Update April 3: The Small Business Administration (SBA) issued an Interim Final Rule (IFR) earlier today implementing the Paycheck Protection Program (PPP).1 The IFR has a 30 day comment period (from the date of publication in the Federal Register) but is effective immediately, and became operational today.
The IFR addresses a number of outstanding issues and concerns of lenders and potential lenders under the PPP. Most significantly, the IFR addresses the “hold harmless” provision of the PPP and the loan underwriting criteria that PPP lenders must apply in evaluating the eligibility of borrower applicants for the program. It also provides clarity on qualifying new lenders for the PPP, and additional guidance on certain other issues of interest to lenders and potential lenders, as well as borrowers. Following are key takeaways from the IFR:
Lender Eligibility Requirements
The IFR confirms that SBA 7(a) lenders are automatically approved to make PPP loans on a delegated basis. The IFR further provides that the following types of lenders are eligible to make PPP loans unless they are deemed to be in a troubled condition or are subject to a formal enforcement action with their primary federal regulator involving unsafe or unsound lending practices:
- Federally insured depository institutions and credit unions;
- Farm Credit System institutions compliant with applicable BSA requirements;
- Any other depository or non-depository financing provider that (a) originates, maintains, and services business loans or other commercial financial receivables and participation interests, (b) has a formalized compliance program, compliance with clickable BSA requirements, (c) has been operating since at least February 15, 2019, and (d) has originated, maintained, and serviced more than $50 million in business loans or other commercial financial receivables during a consecutive 12 month period in the past 36 months; and
- Any service provider to any insured depository institution that has a contract to support such institution’s lending activities in accordance with 12 U.S.C. § 1867(c) and is in good standing with the appropriate Federal banking agency.
The IFR provides that institutions described in the first two categories above will be automatically qualified under delegated authority by the SBA upon transmission of the CARES Act Section 1102 Lender Agreement (SBA Form 3506) unless they are deemed to be in a troubled condition or are subject to a formal enforcement action involving unsafe or unsound lending practices.
Pursuant to the IFR, lenders are required to do the following to qualify borrower applicants for the PPP:
- Confirm receipt of borrower certifications required by the SBA PPP application form;2
- Confirm the borrower had employees and paid salaries and payroll taxes on or around February 15, 2020;
- Confirm the dollar amount of average monthly payroll costs for the applicant’s preceding calendar year; and
- Lenders should apply BSA/AML requirements, as follows:
- a. Insured depository institutions and credit unions should continue to follow their existing BSA protocols;
- b. Lenders not currently subject to BSA requirements should establish an AML compliance program consistent with the requirements of the BSA, including a Customer Identification Program (CIP), (as described more fully in the IFR) before engaging in any PPP lending activities;
- Alternatively, a prospective PPP lender may rely on the CIP of a federally insured depository institution or credit union with an established CIP as part of its AML program.
Lender Hold Harmless Provisions
The IFR specifies that “[e]ach lender’s underwriting obligation under the PPP is limited to the items above, and reviewing the [PPP] Application Form.” With respect to lender liability, the IFR provides that lenders can rely on borrower documentation for loan forgiveness, as follows:
- A lender does not need to conduct verification for a borrower that submits documentation supporting its request for loan forgiveness and attests that it has accurately verified the payments for eligible costs. Rather, lenders may rely on borrower certifications to determine eligibility of the borrower and use of loan proceeds and to rely on specified documents provided by the borrower to determine qualifying loan amount and eligibility for loan forgiveness.
- The SBA will hold harmless any lender that relies on such borrower documents and attestation from a borrower. In particular, lenders will be held harmless for a borrower’s failure to comply with program criteria.
PPP Terms and Conditions
Importantly for borrowers and potential lenders, the IFR emphasizes that PPP loans will be made on a “first-come, first-served” basis.
