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What Entrepreneurs and Lenders Need to Know about CARES Act

On Behalf of | Mar 27, 2020 | Firm News

Cavitch is advising its lending and business clients on the implications of the CARES Act, which President Trump signed into law on March 27. One of the most critical components of the Act is $350 billion in new SBA loans under Section 7(a) of the Small Business Act.

Banks will begin taking applications for businesses on April 3, and on April 10 for self-employed individuals, sole proprietorships, and independent contractors.

This post is intended to provide some basic information as to these loans and other key business and lending provisions of the CARES Act. For further detail, please email me at [email protected].

For Small Businesses

  • Who Qualifies for a 7(a) Loan
    • Small businesses, nonprofits (501(c)(3) only), or veteran’s organizations with 500 or fewer employees.
      • Two caveats: (a) affiliation rules may apply to include employees of parents/subsidiaries/etc., and (b) SBA may set a higher number than 500, depending on applicable size standard for the industry.
      • Includes sole-proprietors, independent contractors, and other self-employed individuals.
      • See affiliation rules (13 CFR 121.301(f)), where common control could result in two affiliates rising above the 500 threshold.
    • Borrower must have been operational as of February 15, 2020.
    • Borrowers (and their 20%-or-greater owners/members/shareholders) must make a good faith certification:
      • current economic uncertainty makes the loan necessary to the borrower’s ongoing operations, and
      • they will use the funds to retain workers and maintain payroll and other debt obligations and sets out parameters for full-time equivalent employees,
      • they will endeavor to use American-made products and equipment, and
      • all statements and documents made in connection with the loan are accurate (with fraud and other felonies as the punishment for knowingly making a false statement).
  • Key Terms of Loans
    • Maximum principal for any borrower is equal to lesser of:
      • $10 million, and
      • 2.5x average monthly payroll costs, measured during:
        • for most businesses, the calendar year 2019;
        • for seasonal businesses, from February 15, 2019 to June 30, 2019; and
        • for new businesses, from January 1, 2020 to February 29, 2020.
      • Plus any EIDL loans used for payroll issued prior to April 3, 2020, which will be refinanced into the PPP loan.
    • The definition of “payroll costs”:
      • Is expansive, and includes wages, as well as the company’s retirement contributions, bonuses/commissions, health insurance premiums and other benefits, but…
      • Excludes:
        • Any sum above $100,000 for any given employee (i.e., each $100,000 employee could add $20,833.33 of loan principal); and
        • Federal employment taxes between imposed or withheld between February 15, 2020 and June 30, 2020, including employer’s share of FICA and income taxes required to be withheld.
    • Interest rates will be 1%.
    • Payments on the loans are deferred for 6 months. Any amount not forgiven (see below) must be repaid in 2.
  • Forgiveness of Loans
    • Principal will be forgiven, equal to the amount spent by the borrower during an 8-week period after the origination date of the loan on:
      • payroll costs
        • See definition above
        • Must constitute at least 75% of total forgiven amount
      • interest payment on any mortgage incurred prior to February 15, 2020,
      • payment of rent on any lease in force prior to February 15, 2020, and
      • payment on any utility for which service began before February 15, 2020.
    • The amount otherwise eligible for forgiveness will be reduced by:
      • The extent to which the pay of any employee is reduced beyond 25% during the 8-week period after the loan is obtained
        • Compared to the most recent quarter
        • Only applies to an employee who earns less than $100,000
      • The percent by which the number of employees has declined from pre-crisis levels, measured during the 8-week period after the loan is obtained.
        • Employees means full-time equivalents
        • The borrower may choose either of the following pre-crisis measuring periods:
          • Feb. 15, 2019 to June 30, 2019 (seasonal employers are required to use this period); or
          • Jan. 1, 2020 to Feb. 29, 2020.
      • These two forgiveness limitations will not apply, if cured by June 30, 2020.
      • There is a reduction in forgiveness up to $10,000, if an EIDL grant was received.
    • Borrowers will not be taxed for forgiveness of this debt, but they will not receive a deduction for any expenses paid with the PPP proceeds.
    • If a portion is not forgiven:
      • 2-year maturity;
      • 1% interest rate;
      • 6-month deferral of payments; and
      • No prepayment penalty, if the company wishes to repay it sooner.
  • How to Apply
    • Following enactment of the CARES Act, contact your existing lender and ask if they are an SBA lender under this program. We have numerous lender contacts who can facilitate the loans. Please feel welcome to request some referrals (email me at [email protected]).
    • Be ready to produce the following information to your banker:
      • The company’s most recent IRS Forms 940, 941, or 944 (Employer’s Quarterly Federal Income Tax Return)
      • January 2019 through February 2020 payroll expenses, which demonstrates
        • Gross wages,
        • Paid time off,
        • Vacation time,
        • FMLA pay, and
        • State and local taxes;
      • Documentation of health insurance premiums paid by the company;
      • Documentation of retirement plan funding by the company (not taken from employee’s checks); and
      • Complete 2019 financials (profit & loss statement;  balance sheet)
    • Here is the application you’ll need to complete: Paycheck-Protection-Program-Application-3-30-2020-v3
  • Other Types of Relief Available
    • SBA EIDL Loans and Emergency Grants – During the application process for EIDL Loans, SBA will provide an up-front grant of $10,000. These grants are subject to forgiveness provisions described above. Apply for EIDL grant by clicking here.
    • Employee Retention Credits – For employers with 100 or fewer employees, who were shut down (completely or mostly) due to government order, there is a maximum payroll tax credit of $10,000 (or $5,000 per employee) for wages paid from March 12, 2020 and January 1, 2021. This provision is not applicable for any employer who receives forgiveness of a Paycheck Protection Program loan.
    • Delay of payment of employer payroll taxes – Employers and self-employed individuals may defer payment of the 6.2% employer share of the Social Security tax. Instead, half will be due by December 31, 2021 and the other half by December 31, 2022. This provision is not applicable for any employer who receives forgiveness of a Paycheck Protection Program loan.
    • Modifications for Business Taxes
      • Net operating losses for corporations are currently subject to a taxable income limitation, and they cannot be carried back to reduce income in a prior tax year. Under the CARES Act, a loss from 2018, 2019, or 2020 can be carried back five years. The provision also temporarily removes the taxable income limitation to allow an NOL to fully offset income. Companies may amend prior years returns in accordance with this provision.
      • Corporate AMT credits may be accelerated.
      • For 2019 and 2020 tax years, a business may deduct interest expense up to 50% of taxable income (currently, the cap is 30%).
      • Accelerated depreciation for qualified improvement property (improvements to interior of non-residential business real property).
      • Additional leniency for deduction of losses from pass-through entities.

