CARES Act Update – Important Considerations for Paycheck Protection Program Participants (Enforcement Actions, FAQ 31 and FAQ 37, and Fourth Interim Final Rule)

April 29, 2020 | Insights



By Lindsey Berwick & John Wittenberg

The Coronavirus Aid, Relief, and Economic Security (CARES) Act was signed into law on March 23, 2020, to provide emergency economic stimulus to small businesses and certain eligible recipients in response to the economic distress caused by the COVID-19 pandemic. Funds for the Paycheck Protection Program (PPP) and Economic Injury Disaster Loan Program (EIDL) Program created under the CARES Act were exhausted by April 16, 2020.

On April 23, 2020, Congress passed another piece of legislation, the Paycheck Protection Program and Health Care Enhancement (PPPHCE) Act (Pub. L. No. 116-139 (H.R. 266)), which, among other things, amends and supplements the CARES Act by increasing funding to small businesses, states, municipalities, and hospitals, including an additional $310 billion to the PPP and an additional $60 billion to the EIDL Program.

On April 23, 2020, the same day that the House passed the PPPHCE Act, the Treasury Department released updated guidance on the PPP’s frequently asked questions page, adding Question 31 (“FAQ 31”), that addressed the purpose of, and requirements surrounding, the certification in the PPP application form that “[c]urrent economic uncertainty makes this loan request necessary to support the ongoing operations of the Applicant” (the “Hardship Certification”).

On April 24, 2020, President Trump signed the PPPHCE Act into law, and the SBA issued a fourth interim final rule (the “Fourth IFR”). The Fourth IFR, among other things, provides a limited “safe harbor” with respect to the certification as to “economic need” for the PPP Loan (PPPL). It provides that any borrower that received a PPPL prior to April 24, 2020, and repays the PPPL in full by May 7, 2020, will be deemed to have made the certification as to “economic need” in good faith.

On April 28, 2020, the Treasury Department issued additional updated guidance on the PPP’s frequently asked questions page, adding Question 37 (“FAQ 37”), that confirmed that the Hardship Certification requirement described in FAQ 31 applies to businesses owned by private companies.

The U.S. government has indicated it plans to aggressively pursue fraud or misconduct by recipients of CARES Act funds. For guidance on the government’s enforcement efforts, please see the excellent article on this subject prepared by White Collar Defense & Government Enforcement practice group. Companies and other recipients of CARES Act funds should be aware of all laws, rules, and regulations that apply to the program under which it is receiving funds and implement policies, procedures and controls and monitor guidance issued by government enforcement authorities. The latest guidance, including FAQ 31 and the Fourth IFR, should make all PPPL applicants and PPPL borrowers, especially those owned by large companies, think long and hard about the Hardship Certification and overall eligibility for the PPP.

Enforcement Actions – Next Steps in Light of FAQ 31, FAQ 37, and the Fourth IFR

Each PPPL application requires certifications from the applicant that the information contained therein is true, including sections on eligibility and need. If an applicant knowingly or intentionally submits false or inaccurate information in a PPPL application, it may be subject to civil and criminal liability, including liability under the False Claims Act.

With respect to PPPLs, enforcement will most likely be focused on the following areas:

  • Eligibility (including proper application of the SBA’s affiliation rules)
  • Need
  • Loan Amount
  • Use of Loan Proceeds

Based on FAQs 31 and 37 and the limited “safe harbor” created in the Fourth IFR, it is clear that PPP borrowers will be subject to audit and enforcement. Moreover, Treasury Secretary Steve Mnuchin has publicly stated that for any PPP loan over $2 million, the SBA will be doing a full review of that loan before there is loan forgiveness. In light of this guidance, any business that has applied for a PPPL, whose application has been approved, and even those whose loan has been funded, should carefully examine its PPP application to ensure it, and all certifications made therein, are true, correct and complete, and specifically that the applicant (a) qualifies and is eligible for a PPPL as a small business, and (b) needs the PPPL to “support the ongoing operations of the Applicant.”

With regard to the anticipated civil and criminal investigation measures that we expect the government will employ to enforce these requirements and limitations, please see guidance from our White Collar Defense & Government Enforcement practice group.