Pursuant to the IFR, the SBA revised the interest rate for PPP loans from 0.5% to 1.0%. The maturity for PPP loans remains at two years; however, a borrower will not be required to begin making payments until six months after the date of disbursement of the loan. Interest will continue to accrue during this six-month deferment.
The IFR also confirms that a PPP loan may be forgiven, and the amount of loan forgiveness can be up to the full principal amount of the loan and any accrued interest3 because at least 75% of PPP loan proceeds must be used for “payroll costs” (as defined in the IFR), not more than 25% of the loan forgiveness amount may be attributable to non-payroll costs.
The IFR confirms that PPP loans will be guaranteed under the PPP based on the same terms and conditions as other 7(a) loans, except that:
- PPP loans are 100% guaranteed;
- No collateral is required four PPP loans;
- PPP loans do not require a personal guarantee;
- The interest rate for PPP loans is 1%; and
- PPP loans are to be processed by lenders under delegated authority (as noted above, lenders may rely on borrower certifications to determine PPP eligibility).
The IFR provides that the SBA will pay lenders fees for processing PPP loans in the following amounts:
- Five percent for loans of not more than $350,000;
- Three percent for loans of more than $350,000 and less than $2,000,000; and
- One percent for loans of at least $2,000,000.
The IFR also provides:
- There is no lender annual service fee (i.e., guaranty fee) payable to SBA;4
- There is no subsidy recoupment fee; and
- There is no fee payable to SBA for any guarantee sold into the secondary market (see below).
Under the IFR, fees may be paid to an agent who assists a borrower; however, such fees must be paid by the lender out of the fees the lender receives from the SBA. Agents may not collect fees from a borrower or be paid out of PPP loan proceeds. The total amount that an agent may collect from a lender for assisting a borrower with a PPP loan application, including referral to a lender, may not exceed:
- One percent for loans of not more than $350,000;
- 0.50 percent for loans of more than $350,000 and less than $2 million; and
- 0.25 percent for loans of at least $2 million.
Secondary Market Sales
The IFR provides that PPP loans may be sold on the secondary market after the loan is fully disbursed. PPP loans may be sold on the secondary market at a premium or a discount to par value.
SBA Advanced Loan Purchases
Lenders may request SBA to purchase the expected forgiveness amount5 of a PPP loan or loan pool at the end of the seventh week of the covered period.
Borrower Affiliation Rules
Finally, the IFR indicates that the SBA intends promptly to issue additional guidance with regard to the applicability of its affiliation rules, set forth at 13 CFR 121.103 and 121.301, to PPP loans and borrowers.
The recently enacted CARES Act6 includes an unprecedented financial stimulus package focused squarely on small and medium-sized businesses, most of which have been significantly impacted from the economic fallout of COVID-19.7
Many small and medium-size businesses have been devastated not only by the level of the economic downturn from the pandemic but the swiftness with which economic activity in many sectors has ground to a halt. Complicating the picture, certain parts of the economy generally deemed essential businesses, are on overdrive and struggling to keep up with exponentially increased demand, some of which businesses rely heavily on small and medium-size businesses for products, parts, supplies and services.
Thus, it is important to view the CARES Act small business stimulus provisions beyond the immediate economic relief provided to many struggling businesses. It should be an important lifeline that will hopefully provide some degree of stability for all businesses over the next few months for us to be able to weather the economic fallout of COVID-19.
Since enactment of the CARES Act, the Small Business Administration (SBA) and U.S. Treasury Department (USTD) have been deluged by an extraordinary volume of demand for information and resources. While a significant portion of this activity has been from small and medium-sized businesses seeking information on SBA-guaranteed loans, there are also many SBA lenders and potential lenders trying to gather important information to guide them in their lending efforts.
Complicating the picture is an aggressive April 3, 2020 timeline for rolling out the SBA’s primary pandemic-focused program, the Payroll Protection Program (PPP), which has been hindered by a lack of clear documentation and sometimes conflicting information from various policymakers regarding the program.
