SBA Lending Under the CARES Act: New Paycheck

Protection Program, Expanded Disaster Loans,

Loan Forgiveness

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TUESDAY, MAY 12, 2020

Presenting a live 90-minute webinar with interactive Q&A

Ralph F. (Chip) MacDonald, III, Of Counsel, Jones Day, Atlanta

Vincent M. (Vince) Morrone, Attorney, Michael Best & Friedrich, Milwaukee

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5

SBA Lending under the CARES Act: New

Paycheck Protection Program, Expanded

Disaster Loans, Loan Forgiveness

Vincent MorroneMichael Bestvmmorrone@michaelbest.com414.277.3477

Chip MacDonaldJones Daycmacdonald@jonesday.com404.581.8622

1. Existing SBA Programs and Framework

2. Paycheck Protection Program (PPP)

A. Application of Eligibility and Affiliation Rules

B. Obtaining PPP Loan Forgiveness

C. Necessity Certification

D. Considerations for Lenders and Their

Relationships with PPP Borrowers

6

7

Existing SBA Programs and Framework – Introduction

• Standard 7(a) Loans

- Max Loan Amount = $5,000,000

- SBA Guarantee Percentage = 85% for loans up to $150,000 and 75% for loans > $150,000

• 7(a) Small Loans

- Max Loan Amount = $350,000

- SBA Guarantee Percentage = same as Standard 7(a) Loans

• SBA Express Loans (36-hour processing time)

- Max Loan Amount = $350,000

- SBA Guarantee Percentage = 50%

• Other Specialized 7(a) Loans (Export Express, Export Working Capital, Veterans Advantage, Etc.)

• Microloans (small loans up to $50,000)

• 504 Loans (project-based loans)

• 7(b) Disaster Loans

8

Existing SBA Programs and Framework – Introduction

(continued)

• Practical Realities:

- Standard 7(a) Loans are typically not quick or easy to obtain

- Personal guarantees and adequate collateral are always required for standard

7(a) loans

- Standard 7(a) loans typically have a higher interest rate, given the risk profile

- 7(a) loans are typically reserved for smaller companies and startups that can’t

otherwise obtain loans from a conventional bank on market terms

- No credit elsewhere requirement

• Statutory Framework

- Small Business Act

- Regulations (13 CFR Parts 120 and 121)

- Standard Operating Procedure (SOP) 50 10 5(K)

9

Existing SBA Programs and Framework – Eligible Borrowers

• Small Business Concerns

- SBA's size standards define whether a business entity is small and, thus,

eligible for 7(a) loans reserved for “small business” concerns

- Size standards have been established for types of economic activity, or

industry, generally under the North American Industry Classification System

(NAICS)

• Size standards are based on either a maximum number of employees or maximum amount of revenue,

based upon a business’ NAICS code

• If a business’ number of employees or amount of revenue is less than the applicable size standard, then

it will be deemed to be a “small business concern” and, thus, eligible for a 7(a) loan

• Ineligible Borrowers (13 CFR Part 120.110)

- The list includes entities such as:

• Nonprofits

• Passive businesses

• Government-owned entities

10

SBA Size Standards Tool

11

Existing SBA Programs and Framework – Eligible Lenders

• In order for a bank to be an approved lender under the SBA’s 7(a) loan

program, it must meet the following requirements:

- Have a continuing ability to evaluate, process, close, disburse, service and

liquidate small business loans

- Be open to the public to issue loans (and not be a financing subsidiary, engaged

primarily in financing the operations of an affiliate)

- Have continuing good character and reputation, and otherwise meet and

maintain the ethical requirements as identified in 13 CFR Part 120.140

- Be supervised and examined by a state or federal regulatory authority,

satisfactory to the SBA

• Approved banks can apply with a lender relations specialist from their

local SBA district office

• Approved banks need to create accounts and become familiar with the

CAFS and ETRAN systems (discussed later)

