By Lindsey Berwick & John Wittenberg
The Coronavirus Aid, Relief, and Economic Security (CARES) Act provides emergency economic stimulus to small businesses and certain eligible recipients in response to the economic distress caused by the COVID-19 pandemic. The Coronavirus Economic Stabilization Act of 2020 (CESA), at Title IV, Subtitle A of the CARES Act, authorizes the Secretary of the Treasury to, among other things, establish and administer a program of loans, loan guarantees, and other investments to provide liquidity to eligible businesses related to losses incurred as a result of coronavirus.
CARES Act – Initial PPP and EIDL Program Funding
The CARES Act made available, through the Keeping American Workers Paid and Employed Act, $349 billion in loans under the Paycheck Protection Program (under the SBA 7(a) loan program), and an additional $10 billion for relief under expanded Economic Injury Disaster Loan Program (EIDLP).
The CARES Act made significant amendments to the SBA 7(a) Loan Program, known as the Paycheck Protection Program (PPP) under the CARES Act, and the U.S. Small Business Administration (SBA) and the U.S. Department of the Treasury (Treasury Department) have issued the following rules and guidance:
- On April 2, 2020, the SBA issued the first interim final rule outlining the key provisions for implementing the PPP which was effective immediately.
- On April 3, 2020, the SBA issued a second interim final rule (the “Second IFR”) with additional guidance on the application of certain affiliate rules applicable to the PPP.
- On April 17, 2020, the SBA issued a third interim final rule to clarify the eligibility criteria and rules for self-employed individuals under the SBA’s PPP and to clarify requirements for certain pledges of PPP loans.
- On April 23, 2020, Congress passed another piece of legislation, the Paycheck Protection Program and Health Care Enhancement (PPPHCE) Act, 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. The PPPHCE Act does not generally alter the PPP loan eligibility requirements, application process, or loan forgiveness rules, and it does not change the SBA affiliation rules that apply to PPP loan applicants.
- 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.”
- On April 24, 2020, President Trump signed the PPPHCE Act into law and the SBA issued a fourth interim final rule (the “Fourth IFR”) that clarifies that (a) private equity firms and hedge funds are ineligible for the PPP, and (b) portfolio companies of such firms and funds may be eligible for the PPP, subject to satisfying the affiliation rules, and such portfolio companies should “carefully review” the required certification that “current economic uncertainty makes [the] loan request necessary to support the ongoing operations of the applicant.” The Fourth IFR also provides a limited “safe harbor” for any borrower that received a PPP loan prior to April 24, 2020, and repays the loan in full by May 7, 2020.
- On April 24, 2020, the SBA published supplemental guidance to assist borrowers and lenders in calculating maximum loan amounts under the PPP.
- On April 26, 2020, the Treasury Department released updated guidance on the PPP’s frequently asked questions page, adding Question 36, that provides guidance on how a borrower should count employees for purposes of borrower eligibility under the 500-employee or other applicable threshold established by the CARES Act.
- The Small Business Administration resumed accepting applications for PPP loans via its E-Tran platform on April 27, 2020, at 10:30 a.m. EDT.
- On April 27, 2020, the SBA issued a fifth interim final rule(the “Fifth IFR”) providing a seasonal employer the option of using an alternative base period for purposes of calculating the loan amount for which they are eligible under the PPP.
The PPPHCE Act – Increase in PPP and EIDL Program Funding
The PPPHCE Act, among other things:
- provides an additional $320 billion for the loans, fees and expenses under the PPP. This increases the available funding for PPP loans from $349 billion to $670 billion. Of the $320 billion for the PPP, the PPPHCE reserves:
- $10 billion to cover administrative costs of the program;
- $30 billion for loans made by banks and credit unions that have assets between $10 billion and $50 billion; and
- $30 billion for loans made by community financial institutions, and certified development companies, microloan intermediaries, and state or federal credit unions with assets of less than $10 billion.
- provides an additional $10 billon for the EIDLP. This increases the available funding for EIDL grants from $10 billion to $20 billion.
- provides an additional $50 billion for direct EIDL loans made by the SBA under Section 7(b) of the Small Business Act.
PPP Good Faith Certification (FAQ 31 and Fourth IFR)
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 PPP loan 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.”
Since the CARES Act was signed into law, there have been many questions with respect to how to interpret these certifications and how to ensure these certifications and correct and made in good faith. Finally, on April 23, we received guidance from the SBA, in consultation with the Treasury Department, as to what constitutes need by way of FAQ 31 that was added to the PPP loans FAQs. FAQ 31 provides:
31. Question: Do businesses owned by large companies with adequate sources of liquidity to support the business’s ongoing operations qualify for a PPP loan?
Answer: In addition to reviewing applicable affiliation rules to determine eligibility, all borrowers must assess their economic need for a PPP loan under the standard established by the CARES Act and the PPP regulations at the time of the loan application. Although the CARES Act suspends the ordinary requirement that borrowers must be unable to obtain credit elsewhere (as defined in section 3(h) of the Small Business Act), borrowers still must certify in good faith that their PPP loan request is necessary. Specifically, before submitting a PPP application, all borrowers should review carefully the required certification that “[c]urrent economic uncertainty makes this loan request necessary to support the ongoing operations of the Applicant.” Borrowers must make this certification in good faith, taking into account their current business activity and their ability to access other sources of liquidity sufficient to support their ongoing operations in a manner that is not significantly detrimental to the business. For example, it is unlikely that a public company with substantial market value and access to capital markets will be able to make the required certification in good faith, and such a company should be prepared to demonstrate to SBA, upon request, the basis for its certification.
