The recently enacted CARES Act1 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-19.2
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”3 and, to support that arrangement, both compensates and protects the lenders willing to participate in the PPP.4
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.”5
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,6 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].”7
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;8 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.9
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.10 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.11 PPP loans are intended to provide a direct incentive for small businesses to keep their workers on the payroll.12 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.13 The program is currently scheduled to be available until June 30, 2020.14
Eligible borrowers under the PPP include small businesses with less than 500 employees,15 private non-profit organizations, or 501(c)(19) veterans organizations affected by the coronavirus/COVID-19.16 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.17
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.18 As noted in a USTD PPP information sheet for lenders,19 “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.”20
According to the SBA and USTD, lenders may begin processing loan applications as soon as April 3, 2020.21 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.22 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.23
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.”24 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.25 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,26 which, if applied restrictively, could result in some borrowers being deemed too big to participate in the PPP.27
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;28 (ii) the speed at which PPP loans will be made starting on April 3;29 (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 form30 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 Coronavirus Aid, Relief, and Economic Security Act, enacted March 27, 2020.
2 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.
3 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.
4 Id. See below for a discussion of the compensation and protections available to lenders under the PPP.
5 See SBA website at https://www.sba.gov/partners/lenders/become-sba-lender#paragraph-14.
6 CARES Act, Section 1102.
8 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.
10 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.
11 A USTD information sheet for PPP borrowers is available at https://home.treasury.gov/system/files/136/PPP--Fact-Sheet.pdf.
15 Id. This includes sole proprietorships, independent contractors and self-employed persons.
17 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.
19 See https://home.treasury.gov/system/files/136/PPP%20Lender%20Information%20Fact%20Sheet.pdf
21 Id. A sample application form is available at https://www.sba.gov/document/sba-form--paycheck-protection-program-ppp-sample-application-form.
22 Id.; see also CARES Act, Section 1106.
24 See supra, note 3.
26 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.
27 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.
28 See supra, note 3.
30 See supra, note 19.