Need and speed can be a dangerous combination. Just ask Peter “Maverick” Mitchell. That’s a lesson that lenders and borrowers are discovering with CARES Act Payroll Protection Program (PPP) loans. The CARES Act’s PPP provisions promise accessible liquidity support for franchises and small businesses. Indeed, Treasury Secretary Mnuchin said PPP or Emergency Income Disaster Loans and Grants might be paid the day after applying. The early reality is proving to be far more challenging.
The overarching issue is the urgent need for funds to be released. Accomplishing that goal required quick action by the SBA, lenders and potential borrowers. The SBA had to establish rules and issue guidance; lenders needed to gear up for an avalanche of applications; and borrowers had to sift through shifting guidance from the SBA and Treasury Department to determine eligibility and to decide whether to apply. Although SBA guidance on PPP loan eligibility, process and terms issued on April 3rd, the guidance was incomplete. Lenders and borrowers are acting urgently in a very murky environment, before the $349 Billion dedicated to PPP loans runs out.
Predictably, anecdotal evidence reveals an overtaxed application system, lenders reciting requirements that are not in the Act, an SBA that had to withdraw and reissue the PPP loan application, and borrowers trying to zig-zag their way through the minefield. Apparent differences between the CARES Act and the SBA’s PPP loan guidance only add confusion to the situation.
The SBA’s PPP loan guidance assumes, often explicitly, that business recovery will be rapid and will return expeditiously to pre-virus levels. A short term and less flexible approach than might have been expected under the CARES Act is the result. For instance:
- The Act allows flexible use of the loan to sustain business payroll, utilities, mortgage, rent and other expenses; the SBA mandates that at least 75% must be used for payroll.
- The Act provides for loan forgiveness, with the amount being reduced proportionally in accordance with a borrower’s reduction in number of employees or salaries; SBA guidance provides that no more than 25% of forgiveness can be attributable to permitted non-payroll uses (in other words, 75% must be used for payroll).
- The Act provides for a loan term of up to 10 years; the SBA selected a much shorter period, 2 years, with the extremely optimistic statement that “a two year loan term is sufficient in light of the temporary economic dislocations caused by the coronavirus,” and that “the considerable economic disruptions caused by the coronavirus is expected to abate well before the two year maturity date.”
- The Act allows for deferred payments on unforgiven portions of PPP loans for up to one year; the SBA only granted a six month deferral, providing as rationale that a shorter six month deferral “is appropriate in light of the modest interest rate . . . and loan forgiveness provisions.”
- The Act allows for an interest rate of up to 4%; the SBA selected a lower 1% (loans up to $350,000, and lower rates of ½ and ¼ % for larger loans), favorable to borrowers, expressing optimism that lenders would find the rate on a short term loan attractive.
- The SBA also appears to have adopted rules that may discourage, rather than encourage, lenders to participate in the PPP loan program. Although the SBA afforded lenders some comfort on liability issues (e.g., instances of fraud and reliance on lender statements and documents), other aspects of SBA guidance tend to operate in the opposite direction. For example:
- Will lenders be attracted by the 1% interest rate when the lender: (a) will need to marshal staff resources to quickly process PPP loans; (b) will be required to pay agent fees; (d) must wait for 7 weeks after providing the loan for the SBA to reimburse the expected forgiveness amount of the loan, leaving lenders to bear the risk of bad loans; and (e) may not be reimbursed for the full amount of the loan?
- Will lenders be willing to underwrite PPP loans with the minimal guidance issued by the SBA, particularly given that the SBA document requires lenders to comply with Bank Secrecy Act (BSA) requirements?
- Will lenders and borrowers be willing to move forward, notwithstanding that the SBA guidance is incomplete and only temporary? Additional SBA guidance on application of affiliation rules, loan forgiveness particulars, remedies for borrower violations and fraud, as well as other issues, are yet to be completed.
Will the CARES Act accomplish what Congress intended, as quickly as it intended and for as long as intended? We’re already hearing about the next funding package. How long will it take and, in the meantime, will the multitude of issues constraining PPP loans be resolved?
As franchisors, franchisees and small businesses mull their difficult choices, it’s worth noting that some states (including Florida, Iowa, Louisiana, Maryland, Massachusetts, Michigan, Minneapolis, New Mexico, Pennsylvania, Rhode Island and Wisconsin) and cities (Atlanta, Birmingham, Chicago, Denver, New York City, Philadelphia, Sacramento, San Diego, San Francisco, Seattle and Syracuse) have established emergency loan programs. Several private organizations have done likewise, often targeted at specific industry sectors but sometimes more generally directed, e.g., Main Street Lending Program, Main Street Emergency Grant Program, Amazon (benefitting Seattle), Bacardi (for restaurants and bars), FaceBook, Goldman Sachs, Google, the James Beard Foundation (food industry), JP Morgan, Kiva, Yelp (restaurants and nightlife), Wefunder, Restaurant Workers’ Community Foundation, the National Restaurant Association in Education Foundation, Opportunity funds, and Revel Systems.
Like Maverick, we see a continuing “need for speed.” Alternate funding sources will be quickly depleted. The Pennsylvania COVID-19 Working Capital Access program, for instance, has already reached lending capacity. And, while Congress is already working on additional funding for CARES Act programs, including the PPP, there’s no ETA on CARES II.