Lenders may rely on a borrower’s certification regarding the necessity of the loan request. Any borrower that applied for a PPP loan prior to the issuance of this guidance and repays the loan in full by May 7, 2020, will be deemed by SBA to have made the required certification in good faith.
FAQ 31 is clearly directed to large, public companies. However, based upon the language in the first sentence of the answer (i.e., all borrowers must assess their economic need for a PPP loan under the standard established by the CARES Act and the PPP regulations at the time of the loan application), it is possible, and quite probable, it will be applied to the certifications made by all PPP borrowers. The SBA is giving PPP borrowers a “second bite of the apple” and imploring borrowers to “carefully review the required certification” as to the necessity of the loan. They even went so far as to create a limited safe harbor in the Fourth IFR. The limited safe harbor provides that any borrower that received a PPP loan and in hindsight should not have applied, has until May 7, 2020, to repay the loan in full to remove any questions of a bad faith certification. Borrowers that received a PPP loan and have cash reserves, a robust line of credit or access to other funds or financing, or borrowers that have determined that they are otherwise ineligible for a PPP loan, should give serious consideration to returning these funds to the PPP lender.
The Fourth IFR provides clarification concerning the PPP eligibility of private equity firms, hedge funds and portfolio companies. It also provides information on the impact of ESOPs and bankruptcy on PPP eligibility, and a limited safe harbor in connection with the borrower’s good faith certification of need for the PPP loan.
Hedge Funds and Private Equity Firms – Hedge funds and private equity firms as businesses are ineligible for PPP loans. The SBA further explained that these businesses are “primarily engaged in investment or speculation, and such businesses are therefore ineligible to receive a PPP loan.” This is consistent with past guidance relating to passive businesses as outlined in SOP 50 (10) 5(F).
Private Equity Fund Portfolio Companies – Portfolio companies of private equity funds are eligible for PPP loans to the same extent as equivalent companies not owned by private equity. The SBA reiterated that the affiliation rules in 13 CFR 121.301(f) and the Second IFR apply to such portfolio companies in the same way as other businesses subject to outside ownership or control. This rule is consistent with SBA guidance given to date. Moreover, SBA added that portfolio companies should “carefully review” the PPP borrower certification on their economic needs.
Hospitals Owned by Governmental Entities – A hospital that is otherwise eligible to receive a PPP loan as a business concern or 501(c)(3) will still be eligible, regardless of ownership by state or local government, if the hospital receives less than 50% of its funding from state or local government sources, not including Medicaid.
ESOPs – A business’s participation in an employee stock ownership plan (ESOP) does not result in an affiliation between the business and the ESOP. In other words, companies with an ESOP will not trigger the SBA affiliation rules.
Companies in Bankruptcy – Companies in bankruptcy as of the application date or at any point before funds are disbursed are ineligible for the PPP.
Limited Safe Harbor for Certification of Need – As noted above, the Fourth IFR provides that any borrower that applied for a PPP loan prior to the issuance of the Fourth IFR and repays the loan in full by May 7, 2020 will be deemed by SBA to have made the required certification (as to need and eligibility) in good faith.
Calculation of PPP Loan Amount
SBA has also issued guidance to help borrowers and lenders calculate and document the maximum PPP loan amount for which a business may be eligible. The guidance addresses calculations and documentation requirements for applicants that are:
- Self-employed with no employees.
- Self-employed with employees.
- Self-employed farmers who report income on Schedule F.
- Subchapter S and C corporations.
- Nonprofit organizations.
- Eligible nonprofit religious organizations, veterans’ organizations and tribal businesses.
- Limited liability company owners.
SBA added in the guidance the following:
“Borrowers and lenders may rely on the guidance provided in this document as SBA’s interpretation of the CARES Act and of the Paycheck Protection Program Interim Final Rules. The U.S. government will not challenge lender PPP actions that conform to this guidance and to the PPP Interim Final Rules and any subsequent rulemaking in effect at the time.”
Employee Count (FAQ 36)
The SBA, in consultation with the Treasury Department, has provided additional guidance as to what constitutes an “employee” for purposes of PPP eligibility and loan forgiveness by way of Question 36 that was added to the PPP loans FAQs on April 26, 2020. Question 36 provides:
36. Question: To determine borrower eligibility under the 500-employee or other applicable threshold established by the CARES Act, must a borrower count all employees or only full-time equivalent employees?
Answer: For purposes of loan eligibility, the CARES Act defines the term employee to include “individuals employed on a full-time, part-time, or other basis.” A borrower must therefore calculate the total number of employees, including part-time employees, when determining their employee headcount for purposes of the eligibility threshold. For example, if a borrower has 200 full-time employees and 50 part-time employees each working 10 hours per week, the borrower has a total of 250 employees.
By contrast, for purposes of loan forgiveness, the CARES Act uses the standard of “fulltime equivalent employees” to determine the extent to which the loan forgiveness amount will be reduced in the event of workforce reductions.
There has been some uncertainty on how to calculate the number of employees for PPP eligibility and loan forgiveness since the CARES Act became law. Question 36 makes clear for that for purposes of determining PPP eligibility “employees” is all employees (i.e., full-time, part-time and other), and for purposes of loan forgiveness, “full-time equivalent” (FTE) is used when calculating the amount by which loan forgiveness will be reduced by reduction in workforce.
The Fifth IFR provides a seasonal employer the option of using any consecutive 12-week period between May 1, 2019 and September 15, 2019, for determining its maximum loan amount. It further provides that, in evaluating eligibility, a seasonal business will be considered to have been in operation as of February 15, 2020, if the business was in operation for any 8-week period between May 1, 2019, and September 15, 2019.
More to Come
As we have 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.
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.
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.
Please note: This article and any resources presented on the Jackson Walker Coronavirus microsite do not constitute legal or medical advice.