.For Lenders

  • SBA 7(a) Loans
    • Standard 7(a) loan maximum increased from $5MM to $10MM.
    • Underwriting is simplified, because there is no determination of repayment ability, so long as borrower had employees and was operational as of February 15, 2020, and certifies it was impacted by COVID-19.
    • Government guaranty is now equal to 100% for loans closed through December 31, 2020, after which point they will return to 75% for loans exceeding $150,000 and 85% for loans less than $150,000.
    • Borrower and lender fees are waived.
    • Credit-elsewhere test is waived.
    • No personal guarantys or collateral required.
    • SBA will provide lender with a process fee for servicing the loan:
      • 5% of loans under $350,000,
      • 3% for between $350,000 and $2 million, and
      • 1% for $2 million and up).
    • Lenders will be protected from liability on principal forgiveness, so long as borrower certifies that payments justify forgiveness (i.e., used for payroll, rent, etc.).
    • Upon a lender’s report of an expected loan forgiveness amount for a loan or pool of loans, the SBA will purchase such amount of the loan from the lender.
  • SBA Express Loans
    • Will be capped at $1 million through 12/31/2020 (current maximum is $350,000), after which SBA Express Loans will be capped at $500,000.
  • Existing Loans – For previously issued loans under 7(a) (including Community Advantage), 504, and microloan products:
    • Lenders are encouraged to provide deferments and to extend the maturity of the loans to avoid balloon payments or any increases in debt for the borrower during the period of the national emergency declaration.
    • SBA will pay the principal, interest, and any associated fees that are owed on the defined loans for a 6 month period starting on the next payment due. Loans that are already on deferment will include an additional 6 months of payment by the SBA beginning with the next payment. Loans made during this period until 6 months after the enactment will also qualify for 6 months of deferral payment by the SBA.
  • EIDL Loans
    • No personal guaranty required for loans less than $200,000. SBA may issue loans solely based on credit score.
    • The “one year in business” and “credit elsewhere” requirements are waived.
  • CBLR Standard – Federal banking agencies will temporarily reduce the Community Bank Leverage Ratio (CBLR) for qualifying community banks to 8% (currently 9%), and provide for a reasonable grace period for noncompliance.

Please email me at [email protected] for any questions as these developments unfold.

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