Eligibility

The following is a restatement of the eligibility criteria for a PPPL and a list of the businesses that are not eligible for PPPLs:

  • Eligibility Criteria: To be eligible for a PPPL, an applicant must:
    • Have been operational on February 15, 2020.
    • Have paid salaries and payroll taxes to employees.
    • Certify that the current economic uncertainty makes the loan request necessary to support the ongoing operations of the applicant.
    • Satisfy one of the following:
  • A business that qualifies as a “small business concern” under Section 3 of the Small Business Act (based upon employee-based or revenue-based size standards corresponding to its primary industry as set forth in the SBA’s Table of Small Business Size Standards), may truthfully attest to its eligibility for a PPPL on the application, unless otherwise ineligible.
  • A business may qualify for a PPPL as a small business concern if it met both tests in the SBA’s “alternative size standard” as of March 27, 2020: (i) maximum tangible net worth of the business is not more than $15MM and (ii) the average net income after Federal income taxes (excluding any carry-over losses) of the business for the two full fiscal years before the date of the PPPL application is not more than $5MM.
  • For purposes of calculating the number of employees, “employees” includes anyone employed by the applicant on a full-time, part-time, or other basis, subject to the SBA’s affiliation rules.
  • The 500-employee rule will be applied on a per physical locationbasis for businesses in the accommodation (i.e., hotel) and food services sector (NAICS 72).
  • Affiliation rules will be waived for (i) businesses in the accommodation (i.e., hotel) and food services sector (NAICS 72); (ii) businesses operating as a franchise that is assigned a franchise identifier code by the SBA (See SBA’s Franchise Directory); and (iii) businesses receiving financial assistance under Section 301 of the Small Business Investment Act of 1958.
  • Sole proprietors, independent contractors, and other self-employed individuals are also eligible for PPPLs..
  • Ineligibility: An applicant is ineligible if:
    • It is engaged in any activity that is illegal under federal, state, or local law.
    • It is a household employer (individuals who employ household employees such as nannies or housekeepers).
    • An owner of 20% or more of the equity of the applicant is incarcerated, on probation, on parole; presently subject to an indictment, criminal information, arraignment, or other means by which formal criminal charges are brought in any jurisdiction; or has been convicted of a felony within the last five years.
    • It, or any business owned or controlled by applicant or any of applicant’s owners, has ever obtained a direct or guaranteed loan from the SBA or any other Federal agency that is currently delinquent or has defaulted within the last seven years and caused a loss to the government.
    • It is identified in 13 CFR 120.110 and described further in SBA’s Standard Operating Procedure (SOP) 50 10, Subpart B, Chapter 2[1],except that nonprofit organizations authorized under the CARES Act are eligible. (SOP 50 10 can be found here, see Page 85 for Subpart B, Chapter 2).

Demonstrable Need for PPPL; Hardship Certification

The CARES Act requires that a PPP applicant certify, in good faith, as follows:

“the uncertainty of current economic conditions makes necessary the loan request to support the ongoing operations of the eligible recipient.”

The PPPL application issued by the SBA contains the following certification:

“Current economic uncertainty makes this loan request necessary to support the ongoing operations of the Applicant.”

While the recent guidance from the SBA set forth in FAQ 31 is aimed at large, public companies that have substantial market value and access to capital, FAQ 37 makes it clear that the “economic need” test applies to all PPP borrowers, regardless of size, and to public and non-public companies.  Therefore, all borrowers must take into account their current business activity and ability to access other sources of liquidity not significantly detrimental to the business. Although not part of the CARES Act or the PPP and associated guidance released up to this point, it seems clear that the bar has been raised and borrowers will need to be able to “prove” that the PPPL was effectively the only way for their business to survive COVID-19.

Borrowers will need to document or memorialize the analysis and decision making associated with the PPP application and the certifications contained therein, including the Hardship Certification. This should be in the form of an internal memorandum or report, and should include all information, documentation, analysis, and materials used to prepare and support the PPP application. Examples of relevant information include:

  • Decline in business and/or delay in payment, write-downs or charge-offs
  • Business uncertainties (e.g., operations, supply chain, customer/client demand)
  • Pre-COVID-19 financial statements (e.g., operating statements)
  • Post COVID-19 financial statements
  • Employee count and salaries/wages
  • Cash on hand (i.e., reserves)
  • Access to capital, if available (and cost of same)
  • Budget forecasts
  • Risk assessment
  • Plan for reducing staff and payroll costs in absence of PPPL and forgiveness

