SBA Paycheck Protection Loan Program and Additional Financial Assistance Programs

On March 27, the president signed into law Phase 3 of the federal stimulus program, called the Coronavirus Aid, Relief, and Economic Security Act, or CARES Act. Title I of the act, titled the Keeping American Workers Paid and Employed Act (KAWPEA), directs, among other amounts, $349 billion to small businesses as part of an expansion of the U.S. Small Business Administration’s (SBA) Section 7(a) loan program under a new paycheck protection loan program (PPP) as well as $10 billion through an expansion to the SBA’s Section 7(b) economic injury disaster loan (EIDL) program. Within 15 days of the enactment of the CARES Act, the SBA will issue additional regulations to implement KAWPEA and the PPP.

Paycheck Protection Program

Qualifying businesses will be eligible to participate in the newly established PPP during the “covered period” from Feb. 15, 2020 through June 30, 2020. Maximum loan amounts may not exceed $10 million, will bear interest at a rate not to exceed 4%, will be subject to partial forgiveness as described below and will be 100% guaranteed by the SBA. Use of loan proceeds is limited to payroll costs and general ordinary course operating expenses, as explained below.

Eligible Borrowers

In addition to “small business concerns” as currently defined under the Small Business Act (15 U.S.C. 632) that are normally eligible to participate in SBA Section 7(a) loans, eligible borrowers of PPP loans include:

• Any business concern, nonprofit organization, veterans organization or tribal business concern that employs not more than the greater of:
  
  
  • 500 employees (including all individuals employed on a full-time, part-time or other basis); or
  • if applicable, the size standard in number of employees established by the SBA for the industry in which the entity operates
    
    
• Business concerns that are engaged in “Accommodation and Food Services” (as designated by NAICS code 72) with multiple physical locations but with 500 or fewer employees per location
  
  
• Individuals who operate under a sole proprietorship or as an independent contractor and eligible self-employed individuals (as such term is defined in Section 7002(b) of the Families First Coronavirus Response Act (Phase 2 of the federal stimulus program)), subject to receipt of supporting documentation

Waiver of Affiliation Rules: For purposes of determining whether a potential borrower satisfies the maximum number of employees standard, the SBA’s affiliation rules (13 C.F.R. 121.103) provide that the employees of the borrower and its affiliates will be aggregated. Under the CARES Act, those rules are expressly waived for any eligible borrower:

• Engaged in “Accommodation and Food Services” (as designated by NAICS code 72) and having up to 500 employees per location
• Operating as a franchise that is assigned a franchise identifier code by the SBA
• Receiving financial assistance from a Small Business Investment Company

Based on the limited waiver of the affiliation rules and subject to forthcoming guidance from the Treasury Department and the SBA, it would appear that private equity and venture capital firms and their portfolio companies will remain subject to the affiliation rules and as such will likely not be eligible to participate in the PPP. Additional implementation rules are expected as the program rolls out, and we will be monitoring closely how the affiliation rules (and the waivers in the CARES Act) are to be applied to the PPP.

Waived Borrower Requirements and Certification: The CARES Act waives (i) the PPP loan application and certain other fees, (ii) the need for a personal guarantee or collateral, and (iii) the requirement that a small-business concern demonstrate that it is unable to obtain credit elsewhere. Instead, PPP loan applicants must make a good faith certification that:

• the loan is necessary to support the ongoing operations of the business given the uncertainty of current economic conditions;
• the loan proceeds will be used to retain workers and maintain payroll or make mortgage payments, lease payments and utility payments; and
• the applicant is not “double dipping” by applying for or receiving another PPP loan, Section 7(a) loan or EIDL.