12

Existing SBA Programs and Framework – Loan Guarantees

• If the borrower fails to pay the loan, the lender can usually obtain between

50% - 85% of the outstanding loan principal from the SBA

• The government guarantees encourage lenders to grant credit that

otherwise would not be available on reasonable terms and conditions

• The government guarantees provide the following advantages:

- reduces the lender's risks

- creates a readily available secondary market in which to sell the guaranteed

portion of the loan

- does not count against the federally-mandated reserve funds that banks must

maintain as protection against loan losses

• The SBA loan guarantee works as a substitute for unsatisfactory collateral

and provides the lender with satisfactory security to support the loan

13

Existing SBA Programs and Framework – The Loan Process

• Small business concern applies to the bank for a 7(a) loan

- SBA Form 1919

- Financial Statements

- Income Tax Returns

• Bank applies to the SBA for approval to obtain the guarantee

- Before submitting a borrower application, bank must verify the borrower meets

the minimum underwriting requirements

• Capital Access Financial System (CAFS) is the platform housing SBA’s lending applications and related

systems

• ETRAN is a group of lending systems housed within CAFS (origination and servicing)

- Bank uses SBA Form 2484 to electronically complete the borrower’s loan

application in the ETRAN system

14

Existing SBA Programs and Framework – The Loan Process (cont’d)

• Upon submission, SBA reviews the borrower’s loan application

• SBA approves or denies the borrower’s loan application

• If approved, SBA will notify the bank, and the bank can then commence

with loan funding

• Bank closes and funds the loan

• Bank services the loan

- Bank may also sell the guaranteed portion of the loan – there’s an active

secondary market for loans backed by the SBA – which would increase liquidity

and enable banks to issue more loans

• SBA pays guarantee in event of default

• There is usually no interaction between SBA and borrower

15

PPP Loans

• The “Coronavirus Aid, Relief, and Economic Security Act” or CARES Act

was enacted on March 27, 2020

• Section 1102 amended Section 7(a) of the Small Business Act to add the

Paycheck Protection Program (“PPP”)

• The SBA Administrator may guarantee covered loans under the same

terms, conditions, and processes as a loan made under this subsection

[7(a)], except that the guarantee is 100%

• In addition to small business concerns, any business concern, nonprofit

organization, veterans organization, or Tribal business concern described

in section 31(b)(2)(C) shall be eligible to receive a covered loan if the

business concern, nonprofit organization, veterans organization, or Tribal

business concern employs not more than the greater of—:

16

PPP Loans (continued)

- “(I) 500 employees; or

- “(II) if applicable, the size standard in number of employees established by the

Administration for the industry in which the business concern, nonprofit

organization, veterans organization, or Tribal business concern operates.

- individuals who operate under a sole proprietorship or as an independent

contractor and eligible self-employed individuals shall be eligible to receive a

covered loan.

17

PPP Loan Forgiveness

• Section 1106 provides forgiveness for PPP loans 8 weeks after the loan is

originated

• Amounts which have been forgiven under this section shall be considered

canceled indebtedness by a lender authorized under section 7(a) of the

Small Business Act

• amounts which are forgiven under this section shall be treated in

accordance with the procedures that are otherwise applicable to a loan

guaranteed under section 7(a) of the Small Business Act

• Not later than 90 days after the date on which the amount of forgiveness

under this section is determined, the Administrator shall remit to the

lender an amount equal to the amount of forgiveness, plus any interest

accrued through the date of payment.

18

PPP Loan Forgiveness (continued)

• Advance Repurchase. A lender authorized under section 7(a) of the

Small Business Act or, at the discretion of the Administrator, a third party

participant in the secondary market, may, report to the Administrator an

expected forgiveness amount on a covered loan or on a pool of covered

loans of up to 100%

• Forgiveness amounts will be reduced based on a statutory formula, if an

employer reduces it FTEs or payroll costs. Not more than 25% of the

forgiven amount may be for non-payroll costs.

