIC equity investments in “underserved” re-lenders and re-investors; and (iii) streamlining certain aspects of the SBIC licensing process.

To implement the Final Rule, the SBA also published a new SBIC Program Standard Operating Procedures (SOP) manual that includes the SBA’s guidelines for applying for and operating an SBIC license under the Final Rule. Importantly, the SOP sets forth the quarterly filing windows during which applicants may submit the Management Assessment Questionnaire (MAQ), the first component of the licensing process. The SOP, which can be found here, took effect on September 5, 2023.

What is an SBIC?

An SBIC is a private investment fund that invests in or lends private capital, plus funds borrowed with an SBA guarantee, to US small businesses and is licensed by the SBA. A fund primarily seeks to become licensed as an SBIC to obtain access to low-cost, long-term financing from the SBA (through debentures guaranteed by the SBA) to enable the fund to make debt and/or equity investments in US small businesses.

New Types of SBICs for Equity-Focused Funds: Accrual SBICs and Reinvestor SBICs

The Final Rule establishes a new type of debenture referred to as an “Accrual Debenture” that permits cash flows of longer duration and/or equity-focused investment funds. The SBA observed that its Standard Debenture program has historically not aligned with the cash flows needed for strategies solely investing in the equity of US small businesses. The Accrual Debenture program is designed to fill this gap in the SBIC program. An applicant will be required to identify whether it is seeking approval under the Standard Debenture program or the Accrual Debenture program as part of its license application.

Through the Final Rule, the SBA also created two types of SBICs that can be licensed under the Accrual Debenture program: (1) an equity-focused investment fund that is referred to as an “Accrual SBIC”1 and (2) a fund-of-funds that is referred to as a “Reinvestor SBIC.” A Reinvestor SBIC must make a “meaningful percentage” of its equity investments in underlying US funds focused on disadvantaged businesses (such as underserved, rural and low-and-moderate-income areas) that, in turn, invest directly in US small businesses. To operate as a Reinvestor SBIC, an applicant’s business plan will need to justify how a particular geographic, industry or market segment is underserved.

An Accrual Debenture will accrue interest over a 10-year term and will be issued at face value. The SBA will guarantee all principal and unpaid accrued interest. Similar to a Standard Debenture, an Accrual Debenture must be repaid at maturity and can be prepaid at any time. Below are the key distinctions between a Standard Debenture and an Accrual Debenture:


Standard Debenture


Accrual Debenture

Tiers of Leverage Available from the SBA

2.0 tiers of leverage


- 1.25 tiers of leverage for Accrual SBICs

- 2.0 tiers of leverage for Reinvestor SBICs

Maximum Amount of Leverage Available

Up to $175 million (statutory maximum available for SBICs)


The maximum amount of leverage available depends on the amount of accrued interest. To calculate the maximum amount of leverage, the SBA will aggregate the SBIC’s total regulatory capital (i.e., private capital contributed to the SBIC) plus ten years of accrued interest on such principal.

Example: An Accrual SBIC with $100 million in regulatory capital may only be eligible for up to $118 million in leverage, assuming its forecasted accrued interest (at an assumed rate of 4%) over a ten-year period would be approximately $57 million.

Additional Management Team Qualifications

The SBA generally requires an applicant’s management team, among other things, to have investment experience as a principal with senior-level decision-making experience and a realized track record of successful investments in the targeted strategy. The SBA has added additional qualification requirements for SBIC applicants as part of the Final Rule. In evaluating the managers of an applicant, the SBA will now consider: (i) relevant industry operational experience, which may be combined with investment skill to demonstrate managerial capacity; and (ii) the managers’ experience in managing a regulated business (including an SBIC), as applicable. For applicants with past SBIC experience, the SBA also will consider performance qualifications, including: (i) an applicant’s operating experience, which when combined with an investment team’s prior relevant industry investing experience, will be seen as relevant to an applicant’s investment performance; and (ii) an applicant’s past adherence to statutory and regulatory SBIC requirements.