Maximum PPP Loan Amount, Permitted Uses and Other Loan Terms

Maximum Loan Amount: Lesser of:

• $10 million, and
• the sum of:
  • the borrower’s average monthly payroll costs for the previous one year before the applicable PPP loan is made (alternative criteria apply for seasonal employers and eligible borrowers not in business during the period Feb. 15, 2019, to June 30, 2019) times 2.5, and
  • the outstanding amount of certain prior SBA loans obtained by the borrower

Permitted Uses: The proceeds of the PPP loans may be used to pay:

• Compensation and other “payroll costs” (as defined in the CARES Act), excluding individual employee compensation above $100,000 per year and compensation to employees based outside the United States
• Costs of group health care benefits during periods of paid sick, medical or family leave and of insurance premiums
• Mortgage interest payments (which does not include any payment of principal)
• Rent
• Utilities
• Interest on debt obligations incurred prior to Feb. 15, 2020

Other Loan Terms

PPP loans are unsecured and nonrecourse to the borrower, unless the loan proceeds are utilized for nonpermitted purposes, as summarized immediately above, and the principal amount may be prepaid without penalty. The maximum interest on a PPP loan is 4%. PPP loans will not require lenders to reserve additional capital with respect to the principal amount of such loans under the risk-based capital requirements of federal banking agencies or the National Credit Union Administration Board.

Any portion of the principal amount of a PPP loan that is not forgiven (as discussed below) will be subject to a maximum maturity of 10 years from the date of the loan forgiveness application and will continue to be guaranteed by the SBA.

Additionally, all eligible borrowers of PPP loans that were operating on Feb. 15, 2020 and have a pending or approved loan application under the PPP are eligible for payment deferment relief (including payment of loan principal, interest and fees) for a period of six months to one year.

PPP Loan Forgiveness

The principal amount of a PPP loan will be eligible for forgiveness (subject to submission of proper documentation) up to an amount equal to the total of the following costs incurred and/or payments made during the eight-week period following the origination of the loan:

• Compensation and other “payroll costs”
• Any payment of interest (excluding any prepayment of or payment of principal) on any “covered mortgage obligation” (i.e., any indebtedness or debt instrument incurred in the ordinary course of business that is a liability of the PPP loan borrower, is a mortgage on real or personal property and was incurred before Feb. 15, 2015)
• Any payment on any “covered rent obligation”
• Any “covered utility payment”

The amount of PPP loan forgiveness will be capped at the principal amount of the loan and will be subject to reduction if the borrower reduces the number of employees, employee salaries or both during the eight-week period following the origination of the loan, as follows:

• Employee Termination: Loan forgiveness will be reduced by multiplying the forgiveness amount by the quotient of the borrower’s average number of full-time employees per month during the eight weeks following the origination of the loan by either (at the election of the borrower) (x) the borrower’s average number of full-time employees per month employed during the period beginning on Feb. 15, 2019, and ending on June 30, 2019, or (y) the average number of the borrower’s full-time employees per month employed during the period beginning on Jan. 1, 2020 and ending on Feb. 29, 2020 (alternative criteria apply for seasonal employers).
  
  
  • For purposes of this calculation, the average number of full-time employees is determined by calculating the average number of full-time equivalent employees for each pay period falling within a month.
    
    
• Salary Reduction: Loan forgiveness will be reduced by any reduction in total salary or wages of any employees earning $100,000 or less on an annualized basis for 2019 during the eight-week period following the origination of the loan that is in excess of 25% of the total salary or wages of such employee during the most recent full quarter during which the employee was employed before such period.

However, there is relief from these forgiveness reduction penalties for employers that by June 30, 2020 increase their employee count and employee salaries to the levels in effect on Feb. 15, 2020.

Any canceled indebtedness will not be taxable to the borrower as gross income.

Under the CARES Act, the SBA is required to issue guidance and regulations implementing PPP loan forgiveness within 30 days of the enactment of the CARES Act. Such guidance, or additional Treasury Department regulations, may include additional de minimis exemptions from these reductions to forgiveness amounts.

Lender and Applicant Considerations

During the pendency of the COVID-19 national emergency, in additional to lenders previously approved by the SBA to provide Section 7(a) loans that may choose to opt-in to the PPP loan program, the Treasury Department and SBA may designate additional lenders to participate in the PPP that have the necessary qualifications to process, close, disburse and service loans guaranteed by the SBA. Such expansion of the eligible lender pool includes designation by the Treasury Department of insured depository institutions, insured credit unions, institutions of the Farm Credit System chartered under the Farm Credit Act of 1971 (12 U.S.C. 2001 et seq.) and other lenders that do not already participate in SBA lending programs. The Treasury Department may issue additional guidance that will establish the terms and conditions for such lenders (including who may participate as a lender in the PPP) and PPP loans consistent with the other provisions of the CARES Act.