• Section 1106(c)(4) provides for advance refunding of the forgiveness

amount.

• Loan forgiveness is not included in gross income for Federal income tax

purposes.

• Loan forgiveness regulations are required within 30 days of enactment.

19

• PPP Loan forgiveness requires application and documentation, including:

- payroll tax filings reported to the Internal Revenue Ser ice;

- state income, payroll, and unemployment insurance filings; and

- documentation, including cancelled checks, payment receipts, transcripts of

accounts, or other documents verifying payments on covered mortgage

obligations, payments on covered lease obligations, and covered utility

payments

• Borrower certification that:

- the documentation presented is true and correct;

- the amount for which forgiveness is requested was used to retain employees,

make interest payments on a covered mortgage obligation, make payments on

a covered rent obligation, or make covered utility payments; and

- any other documentation the Administrator determines necessary.

PPP Loan Forgiveness (continued)

20

PPP Loan Forgiveness (continued)

• Lenders are held harmless, if the lender has received the documentation

required under this section from an eligible PPP loan recipient

- An enforcement action may not be taken against the lender under section 47(e)

of the Small Business Act relating to loan forgiveness;

- The lender shall not be subject to any penalties by the Administrator relating to

loan forgiveness.

21

New Initiatives Under the CARES Act

• Paycheck Protection Program Loans

- New Statutory Creation

- Loans made through banks, and other eligible lenders

- Loans may be forgivable

- Terms:• 1% interest rate

• 6 month payment deferral

• 2 year term

• Expanded Economic Injury Disaster Loans and Emergency Advances

- Modification and expansion of existing 7(b) disaster loan program

- Loans made directly by the SBA

- Loans are NOT forgivable

- Terms:• 3.75% interest rate (2.75% for nonprofits)

• 15 to 30 year term

• 4-12 months payment deferral

22

PPP – Eligibility Rules

• Who is eligible for a PPP loan?

- Any for-profit business that is defined as “small” by SBA Size Standards, either in

number of employees or revenue (based on a NAICS code)

• These are businesses that would typically be eligible for Standard 7(a) loans

- Any other business, nonprofit organization (under 501(c)(3)), veterans

organizations (under 501(c)(19)) or tribal business with not more than: (i) 500

employees, or (ii) if greater than 500, the maximum number of employees of the

employee-based SBA Size Standard for a particular industry (based on a NAICS

code)

• If a business has a NAICS Code 72 (accommodation and food services sector), the 500-employee rule is

applied on a per physical location basis

- Any for-profit business that has (1) a maximum tangible net worth up to $15 million

and (2) average net income for the 2 full fiscal years prior to application does not

exceed $5 million

• This is an alternative test for a business to be defined as “small”

- Any sole proprietor, independent contractor or self-employed individual

23

PPP – Eligibility Rules (Continued)

• How do you count number of employees?

- Businesses may use either the average number of employees per pay period in

the 12 calendar months prior to the date of the loan application or for 2019

- Employees include individuals employed on a full-time, part-time or other basis

• How do you calculate annual receipts (revenue)?

- Annual receipts of a concern that has been in business for 3 or more completed

fiscal years means the total receipts of the concern over its most recently

completed three fiscal years divided by 3

- Annual receipts of a concern that has been in business for less than three

complete fiscal years means the total receipts for the period the concern has

been in business divided by the number of weeks in business, multiplied by 52

24

PPP – Eligibility Rules (Continued)

• Who is ineligible for a PPP loan?

