On March 27, 2020, the president signed the Coronavirus Aid, Relief, and Economic Security Act (CARES Act) into law.
The cornerstone of the CARES Act for small businesses (those with no more than 500 employees) is the Paycheck Protection Program (PPP). The PPP authorizes up to $349 billion of federally-guaranteed loans to qualifying small businesses. These loans are designed to be forgiven if employers keep employees on their payroll and spend the loan proceeds on qualifying expenses. Through private lenders, these loans will be administered through the U.S. Small Business Administration’s (SBA) 7(a) loan program. The 7(a) loan program, which has existed for some time, has been modified and expanded in the CARES Act.
What is the difference between an SBA 7(a) loan and an SBA 7(b)(2) loan?
The SBA 7(a) loan program differs significantly from an SBA disaster loan, also referred to as a 7(b) (2) loan or an Economic Injury Disaster Loan (EIDL).
SBA disaster loans have been widely publicized in recent days, as governors across the nation have submitted requests for SBA disaster loan assistance. SBA disaster loans are applied for by completing an application on the SBA’s website. Notably, SBA disaster loans do not contain the loan forgiveness available in the expanded 7(a) loan program.
A borrower is not eligible to receive an SBA disaster loan related to COVID-19 and a 7(a) loan related to COVID-19 if the proceeds are used for the same purpose. A small business that has already submitted an SBA disaster loan application related to COVID-19, or that is planning to, should be aware of the potential impact that closing on an SBA disaster loan may have on its 7(a) loan program eligibility.
Who is eligible under the expanded 7(a) loan program?
Any business, nonprofit organization1, self-employed individual, sole proprietorship or independent contractor that has “been adversely impacted by COVID-19” will be eligible if that entity:
- Does not employ more than 500 employees (including full-time and part-time employees)2; OR
- Meets the existing SBA size standard for its industry, AND
- Was in operation on February 15, 2020 and paid employees’ salaries and payroll taxes or paid independent contractors reported on IRS Form 1099.
How does a company demonstrate that it has “been adversely impacted by COVID-19” and is an “impacted borrower”?
There is not a bright-line test which a company must pass to demonstrate that it has been adversely impacted by COVID-19, aside from meeting the borrower requirements below.
What are the borrower requirements?
An impacted borrower is required to make a good faith certification that the uncertainty of current economic conditions makes the loan request necessary to support ongoing operations and acknowledge that the funds will be used to retain workers and maintain payroll or make mortgage payments, lease payments and utility payments.
No personal guarantee or collateral is required, and the “credit elsewhere” requirement is waived.
How is the loan amount determined?
The loan amount is the lesser of:
- 2.5 times the company’s average3 monthly payroll costs4 incurred in the one-year period before the loan is made; OR
Compensation of an employee in excess of $100,000, federal payroll taxes and sick leave paid under the Families First Coronavirus Relief Act, and compensation of an employee whose principal place of residence is located outside of the United States are excluded from payroll costs.
How does the loan forgiveness work?
For the eight-week period (covered period) beginning on the loan origination date, borrowers are eligible for loan forgiveness if the loan proceeds are spent on eligible expenses and the borrower meets certain requirements related to the retention of employees and decreases in employee pay rates.
Expenses eligible for loan forgiveness include:
- payroll costs;
- health benefits;
- utilities; and
- Interest on debt obligations5.
During the covered period, the amount that may be forgiven will be proportionately reduced if the company does maintain the average number of employees6 it had before the crisis began or if it reduces salaries or wages of an employee who makes less than $100,000 by more than 25%. Employers will not be penalized if they eliminate the decrease in employee headcount and/or wages by June 30, 20207.
The loan forgiveness is not taxable income for federal income tax purposes.
Any portion of the loan not forgiven will have a term of not more than 10 years from the date loan forgiveness is applied for, with an interest rate not to exceed 4%. Lenders are required to defer interest and principal from the loan origination date for a period of not less than six months and not more than one year.
When will this program go into effect?
Lenders and banks are awaiting guidance from Treasury to proceed with the loan program. Treasury Secretary Steve Mnuchin said Treasury will release new regulations in the next few days authorizing almost every single FDIC-insured bank to make loans.
Mnuchin has also said he expects it to be a “very simple process” for borrowers to obtain loans, where they can be made and disbursed on the same day. Some banks and lenders have said they may be able to start receiving applications as early as next week, depending on how quickly they receive guidance from Treasury and the SBA.
While the exact timing on when the program will be up and running is unclear, we do expect guidance to be issued soon. We suggest that all businesses impacted by the COVID-19 pandemic consult their bankers or lenders as soon as possible to learn more and begin the application process.
- Anonprofit entity eligible for payments under a state plan under the Social Security Act or a waiver under such plan is not eligible.
- Allows businesses in certain industries to use a 500-employee test per location; SBA affiliation rules apply; SBA affiliation rules are waived for businesses in the hospitality and restaurant industries, franchises that are approved on the SBA’s Franchise Directory, and small businesses that receive financing through the Small Business Investment Company (SBIC) program.
- Seasonal employers shall use the average total monthly payroll for the 12-week period beginning February 15, 2019, or if elected, the period beginning March 1, 2019 and ending June 30, 2019.
- Payroll costs include: salary, wage, commission or similar compensation, independent contractors, cash tips or equivalent, vacation, parental, family, medical, sick leave, allowance for dismissal or separation, payment for group health benefits (including insurance premiums), payment for retirement benefits, and state or local payroll taxes (federal taxes excluded).
- Includes: Any debt incurred during ordinary course of business before February 15, 2020 (mortgage on real or personal property), utilities in place before February 15, 2020, and leases in force before February 15, 2020.
- The numbers of employees required to be maintained is based on the average number of employees from the period February 15, 2019, through June 30, 2019 or if elected by the company, January 1, 2020, through February 29, 2020, with certain exceptions.
- This provision was included so that employers would not be penalized for having to lay workers off or reduce wages before the enactment of the Act, if they are able to rehire and/or increase wages by June 30, 2020.