Streamlined Licensing for Subsequent Funds

The SBA also adopted several changes to streamline the licensing process. Under the Final Rule, SBIC applicants that have an active licensed SBIC may be eligible to submit a “Short-Form Subsequent Fund MAQ” if certain conditions are satisfied. Applicants seeking an expedited subsequent fund license must have two full years of operations from the date of licensing of the most recently licensed SBIC, and meet certain eligibility criteria, including:

  1. Same Strategy and Fund Size: The applicant’s targeted regulatory capital will be less than or equal to 133% of the size of the applicant’s most recently approved SBIC fund,2 and the asset class and investment strategy will be the same as the most recently approved SBIC fund;
  2. Consistent Partnership Dynamics and Firm Stability: No new limited partner will represent over 33% of the private capital of the applicant upon final closing, the two largest investors in the most recent SBIC fund have verbally committed to invest in the applicant, and there have been no material changes to the applicant’s firm;
  3. Investment Performance Stability: The most recently approved SBIC fund’s net distributions to paid-in-capital/total value to paid-in-capital are at or above median vintage and strategy performance benchmarks, and the principals are not managing another SBIC fund that is in default;
  4. Consistent or Reduced Leverage Management: Requested leverage will be at or below the level of the most recently approved SBIC fund;
  5. Promotions from Within and Inclusive Equity: The applicant’s management has demonstrated commercially reasonable efforts to promote internal investment team talent from within the organization, and to share carried interest and/or management economics with promoted talent, or otherwise distribute economics equitably among the investment team; and
  6. Other Requirements. The applicant must satisfy the following additional criteria: (a) a clean regulatory history for its existing SBIC; (b) no FBI or IRS findings on a background check of the sponsoring entity and all principals of the most recent SBIC fund licensee; (c) no outstanding or unresolved material litigation matters involving allegations of dishonesty, fraud, or breach of fiduciary duty as to a prior licensee or certain individuals affiliated with the applicant; and (d) no outstanding tax liens on the principals applying to manage the licensee, the most recent or active licensee, or on the sponsoring entity of the licensee.

Applicants who satisfy the criteria for submitting a Short-Form Subsequent Fund MAQ will receive priority in the licensing queue ahead of most other applicants.

Additional Changes to the SBIC Program

In addition to these changes, the Final Rule also makes several other changes to the SBIC program, some of which are summarized in the chart below: 

Distribution Waterfall for Accrual and Reinvestor SBICs

Accrual SBICs and Reinvestor SBICs will be required to make distributions according to the below waterfall:

  • Payment of annual charges and accrued interest associated with outstanding leverage;
  • Payment of the SBA’s share (i.e., total distributions x [total intended leverage commitment/(total intended leverage commitment + total private capital commitments)]);
  • Repay outstanding SBA leverage in an amount no less than SBA’s share to the extent of outstanding leverage;
  • Distributions to private investors of the remaining amount; and
  • Report the distribution to the SBA on Form 468.

Notably, this distribution waterfall does not apply to SBICs under the Standard Debenture program.

Definition of “Associate” and “Control Person”

Institutional investors of an SBIC who owned over 33% of the SBIC’s private capital were previously considered an “Associate” of the SBIC. The Final Rule increases that threshold to 50%, although to avoid being considered an “Associate,” the SBIC must demonstrate that such investor has no role in the management of the SBIC and no right to control or approve any matter, aside from as a result of their vote as a limited partner.

The Final Rule also revises the definition of “Control Person” to clarify what constitutes a controlling relationship over a limited partnership SBIC with a government sponsored non-profit management company relationship. Under the Final Rule, when such a relationship exists, the management of the licensee is considered free from outside control when over 30% of the private capital managed by the licensee comes from unaffiliated and unassociated entities and the general partner(s) of the licensee are bound by a fiduciary duty to the investors in the licensee.

Minimum Capital Requirements

Currently, SBICs generally must have regulatory capital of at least $5 million. The SBA can now issue licenses to applicants with only $3 million in regulatory capital with good cause if the applicant: (i) meets its licensing standards except for the minimum capital requirement; (ii) has a viable business plan that reasonably projects profitable operations; and (iii) has a reasonable timetable for achieving regulatory capital of at least $5 million.

An example of “good cause” would be if the applicant is headquartered in an “Underlicensed State,”3 which will also receive priority for licensing review. If licensed, leveraged licensees from Underlicensed States would be eligible for up to 1.0 tier of leverage until they raise the $5 million minimum regulatory capital requirement.


1 Separate from the Final Rule, the SBA and the US Department of Defense also launched a joint venture, the Small Business Investment Company Critical Technologies Initiative (SBICCT). Applicants that apply to operate as an SBICCT will be licensed under the Accrual Debenture program. The SBICCT program is designed to encourage early-stage equity investments in technologies that are critical to national security and traditionally have high, upfront research and development costs.  

2 Inflation adjustments will be considered.

3 This term refers to applicants headquartered in states with below median SBIC financing dollars. A list of Underlicensed States will be posted by the SBA on its website from time to time.  

[View source.]

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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