- Businesses listed in the Regulations (13 CFR Part 120.110), as described

further in SOP 50 10 5(K), except for nonprofits (which were made eligible for

PPP loans in the CARES Act), which list includes the following types of entities:

• Finance companies

• Passive companies

• Foreign businesses

• Casinos (subject to certain exceptions)

• Illegal businesses

• Government-owned entities

• Speculative businesses

• Political / lobbying businesses

25

PPP – Affiliation Rules

• For purposes of the determining the eligibility of an applicant for the

Paycheck Protection Program, the applicant must be considered together

with its U.S. and foreign affiliates

- The affiliation rules apply to all of the Size Standard tests (i.e., whether based

on employees, revenues or net worth / net income)

• Four tests for affiliation based on control apply to participants in the

Paycheck Protection Program:

- Affiliation based on ownership

- Affiliation arising under stock options, convertible securities and agreements to

merge

- Affiliation based on management

- Affiliation based on identity of interest

26

Affiliation Based on Ownership

• For determining affiliation based on equity ownership, a concern is an

affiliate of an individual, concern or entity that owns or has the power to

control more than 50 percent of the concern's voting equity

• If no individual, concern or entity is found to control, SBA will deem the

Board of Directors or President or CEO (or other officers, managing

members, or partners who control the management of the concern) to be

in control of the concern

• SBA will deem a minority shareholder to be in control, if that individual or

entity has the ability, under the concern's charter, by-laws or

shareholder's agreement, to prevent a quorum or otherwise block action

by the board of directors or shareholders

- Small businesses that have minority owners (PE or venture capital) can still

qualify if those owners relinquish rights

27

Affiliation Arising under Stock Options, Convertible Securities

and Agreements to Merge

• In determining size, SBA considers stock options, convertible securities

and agreements to merge (including agreements in principle) to have a

present effect on the power to control a concern (i.e., rights granted have

been exercised)

- Agreements to open or continue negotiations towards the possibility of a merger

or a sale of stock at some later date are not considered “agreements in

principle” and are thus not given present effect

- Options, convertible securities and agreements that are subject to conditions

precedent which are incapable of fulfillment, speculative, conjectural or

unenforceable under state or Federal law, or where the probability of the

transaction (or exercise of the rights) occurring is shown to be extremely

remote, are not given present effect

• An individual, concern or other entity that controls one or more other

concerns cannot use options, convertible securities, or agreements to

appear to terminate such control before actually doing so

28

Affiliation Based on Management

• Affiliation arises where the CEO or President of the applicant concern (or

other officers, managing members, or partners who control the

management of the concern) also controls the management of one or

more other concerns

• Affiliation also arises where a single individual, concern, or entity that

controls the Board of Directors or management of one concern also

controls the Board of Directors or management of one of more other

concerns

• Affiliation also arises where a single individual, concern or entity controls

the management of the applicant concern through a management

agreement

29

Affiliation Based on Identity of Interest

• Affiliation arises when there is an identity of interest between close

relatives (spouse, parent; child or sibling, or the spouse of any such

person), with identical or substantially identical business or economic

interests (such as where the close relatives operate concerns in the same

or similar industry in the same geographic area)

• Where SBA determines that interests should be aggregated, an individual

or firm may rebut that determination with evidence showing that the

interests deemed to be one are in fact separate

30

PPP – Affiliation Rules – Exemptions, Waivers and Other Rules

• Religious Exemption: The relationship of a faith-based organization to

another organization is not considered an affiliation with the other

organization if the relationship is based on a religious teaching or belief or

otherwise constitutes a part of the exercise of religion

• Waiver: The affiliation rules are waived for:

- (1) any business concern with not more than 500 employees that, as of the date

on which the loan is disbursed, is assigned a NAICS code beginning with 72;

- (2) any business concern operating as a franchise that is assigned a franchise

identifier code by the SBA; and

- (3) any business concern that receives financial assistance from an SBIC

• For purposes of determining if a business has fewer than 500 employees,

it must count all of its employees and the employees of its U.S. and

foreign affiliates

- A business seeking to qualify as a “small business concern” on the basis of the

employee-based size standard must do the same

31

PPP – How Much Can I Borrow?

