Reed Smith Client Alerts

On April 2, 2020, the U.S. Small Business Administration (the SBA) published an interim final rule (the Rule) meant to implement the Paycheck Protection Program (PPP). PPP is a key program under the Coronavirus Aid, Relief, and Economic Security Act (the CARES Act or the Act) signed into law by President Trump on March 27. Through PPP, which contains nearly $350 billion of funding for small businesses, eligible borrowers can access fully guaranteed loans worth up to $10 million in order to cover payroll costs and other specified operating costs over the course of the eight-week period beginning on the day the loan is originated. PPP is meant to incentivize small businesses to maintain their payrolls as the COVID-19 pandemic continues to unfold.

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The Rule becomes effective upon the date of publication in the Federal Register (although ambiguity in the Rule release suggests it is effective immediately) and comments may be submitted until 30 days after publication in the Federal Register.  While the Rule does provide guidance on key aspects of the Act – lowering the interest rate from 4 percent to 1 percent and the maturity of the loans from 10 years to two years – critical details with respect to implementation remain unaddressed.  The SBA acknowledged that further guidance on key issues is needed, specifically with respect to the applicability of its affiliation rules (sections 121.103 and 121.301) to borrowers seeking PPP loans, loan forgiveness, and advance purchase of loans sold in the secondary market.  We note that the CARES Act only identified the affiliation rules under 121.103, but the Rule is now signaling that the affiliation rules under 121.301 - which are different in some respects from 121.103 - may apply.

Below is a summary of key issues that both borrowers and lenders seeking to participate in PPP should consider.  Small businesses will be eligible to receive one PPP loan and applications must be received by June 30, 2020.  PPP is a temporary effort under the SBA Section 7(a) loan program. We recommend that all potential borrowers apply as soon as possible as funds are distributed on a first come, first served basis.  Payment of the principal and interest will begin six months from the date of disbursement.

Borrower requirements

Eligibility.  The eligibility standards articulated in the CARES Act and subsequent guidance from the SBA generally remain the same.  However, one notable change is the Rule’s apparent expansion of eligibility for nonprofit organizations to include “other businesses” beyond 501(c)(3) nonprofit organizations, 501(c)(19) veterans organizations, and Tribal business concerns expressly referenced in the Act.  The Rule (and the April 3 issued updated application form) suggest that other forms of nonprofits, such as 501(c)(6) trade organizations and 501(c)(7) social clubs may be considered eligible.

To recap, U.S. businesses – including sole proprietorships, independent contractors, and nonprofit organizations (see discussion above) – that were operational as of February 15, 2020 and meet the SBA’s size requirements, can apply for a PPP loan.  Those requirements encompass companies with 500 or fewer employees or companies that meet the SBA's table of size standards based on their NAICS code.  Companies that have fewer than 500 employees per each physical location and a NAICS code that begins with 72 are also eligible.

There are several factors that may disqualify a potential applicant, including a recent bankruptcy, involvement in debarment, suspension or criminal proceedings, and prior delinquency on an SBA loan.  Notably, PPP loans are only available to U.S. citizens or lawful permanent residents.

Affiliation regulations.  Since the CARES Act was released, businesses have struggled to makes sense of how the SBA’s existing affiliation regulations, found at 13 CFR sections 121.103 (cited within the CARES Act) and 121.301 (cited within 121.103 as the applicable rule to SBA’s loan and disaster programs), apply to PPP loans.  Under those regulations, the SBA would normally include all the employees of a business’s affiliates to determine whether the business meets the SBA’s size requirement.  The CARES Act specifically waived only 121.103’s affiliation requirements in some circumstances and, in doing so, has caused confusion.

Several industries expected the SBA to clarify the scope and application of its affiliation regulations in the Rule.  Instead, the SBA has simply stated that additional guidance would be forthcoming to clarify the ambiguity.  Until such additional guidance is provided, affiliation should be determined in consultation with counsel and upon a review of the relevant factors and precedent to assess the control rights, if any, of an applicant’s minority investors.