Within five days of making a PPP loan, eligible lenders will be reimbursed by the SBA for lending fees as follows:

• 5% for loans up to $350,000
• 3% for loans greater than $350,000 and less than $2 million
• 1% for loans of $2 million or more

In evaluating loan applicants, lenders will consider whether the loan applicant was in operation on Feb. 15, 2020 and had either employees or independent contractors at such time. The Senate additionally provided guidance that the processing of PPP loans should prioritize small-business concerns and businesses in underserved and rural markets, including veterans and members of the military community, small-business concerns owned and controlled by socially and economically disadvantaged individuals (as defined in Section 8(d)(3)(C) of the CARES Act), women, and businesses in operation for less than two years.

Emergency EIDL Grants

In addition to the loans granted under the PPP, the CARES Act provides for $10 billion to be appropriated for an expansion of the SBA’s Disaster Loan Program from Jan. 31, 2020 to Dec. 31, 2020 under Section 7(b)(2) of the Small Business Act. EIDLs are long-term loans with varying repayment terms of up to 30 years, with loaned amounts determined by actual economic injury, up to $2 million, which can be used for certain delineated working capital needs (payment of fixed debts, payroll, accounts payable, employee sick leave and other bills that cannot be paid due to a disaster’s impact). The interest rate on EIDLs is 3.75% for small businesses and 2.75% for nonprofits. There are no upfront fees or early payment penalties charged by the SBA with respect to such loans.

Eligible Borrowers: In addition to current eligible entities, eligible EIDL borrowers include:

• Businesses with not more than 500 employees
• Any individual who operates under a sole proprietorship, with or without employees, or as an independent contractor
• A cooperative with not more than 500 employees
• An employee stock ownership plan (as defined in Section 3 of the Small Business Act (15 U.S.C. 632)) with not more than 500 employees
• A tribal small-business concern, as described in Section 31(b)(2)(C) of the Small Business Act (15 U.S.C. 657a(b)(2)(C)), with not more than 500 employees

Waived EIDL Borrower Requirements: The CARES Act waives (i) the requirement of any personal guaranty on advances and loans of not more than $200,000; (ii) the requirement that a borrower be in business for the one-year period before the applicable disaster, as long as the borrower was in business prior to Jan. 31; and (iii) the requirement that an applicant be unable to obtain credit elsewhere. Additionally, during this period, the SBA may approve an applicant based solely on their credit score and shall not require an applicant to submit a tax return or a tax return transcript for such approval or use alternative appropriate methods to determine an applicant’s ability to repay the EIDL.

Grants: In an effort to get necessary funds into the hands of businesses suffering as a result of COVID-19 as quickly as possible, the CARES Act permits applicants for EIDLs to request an advance of up to $10,000 from the SBA that need not be repaid even if the applicant is subsequently denied an EIDL and which may be used for any purpose allowable under Section 7(b)(2) of the Small Business Act, including:

• Providing paid sick leave to employees unable to work due to the direct effect of the COVID-19
• Maintaining payroll to retain employees during business disruptions or substantial slowdowns
• Meeting increased costs to obtain materials unavailable from the applicant’s original source due to interrupted supply chains
• Making rent or mortgage payments
• Repaying obligations that cannot be met due to revenue losses

Additional Financial Support for Small Businesses

The CARES Act establishes certain additional programs to provide financial support to small businesses.

Subsidy for Certain SBA Loan Payments

The CARES Act authorizes the appropriation of $17 billion to support the SBA’s payment on behalf of borrowers of six months’ worth of principal, interest and any associated fees that are owed on loans guaranteed by the SBA under Section 7(a) of the Small Business Act (other than PPP loans) or Title V of the Small Business Investment Act of 1958, as well as loans made by an intermediary to a small-business concern using loans or grants received under Section 7(m) of the Small Business Act, as follows:

• With respect to a loan made before the enactment of the CARES Act and not on deferment, for six months starting with the next payment due on the loan
• With respect to a loan made before the enactment of the CARES Act and on deferment, for the six months beginning with the next payment due on the loan after the deferment period
• With respect to a loan made following the enactment of the CARES Act and for six months thereafter, for the six months beginning with the first payment due on the covered loan

Bankruptcy Relief

The Bankruptcy Code was recently amended to put into place the Small Business Reorganization Act of 2019 (SBRA), which became effective on Feb. 19, 2020. SBRA added a new section, Subchapter V to Chapter 11, in an attempt to streamline bankruptcy procedures for small businesses to help achieve successful restructurings. The SBRA included provisions to increase the small-business debtors’ ability to retain control of the business, reduce procedural burdens and costs, and increase oversight.

Section 1113 of Title I of the CARES Act provides consumers and small businesses with greater access to bankruptcy relief by:

• Amending the SBRA to increase the debt limit to $7.5 million (from $2,725,625) for businesses eligible to file under Subchapter V of Chapter 11 of the Bankruptcy Code (that was recently created by the SBRA)
• Excluding COVID-19-related payments from the federal government from being treated as “income” for purposes of filing bankruptcy in Chapter 7 and Chapter 13
• Excluding COVID-19-related payments from the calculation of disposable income for purposes of confirming a Chapter 13 plan
• Allowing individuals and families in Chapter 13 who are experiencing a COVID-19-related material financial hardship to seek payment plan modifications (including extending payments for up to seven years after the initial plan payment was due)

These provisions expire one year from the date of enactment of the CARES Act.

Additional Loan Programs Under Title IV of the CARES Act

In addition to the PPP enacted under Title I of the CARES Act, Title IV of the CARES Act, called the Coronavirus Economic Stabilization Act of 2020 (CESA), allocates additional funds to make loans, loan guarantees and other investments to businesses, states and municipalities, including $454 billion to be used for loans and loan guarantees and other investment in programs or facilities established by the Federal Reserve for purposes of providing liquidity to the financial system that supports lending to eligible businesses, states and municipalities, such liquidity to be provided through purchasing issuers’ obligations directly or through the secondary market or making direct loans or advances secured by collateral. Any direct loans by the Treasury Department under this program will incur interest at rates determined by the Treasury Department based on the risk and the current average yield on outstanding market obligations of the United States of comparable maturity. The Title IV loan programs and facilities are not subject to the same qualifications and limitations as apply to PPP under Title I of the CARES Act. The $454 billion program is in addition to the amounts made available to the passenger air carrier and air cargo industry and to businesses critical to maintaining national security.

Kramer Levin’s client alert on the CESA (the CESA Alert) can be found here: COVID-19 Update: CARES Act Economic Stabilization Update.

Such program, the procedures for which shall be established by the secretary of the Treasury, including minimum requirements, within 10 days of enactment of the CARES Act, contemplates both direct loan programs to eligible borrowers (subject to certain restrictions and limitations as described in the CESA Alert) as well as the establishment by the secretary of the Treasury of a program or facility to provide financing to banks and other lenders that make direct loans to eligible midsize businesses with between 500 and 10,000 employees (such loans to eligible businesses, in turn, to be subject to certain enumerated loan criteria and requirements of the borrower as identified in the CESA Alert). Furthermore, the secretary of the Treasury shall endeavor to implement a program or facility to provide liquidity to the financial system that supports lending to states and municipalities.

While additional guidance on the loan and liquidity program is expected, the applicable requirements under Section 13(3) of the Federal Reserve Act related to collateralization, taxpayer protection and borrower solvency will still apply. The secretary of the Treasury will ultimately have broad discretion over the form of the loan and the terms, covenants and requirements. CESA suggests that direct loans from the Treasury Department will, as a general matter, need to be secured, while it does not expressly address collateral requirements for loans to eligible borrowers under the contemplated liquidity facilities. Furthermore, CESA does not otherwise address subordination or intercreditor arrangements for either the direct loan program or liquidity facilities contemplated thereunder, and we would expect additional guidance from the Treasury Department in implementing these programs. The availability of loans to eligible borrowers under proposed midsize companies credit facility programs may also be tied to maintenance of workforce levels and restoring levels to those that existed on Feb. 1, 2020, as described in the CESA Alert.