• Loans can be up to 2.5x an applicant’s average monthly Payroll Costs

(discussed on the next slide), not to exceed $10 million

- Applicants can use average monthly Payroll Costs for 2019 or the one-year

period prior to the loan application date (e.g., April 2019 – March 2020)

- Applicants that were not operational in 2019 can use average monthly Payroll

Costs for January and February 2020

- Applicants that are seasonal employers can use average monthly Payroll Costs

for an 8-week period between February 15, 2019 or March 1, 2019 and June

30, 2019

32

PPP – How Much Can I Borrow? (continued)

• How do I calculate my average monthly Payroll Costs?

- INCLUDED: The sum of payments of any compensation with respect to

employees that is a:

• Salary, wage, commission or other similar compensation

- Does this include hazard pay, bonuses, prepayments or accelerated payments?

• Payment of cash tip or equivalent

• Payment for vacation, parental, family, medical or sick leave

• Allowance for dismissal or separation (i.e., “Severance Pay”)

• Payment required for the provisions of group health care benefits (i.e., medical, dental,

vision and health flexible spending account benefits), including insurance premiums

• Payment of any retirement benefit (including matching and non-elective contributions to

defined contribution retirement plans)

• Payment of State or local tax assessed on employee compensation

- EXCLUDED:

• Compensation of an individual employee in excess of an annual salary of $100,000

• Employer portion of payroll taxes

• Compensation to an employee whose principal place of residence is outside the U.S.

• Qualified sick leave wages or qualified family leave wages for which a credit is allowed

under FFCRA Section 7002 or 7003, respectively

• Amounts paid to independent contractors (they can apply individually up to $100,000

annualized)

33

PPP – Obtaining Loan Forgiveness

• What is potentially forgivable?

- Payroll Costs (75% - 100%)

- Other Eligible Costs (0% - 25%)

• Payment of interest on Mortgage Obligations, if such Mortgage Obligations were incurred

before February 15, 2020 (no prepayment or payment of principal)

• Payment of Rent Obligations, if the leasing agreement was in effect before February 15, 2020

- Are equipment leases included?

• Payment of Utilities (e.g., electricity, gas, water, transportation, telephone, or internet), if

service began before February 15, 2020

• Forgivable costs must be “incurred and made” during the 8-week forgiveness

period after disbursement of the loan

- Is this a joint or a separate requirement?

- Does it matter if you use cash or accrual basis for accounting?

34

PPP – Obtaining Loan Forgiveness – Potential Reductions

• 75%/25% Split

- Borrowers must spend at least 75% of the loan on Payroll Costs, although up to 100% of

Payroll Costs may be forgivable

- No more than 25% of the loan forgiveness amount may be attributable to eligible non-payroll

costs

- Will ratio be applied before or after headcount and/or salary/wage reduction?

• Wage/Salary Reduction

- (1) Total Forgiveness Amount, less (2) a reduction in total salary or wages of an employee

during 8-week forgiveness period that exceeds 25% of the total salary or wages of the

employee during the most recent full quarter of employment prior to the 8-week period

• The term employee does not include employees that received, during any single pay period in 2019, wages

or salary at an annualized rate of more than $100,000

• What does it mean to “eliminate” the reduction (i.e., increase the actual rate or can you true it up)?

35

PPP – Obtaining Loan Forgiveness – Potential Reductions

(continued)

• Headcount Reduction

- Total Forgiveness Amount, multiplied by (A) average number of FTEs per month during 8-

week forgiveness period after loan disbursement, divided by (B)(1) average number of

FTEs per month employed between 2/15/19 and 6/30/19 OR (2) average number of FTEs

per month employed between 1/1/20 and 2/29/20

• How do you calculate FTEs?

• Earlier employment (or rehiring) will always be better, because it increases the amount of Payroll Costs

during the 8-week forgiveness period and it reduces the risk of reduction

• Rehire Exemption: Reduction calculation can disregard a reduction that occurred from February 15,

2020 through April 26, 2020 if the employer has eliminated the reduction in the number of FTEs no later

than June 30, 2020

- What does it mean to “eliminate” the reduction?