The SBA has several distinct lending programs, including the most recently implemented Economic Injury Disaster Loan (EIDL) program, an SBA direct lending program, and the PPP, both part of the SBA’s pandemic response. Other SBA programs include the agency’s Section 7(a) loan program, CDC/504 loan program, Microloan program, and Community Advantage lending program.
Of these programs, the most relevant to private sector lenders in the current context are the PPP and Section 7(a) loan program. The PPP, which, as discussed below, is focused on addressing economic vulnerabilities for small and medium-size businesses over the next several months, needs lenders – and lots of them – to be effective. As noted by one industry observer, “the program relies on banks to issue these loans”8 and, to support that arrangement, both compensates and protects the lenders willing to participate in the PPP.9
SBA Program Information for Lenders and Potential Lenders
SBA Section 7(a) Loan Program
The most well-known of the SBA’s lending programs is the Section 7(a) loan program. Under the 7(a) program, “banks, savings and loans, credit unions, and other specialized lenders participate with the SBA on a deferred basis to provide small business loans that are structured under 7(a) guidelines.”10
Among the SBA’s long-standing loan programs, this appears to be the most relevant and attractive alternative (i.e., outside of the SBA’s specialized pandemic-focused programs discussed herein) for traditional depository institution lenders seeking to make small business loans to assist businesses impacted by the pandemic. Recognizing this, Congress increased the eligibility, maximum loan amount, guarantee amount, and permissible uses for Section 7(a) loans by small businesses,11 all of which also generally benefited the PPP, as discussed below.
Lenders are protected under the program based on the SBA guarantee that attaches to Section 7(a) loans. “If a borrower defaults on an SBA-guaranteed loan, the lender may ask the SBA to purchase the guaranteed portion [of the loan].”12
Lenders seeking to participate in the SBA’s 7(a) loan program must meet the following requirements:
- Have the ability to evaluate, process, close, disburse, service, and liquidate small business loans;
- Be able to originate and fund loans to the public;
- Have continuing good character and reputation, and otherwise meet and maintain the ethical requirements set forth at 13 CFR Part 120.140;13 and
- Be subject to supervision and examination by a state or federal regulatory authority approved by the SBA.
Section 7(a) guaranteed loans can be for amounts between $50,000 and $5 million. Loans in the program are negotiated between the borrower and lender, and can have a term of up to 25 years for the purchase of real estate, up to 10 years for a business or equipment acquisition, between 5 to 7 years for working capital, and a weighted average term if for a combination of these purposes.14
The PPP Loan Program
The pandemic-focused PPP is available to Section 7(a) qualified lenders on an expedited basis, pursuant to delegated authority in the CARES Act to issue loans directly, and to other lenders qualified by the USTD and SBA.15 The use of delegated authority is intended to expedite lending activities by avoiding a delay in the issuance of regulations or requiring each PPP loan to be approved by SBA.
PPP loans must be originated consistent with the requirements of the CARES Act and applicable SBA guidance.16 PPP loans are intended to provide a direct incentive for small businesses to keep their workers on the payroll.17 Under the PPP, the SBA will forgive loans if all employees are kept on the payroll for eight weeks and the money is used for payroll, rent, mortgage interest, or utilities.18 The program is currently scheduled to be available until June 30, 2020.19
Eligible borrowers under the PPP include small businesses with less than 500 employees,20 private non-profit organizations, or 501(c)(19) veterans organizations affected by the coronavirus/COVID-19.21 In addition, businesses in certain industries may be eligible if they have more than 500 employees but meet SBA’s size standards for those industries.22
In addition to existing SBA Section 7(a) lenders, federally insured depository institutions, federally insured credit unions, and Farm Credit System institutions may participate as lenders in the PPP. Other regulated lenders will be authorized to make these loans once they are approved and enrolled in the program.23 As noted in a USTD PPP information sheet for lenders,24 “a broad set of additional lenders can begin making loans as soon as they are approved and enrolled in the program. New lenders will need to submit their application to DelegatedAuthority@sba.gov to apply with the SBA.”25
According to the SBA and USTD, lenders may begin processing loan applications as soon as April 3, 2020.26 However, a number of significant obstacles remain for both existing and prospective lenders fully to commit to the program. These include concerns about borrower verification requirements and procedures that lenders must follow under the PPP, which could lead to significant delays in the rollout of the program. As noted below, a particularly important aspect of this issue is minimizing lender liability in order to expedite funding under the PPP. Also unclear is how quickly new lenders will be reviewed and authorized to participate in the PPP.