Limited Safe Harbor; Return of Funds

For borrowers that decide they do not need the PPPL to support ongoing operations or do not want to risk the scrutiny associated with accepting the PPPL, the SBA has provided a limited “safe harbor” to return the PPPL funds to the PPP lender by May 7, 2020. If the borrower returns the funds by such date, it will be deemed to have made the certification of need in the PPPL application in good faith. This “safe harbor” only addresses the certification of economic need for the PPPL and is not an all-encompassing safe harbor regarding all certifications made in the PPPL application (e.g., size, affiliation, etc.). However, if a borrower believes for any reason it may no longer be eligible for the PPPL, it should give serious consideration to repaying it by May 7, 2020. In addition, borrowers with an approved PPPL that has not been funded, or who have a pending PPPL application, that are not able to make any of the required PPPL certifications and do not want to risk a possible enforcement action may elect to not close the loan or to withdraw the application, as applicable, and should do so by May 7, 2020.

PPPL Account and Recordkeeping

For borrowers that qualify and receive a PPPL, PPPL funds should be deposited in a separate bank account (the “PPPL Account”) and the PPPL Account should only be used for expenditures that are eligible for forgiveness and other permitted purposes under the PPP. Borrower should keep all bank statements and detailed records of all debits to the PPPL Account.

Detailed and complete recordkeeping is critical for loan forgiveness and to withstand any enforcement scrutiny as to whether the PPPL funds were used for permitted purposes.  Payroll tax filings (Form 941 and payroll registers), verification of payment (bank statements, canceled checks, wire transfer confirmations), calculation of FTEs, account statements are examples of the documentation that should be retained and maintained. These records should be kept in both digital and paper forms.

More to Come

As noted in prior articles, the facts, laws, and regulations regarding COVID-19 are developing rapidly and frequently changing. Since the date of publication, there may be new or additional information not referenced in this update. JW will continue to provide up-to-date insights and virtual events regarding COVID-19 concerns. Our most recent insights, as well as information about recorded and upcoming virtual events, are available at the JW Coronavirus microsite.

This update is not intended to provide legal advice, and no legal or business decision should be based on its contents. Please consult with your legal counsel for guidance.

JW Contacts

For specific assistance or more information concerning these loan programs, please contact John Wittenberg or Lindsey Berwick.

[1] The following business are not eligible for PPP loans:   ♦ Passive businesses owned by developers and landlords that do not actively use or occupy the assets acquired or improved with the loan proceeds.   ♦ Businesses primarily engaged in subdividing real property into lots and developing it for resale on their own account.   ♦ Businesses primarily engaged in owning or purchasing real estate and leasing it for any purpose are not eligible (e.g. shopping malls, salon suites, and like business models that generate income by renting space to accommodate independent businesses).   ♦ Businesses that lease land for the installation of cell towers, solar panels or billboards.   ♦ Businesses that have entered into a management agreement with a third party that gives the management company sole discretion to manage the operations of the business, including control over the employees, the finances and the bank accounts of the business, with no involvement by the owner(s) of the applicant business.   ♦ Apartment buildings and mobile home parks.   ♦ Residential facilities that do not provide healthcare and/or medical services.


Meet Lindsey

Lindsey B. Berwick has multifaceted experience handling commercial financing and transactional matters in both private practice and at one of the nation’s 60 largest financial institutions. Lindsey’s practice focuses on complex business transactions involving real estate, finance, commercial agreements and general corporate law. Clients look to Lindsey to evaluate and advise on commercial loan structures and documentation, leveraging her extensive background in the banking and finance industry to identify the correct financing vehicle for each transaction with a focus on achieving the clients’ business goals.

Meet John

John D. Wittenberg represents and counsels a wide variety of clients in all aspects of commercial real estate (office, retail, and industrial). John’s practice includes the representation of banks and other financial institutions, as well as equity sponsors and borrowers, on complex business transactions and a broad range of transactional matters. Over the course of his career, John has represented clients on acquisitions and dispositions of commercial real estate, commercial leases (office, retail and industrial), sale-leasebacks, and commercial development transactions.

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Please note: This article and any resources presented on the Jackson Walker Coronavirus microsite do not constitute legal or medical advice.