- If an employer offers to rehire an employee and the employee refuses, then that employee won’t be included in the

reduction calculation (i.e., they won’t be included in the numerator)

• Can an employer furlough employees after the 8-week forgiveness period without adversely impacting

its potential forgiveness amount?

36

PPP – Obtaining Loan Forgiveness - Process

• Borrowers must apply for forgiveness with the lender servicing the loan

• Lenders (in conjunction with the SBA) have 60 days to review and make a

determination

• Any portion of the loan that is forgiven will be excluded from gross

income, although the expenses will not be deductible

• Any portion of the loan that is not forgiven will remain outstanding under

the promissory note and will be payable in equal monthly installments

over the last 18 months of the note (after 6-month deferral from the date

of loan disbursement)

37

PPP – Obtaining Loan Forgiveness – Open Questions

• What if I don’t spend at least 75% of the PPP loan on Payroll Costs

during the 8-week forgiveness period?

- When does a borrower have to spend the 75% on Payroll Costs – during the 8-

week forgiveness period, by June 30, 2020 or by the maturity date?

- If the goal is to maximize forgiveness, at least 75% of the loan should be spent

on Payroll Costs during the 8-week forgiveness period

- Will the SBA require a borrower to immediately repay any amount under the

75% (or potentially subject the company to fraud charges if done knowingly)?

• What if I don’t spend all of the PPP loan proceeds?

- Will a borrower be able to use it after the 8-week forgiveness period?

- Should I just pay the rest back to avoid any issues?

- Can I use it for other “allowable” (but not forgivable) uses?

• These use categories are a bit more broad:

- Interest on Other Debt Obligations

- Maybe compensation over $100,000 (just not forgivable)

38

PPP – Necessity Certification

• All borrowers are required to 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, 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

- Public company vs. private company

39

PPP – Necessity Certification (continued)

• Safe Harbor Exemption

- Any borrower that received a loan has until May 14th (originally May 7th) to

return the loan and be deemed to have made the certification in good faith

• Factors for borrowers to take into account related to “necessity”:

- Current business activity • Has your business been significantly impacted by COVID-19?

• Have your prospects for 2020 and beyond changed?

• Can your current business activity support your ongoing operations?

• Has your business been shut down or required to make significant operational changes?

• Have you had to make layoffs or salary reductions? Can you maintain pre-COVID-19 workforce or

payroll levels?

- Ability to Access Other Sources of Liquidity• Equity (Private equity and venture capital owners, rich individual owners)

• Debt (subordinated debt from owners or other sources, unused lines of credit)

• Not required to use these sources, but must take them into account

• Not an automatic disqualification of necessity if you have an unused line of credit

40

PPP – Necessity Certification (continued)

• What does it mean to be significantly detrimental to my business?

- Probably a facts and circumstances test

- Would drawing on unused lines lead to a potential default?

- Are the terms for the alternative debt or equity unfavorable to the company?

• Prepare an internal memo or document that details all of the above

factors and have the Board review and approve such document prior to

the May 14th deadline

• Use common sense and focus on the namesake of the Paycheck

Protection Program – save as many paychecks as you can

- Keep PR implications in mind

• All businesses that received loans over $2 million will be audited after

applying for forgiveness, so they should be extremely careful and

document the factors considered

41

SBA Interim FINAL Rule on PPP (Apr. 24, 2020)

• On April 24, 2020, the SBA issued an interim final rule regarding the

implementation of the PPP, which supplemental previous interim final

rules on several important, discrete issues:

- Requirements for Promissory Notes;

- Clarification Regarding Eligible Businesses;

- Business Participation in Employee Stock Ownership Plans;

- Eligibility of Businesses Presently Involved in Bankruptcy Proceedings;