A PPP loan will be fully forgiven if the funds are used for payroll costs, interest on mortgages, rent, and utilities (due to likely high subscription, at least 75 percent of the forgiven amount must have been used for payroll). Loan payments will also be deferred for six months. No collateral or personal guarantees are required. Neither the government nor lenders will charge a fee to a small businesses under the program.
For small businesses, loan forgiveness is the most attractive and compelling aspect of the PPP. Loan forgiveness is based on an employer maintaining or quickly rehiring employees and maintaining salary levels. Forgiveness will be reduced if full-time headcount declines, or if salaries and wages decrease. Also attractive to borrowers (but not lenders) is an interest rate of 0.5 percent (i.e., for loan amounts not forgiven); however, a loan maturity of 2 years may be problematic for both borrowers and lenders, particularly if there is a slow economic recovery from the pandemic crisis.27 The provisions of the CARES Act authorizing the PPP also include timelines and criteria for a lender and the SBA to approve a borrower's application for PPP loan forgiveness.28
From a lender’s perspective, attractive features of the PPP include the ability of banks and other lenders “to charge interest and generous processing fees [while being] shielded from enforcement activities and penalties by the government related to loan forgiveness for eligible uses.”29 As noted above, small businesses borrowers pay no fees to apply to the program; fees paid to lenders under the PPP are paid by the government. The CARES Act also includes provisions offering favorable capital risk weighting, and supporting secondary market sales.
Notwithstanding the features and provisions of the CARES Act that make the PPP an attractive and promising economic relief and stimulus package, as noted above, there are concerns for lenders and those interested in becoming qualified as an SBA lender.
For one, there is significant concern regarding how the lender “hold harmless” provisions of the law may be interpreted and enforced.30 Absent indications of strong government support for such provisions, lenders and prospective lenders may be hesitant to participate wholeheartedly in the PPP.
Another potential issue is the SBA's affiliation rules,31 which, if applied restrictively, could result in some borrowers being deemed too big to participate in the PPP.32
Other potential considerations for PPP lenders and prospective lenders include: (i) the extent of the government’s commitment to the PPP, particularly if a second round stimulus package is required;33 (ii) the speed at which PPP loans will be made starting on April 3;34 (iii) potential program glitches that could undermine the effectiveness or credibility of the program; and, most pertinent to this note, (iv) the availability of lenders needed to carry out the program.
Regarding the risks posed by an insufficient number of lenders to carry out the program successfully and effectively, consideration should be given to ways to increase and expedite lender participation, including ways to attract more nontraditional lenders, i.e. marketplace lenders and other FinTech firms that have established a significant presence in certain market sectors, including, in certain cases, small business lending. This would have the beneficial effect of both increasing competition while also increasing the breadth of the PPP in a manner that would preserve and stabilize its longevity and effectiveness.
Action Plan for SBA Lenders and Potential Lenders
- Review your existing credentials to participate in the SBA’s Section 7(a) (and PPP) loan program.
- Review the criteria and parameters for loans issued pursuant to the Section 7(a) and/or PPP loan programs (based on your areas of interest for participation).
- If you are not currently an SBA lender and interested in applying to be qualified as an approved lender, contact the SBA District Office where you conduct your existing lending operations to determine what is needed to apply to become an approved SBA lender and submit your application to DelegatedAuthority@sba.gov.
