What Businesses and Lenders Need to Know About the CARES Act, SBA Lending, and Loan Forgiveness

Bryan Cave Leighton Paisner
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The Coronavirus Aid, Relief, and Economic Security, or “CARES Act”—the third emergency bill that Congress has prepared in response to the Coronavirus (COVID-19) pandemic—is likely to be signed into law by Friday, March 27, 2020. Bryan Cave Leighton Paisner lawyers have been analyzing drafts of the bill, scouring its relevant provisions, and stand ready to advise clients on what impact it may have on their businesses and whether those businesses may be eligible for assistance.

The bill has significant relief for small businesses, including $349 billion in Small Business Administration (SBA) loan guaranties and subsidies and additional funding for SBA programs. Highlights include:

  • Expansion of SBA’s 7(a) Loan Program to Support New “Paycheck Protection Program” Loans. The SBA’s existing 7(a) program will see:
    • Increase in maximum loan amount to $10 million.
    • Allowable uses expanded to include:
      • Payroll support (including paid sick or medical leave);
      • Employee salaries;
      • Mortgage, rent and utility payments;
      • Insurance premiums; and
      • Other debt obligations.
  • Loan Forgiveness. Certain borrowers would be eligible for loan forgiveness equal to the amount spent during an eight-week period after the origination date of the loan on:
    • Payroll costs;
    • Interest payment on any mortgage incurred before Feb. 15, 2020;
    • Rent on any lease in force before Feb. 15, 2020; and
    • Utilities for which service began before Feb. 15, 2020.

The amount forgiven would be reduced in proportion to any reduction in employees retained compared to the prior year and to the reduction in pay of any employee beyond 25% of prior year compensation.

  • Subsidies for Certain Existing SBA 7(a) Loans.
  • Special Terms for SBA Loans.
    • No personal or collateral guarantee will be required.
    • The eligible recipient does not have to certify that it is unable to obtain credit elsewhere.
    • Eligible borrowers must make a good faith certification that the loan is necessary due to the uncertainty of current economic conditions caused by COVID-19; that funds will be used for a permitted purpose; and that they are not receiving fund from another SBA program for the same uses.
    • Maximum term of loan is 10 years.
    • Interest rate cannot exceed 4% but interest payments are completely deferred for 1 year.
    • No prepayment penalty.

Who Qualifies?

The CARES Act program covers business with 500 or fewer employees, unless the covered industry’s SBA size standard allows more than 500 employees, which were operational on Feb. 15, 2020. The size standards are tested on an affiliate basis—combined with all businesses under common control (50% ownership or contractual control)—counting on an aggregate basis towards the size test, except for hospitality and restaurant businesses, franchises, and recipients of Small Business Investment Company (SBIC) investment.

This means that the 500-employee threshold is measured for the certain excepted businesses in the hospitality and restaurant business, franchises, and recipients of SBIC loans on a location-by-location basis. For instance, a hotelier with more than 500 employees nationwide may seek loans for individual properties. Consultation with an attorney to determine how a loan request can be structured to ensure eligibility may be key.

Loan Forgiveness

Following a detailed application, the loan will be eligible for partial forgiveness in an amount (not to exceed the principal amount of the loan) equal to the sum of payroll costs, rent and utilities expenses, and interest payments on mortgages so long as any such lease, mortgage, or utility was in service prior to February 15, 2020 and, in each case, paid during the eight-week period commencing on the date of the loan. In other words, forgiveness will be limited to the actual payment of certain types of permitted expenses actually incurred before the covered period started and paid after the loan was secured. Rental payment under a lease in effect as of January 1, 2020, would be eligible for forgiveness while rental payment under a lease effective as of March 15, 2020, would not. Eligible payroll costs do not include compensation above $100,000.

Loans will be made by lenders who are participants in the SBA’s Section 7(a) program and those lenders will also decide whether to accept a borrower’s application for forgiveness. Such decision must be made within 60 days of receipt of the application for forgiveness. Not later than 90 days after the loan forgiveness amount has been agreed by the lender, the SBA is authorized to reimburse the lender directly for the principal amount of any forgiven debt, plus interest accrued through the date of repayment.

The amount of any loan forgiveness will be reduced by any meaningful reductions in employee wages (in excess of 25% for any employee) or layoffs of employees during the covered period in accordance with the terms of the program. Borrowers that rehire workers previously laid off will not be penalized for having reduced payroll at the beginning of the period. There will not be cancellation of indebtedness income recognized upon forgiveness for tax purposes.

Any loan amount not forgiven at the end of one year is carried forward as an ongoing loan with a maximum term of 10 years and a maximum interest rate of 4%.

Detailed accounting and complete and accurate recordkeeping will be vital to taking advantage of these provisions. 

Maximum Amount of Loan

The maximum loan amount is the lesser of $10 million or the product obtained by multiplying average total monthly payments for payroll costs during the 1-year period before the loan is made by 2.5. So if the loan was made on April 1, 2020, and average monthly payroll costs for the period April 1, 2019, to April 1, 2020, were $1,500,000, the maximum loan amount would be $3,750,000.

Loan Period

Under the CARES Act, the loan period for this program would begin on February 15, 2020, and end on December 31, 2020, during which time any application must be submitted. The program would cover businesses with fewer than 500 employees (unless the covered industry’s SBA size standard allows more than 500 employees).

Governmental Guarantee

Government guarantee of 7(a) loans would be increased to 100% through December 31, 2020. After that date, guarantee percentages would return to 75% for loans exceeding $150,000 and 85% for loans equal to or less than $150,000.

Allowance for New Lenders

The CARES Act allows the Department of Treasury to establish a process by which lending institutions that are not currently authorized to offer SBA loans will be able to participate during the declared national emergency.

Subsidy/Deferment for Existing Loans 

The SBA will pay the principal, interest and any associated fees that are owed on certain existing 7(a) loans for a six-month period starting on the next payment due date. Loans already currently in deferment would include an additional six months of payment by the SBA beginning with the next payment. Loans made during this period until six months after the enactment of the legislation would also qualify for six months of deferral payment by the SBA. This does not apply for new “Paycheck Protection Program” loans made under the CARES Act.

Existing SBA Disaster Loan Program

In a previous alert, we highlighted the SBA’s disaster assistance loans that were made a part of Congress’s second emergency bill, the Coronavirus Preparedness and Response Supplemental Appropriations Act signed into law on March 6, 2020. Under that law, the SBA expanded the ways in which businesses could apply for an Economic Injury Disaster Loan (EIDL).

Importantly, under the CARES Act, a borrower that receives a 7(a) loan for employee salaries, payroll support, mortgage payments and/or other debt obligations would not be able to receive an EIDL for the same purpose, or co-mingle funds from another loan for the same purpose.

The EIDL program does have the benefit of establishing an emergency grant to allow an eligible entity to request an advance on the EIDL of up to $10,000. An applicant would not be required to repay such an advance payment, even if it is subsequently denied an EIDL.

The programs discussed above, and other assistance programs being established throughout this pandemic, will have varying benefits and eligibility requirements. A business should carefully assess which of the new federal programs is most advantageous before applying and how best to plan for, apply to, and manage any loans received for the maximum benefit.

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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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