- Limited Safe Harbor with Respect to Certification Concerning Need for

PPP Loan Request

42

PPP – RESULTS

• There was more loan demand than the $349 billion authorized by the

CAP

• A second legislation – The Paycheck Protection Program and Health

Care Enhancement Act (the “Enhancement Act”) appropriated an

additional $310 billion for PPP loans, including:• $30 billion for lenders with less than $10 billion of assets

• $30 billion for lenders with $10 – 50 billion of assets

• Demand overwhelmed SBA systems

• Many applicants did not get PPP loans

• First come/first serve process create a “gold rush” that has lead to

complaints

43

PPP Loans Approved: Treasury Reports

• Round 1

No. of

Loans

Net Loans

Approved

No.

of

Lenders

1,661,367 $342.3 billion

Loan Distribution

4,975

44

PPP Loans Approved: Treasury reports

• Round 1

Loan

Size

Approved

Loans

Approved

Dollars

% of

Count

% of

Amount

$150K and Under 1,229,893 $58,321,791,761 74.03% 17.04%

>$150K - $350K 224,062 $50,926,354,675 13.49% 14.88%

>$350K - $1M 140,197 $80,628,410,796 8.44% 23.56%

>$1M - $2M 41,238 $57,187,983,464 2.48% 16.71%

>$2M - $5M 21,566 $64,315,474,825 1.30% 18.79%

>$5M 4,412 $30,897,983,582 0.27% 9.03%

45

No. of

Loans

Net Loans

Approved

No. of

Lenders

2,571,167 $188,943,588,568 5,463

PPP Loans Approved: Treasury Reports

• Round 2

46

Loan

Size

Approved

Loans

Approved

Dollars

% of

Count

% of

Amount

$50K and Under 1,877,950 $32,856,427,350 73.26% 20.70%

>$50K - $100K 331,866 $23,470,699,187 12.95% 14.79%

>$100K - $150K 130,073 $15,887,602,486 5.07% 10.01%

>$150K - $350K 147,602 $32,631,473,177 5.76% 20.56%

>$350K - $1M 61,646 $34,365,428,096 2.40% 21.65%

>$1M - $2M 14,130 $19,530,467,793 0.55% 12.30%

>$2M - $5M 6,352 $18,857,362,992 0.25% 11.88%

>$5M 1,548 $11,344,127,488 0.06% 7.15%

PPP Loans Approved: Treasury Reports

• Round 2

47

PPP – Considerations for Lenders and Their Relationships with

PPP Borrowers

• Existing Borrowers

- Consents and Amendments to Permit PPP Loans

• What restrictions and requirements to impose to ensure the PPP funds are used for

Payroll Costs and other forgivable costs, to maximize loan forgiveness?

• What effect does the PPP loan have on financial covenants?

• Will the PPP loan violate any negative covenants on the incurrence of additional debt?

• Will the PPP loan trigger any mandatory prepayment provisions?

• KYC, AML/BSA and OFAC risks?

• New Borrowers

- Effect on existing loan document with other bank (if any)?

- KYC, AML/BSA and OFAC risks heightened concerns?

- Increased fraud risks?

48

PPP – Considerations for Lenders and Their Relationships with

PPP Borrowers (continued)

• All Borrowers

- Covenants in existing and subsequent credit documents

- Default provisions

- Set-off and deposit relationships

- Preparing for and assisting PPP loan forgiveness

49

Other Bank and Lender Issues

• Bank Business Continuity

- Bank regulators encourage depository institutions to provide continuity of critical

services and support to their customers and communities

- PPP loans are one way that depository institutions can perform such services.

- FDIC FIL 33-2020 (Apr. 2, 2020):

“The FDIC encourages financial institutions to consider using these

programs in a prudent manner as they actively work with small business

borrowers with less financial flexibility to weather near-term operational

challenges due to the Coronavirus Disease 2019.”

50

Other Bank and Lender Issues (continued)

• Lender Compensation

- Lenders will receive processing fees solely from the SBA for making PPP loan.