- Familiarize yourself with the sample PPP borrower application form35 and be on the alert for the final official forms, which should be released by the SBA shortly.
- Train loan officers and other relevant personnel on all aspects of the PPP (and Section 7(a) loan program, as appropriate) so they are conversant in advising and negotiating with small businesses seeking to obtain SBA-guaranteed loans under the PPP and/or Section 7(a).
1 Available at: https://content.sba.gov/sites/default/files/2020-04/PPP--IFRN%20FINAL.pdf
2 Available at: https://www.sba.gov/sites/default/files/2020-04/PPP%20Borrower%20Application%20Form.pdf
3 According to the IFR, the amount of loan forgiveness will depend, in part, on the total amount of payroll costs, payments of interest on mortgage obligations incurred before February 15, 2020, rent payments on leases dated before February 15, 2020, and utility payments under service agreements dated before February 15, 2020, over the eight-week period following the date of the loan.
4 The IFR also confirms that there is no up-front guarantee fee payable to SBA by a borrower.
5 The expected forgiveness amount is the amount of loan principal the lender reasonably expects the borrower to expend on payroll costs, covered mortgage interest, covered rent, and covered utility payments during the eight week period after loan disbursement.
6 Coronavirus Aid, Relief, and Economic Security Act, enacted March 27, 2020.
7 A detailed overview of the various provisions of the CARES Act providing relief to small businesses is available at https://www.sbc.senate.gov/public/index.cfm/guide-to-the-cares-act.
8 The Paycheck Protection Program: An Introduction, Michael R. Strain, American enterprise Institute (April 2020), available at https://www.aei.org/wp-content/uploads/2020/04/The-Paycheck-Protection-Program.pdf.
9 Id. See below for a discussion of the compensation and protections available to lenders under the PPP.
10 See SBA website at https://www.sba.gov/partners/lenders/become-sba-lender#paragraph-14.
11 CARES Act, Section 1102.
13 Available at https://www.ecfr.gov/cgi- bin/retrieveECFR?gp=&SID=0621147379a5ee1549d615708f67cebd&mc=true&n=pt13.1.120&r=PART&ty=HTML#se13.1.120_1140.
15 An overview of the PPP is available at https://www.sba.gov/funding-programs/loans/paycheck-protection-program-ppp. See also https://home.treasury.gov/system/files/136/PPP%20--%20Overview.pdf.
16 A USTD information sheet for PPP borrowers is available at https://home.treasury.gov/system/files/136/PPP--Fact-Sheet.pdf.
20 Id. This includes sole proprietorships, independent contractors and self-employed persons.
22 Id. An overview of SBA’s size standards is available at https://www.sba.gov/document/support--table-size-standards. Notably, small businesses in the hospitality and food industry with more than one location could also be eligible at the store and location level if the store employs less than 500 workers. Thus, each store location could be eligible.
24 See https://home.treasury.gov/system/files/136/PPP%20Lender%20Information%20Fact%20Sheet.pdf
26 Id. A sample application form is available at https://www.sba.gov/document/sba-form--paycheck-protection-program-ppp-sample-application-form.
27 Id.; see also CARES Act, Section 1106.
29 See supra, note 3.
31 See SBA Small Business Compliance Guide: Size and Affiliation -- A Guide to the SBA’s Size Program and Affiliation Rules, p. 3 (discussion on Affiliation), available at https://www.sba.gov/sites/default/files/2018-09/2018-07-13%20AFFILIATION%20GUIDE_Updated%20%281%29.pdf.
32 Notably, the CARES Act rescinded the SBA's interim final affiliation rules issued in February (see 85 Fed.Reg. 7622, Feb. 10, 2020). The PPP also waives the application of the affiliation rules for certain businesses and industries, including the food service and hotel industries.
33 See supra, note 3.
35 See supra, note 19.