Lenders’ agents, including consultants, lawyers, accountants and other

enumerated “agents” will receive fees payable solely from the lenders as

follows:

• Lenders are not permitted to charge any fees to PPP borrowers.

Although servicing fees are mentioned in the Lender Information Sheet,

no amounts are provided and the Act does not provide for such fees

• What is an “agent,” and how is that relationship and service sufficiently

established?

Loan Amount Processing Fee Agent Fee

$350,000 and under 5.00% 1.00%

Greater than $350,000 to

$2 million

3.00% 0.50%

Greater than $2 million 1.00% 0.25%

51

Other Bank and Lender Issues (continued)

• Internal Controls and Safety and Soundness

- Banks and their holding companies are subject to accounting and internal

controls requirements under FDIC Regs. Part 363 and safety and soundness

requirements under FDIC Regs, Part 364.

- All public lenders are subject to internal controls and disclosure requirements

under federal securities laws (SOX) and SEC regulations

- These need to be considered in establishing and administering a PPP loan

program, including loan forgiveness.

52

Other Bank and Lender Issues (continued)

• Capital

- Loans are assets included in the denominator for calculating regulatory capital

requirements. These include leverage ratio and risk-based capital

requirements.

- The SBA guarantee makes the risk weight of the PPP loans zero and the PPP

provisions of CARES Act Section 1102 explicitly exclude PPP loans from risk-

weighted capital.

- The SBA guarantee of PPP loans will not, however, affect the calculation of the

Tier 1 leverage ratio. Tier 1 tangible leverage ratios are important to regulators

and investors. Community banks that have adopted the community bank

leverage ratio as their sole capital measure should be especially careful when

considering the capital needed to support PPP loans.

- PPP loans financed by non-recourse loans from the Federal Reserve’s PPP

Lending Facility (“PPPLF”) are not included in the leverage capital ratios.

Interagency Interim Final Rule 85 FR 20387 (Apr. 13, 2020).

53

Other Bank and Lender Issues (continued)

• Bank Lending Limits

- Section 84 of the National Bank Act and Office of the Comptroller of the

Currency (“OCC”) Regs. Part 32 impose lending limits on borrowers and their

related parties. Federal thrifts state depository institutions and credit unions

have similar loan to one borrow limits.

- OCC Regs. §32.3(b) provides special lending limits for U.S. government

guaranteed loans, including loans to the extent guaranteed as to repayment of

principal by the full faith and credit of the U.S. government, provided these

guarantees are payable in cash or its equivalent within 60 days after demand for

payment is made. The SBA should make clear that the PPP guarantees are

payable within 60 days to qualify for this exception.

- A loss of the SBA guarantee of a PPP loan because of borrower fraud would

subject the PPP loan together with other loans of the borrower and other

persons considered together with the borrower under OCC Regs. §32.5 to the

OCC lending limits.

54

Other Bank and Lender Issues (continued)

• Bank Lending Limits

- State laws may not be as clear. Wild card laws allowing state institutions to

exercise the same powers as national banks may be useful, but are not always

self-executing, and may require implementation by the state regulators with

respect to PPP loans.

• Regulation O and Loans to Bank Insiders

- Reg. O, including prior board of directors’ approval, when making PPP loans to

insiders and their related persons.

- SBA Interim Final Rule “Business Loan Program Temporary Changes;

Paycheck Protection Program—Additional Eligibility Criteria and Requirements

for Certain Pledges of Loans” (April 14, 2020).

- Bank Interagency Interim Final Rule effective April 22, 2020 to temporarily allow

banks to make PPP loans to businesses owned by their directors and certain

shareholders, subject to certain limits and without favoritism, consistent with

SBA's rules and restrictions

55

Other Bank and Lender Issues (continued)

• Secondary Sales

- CARES Act permits secondary sales of PPP loans

- Such sales will require customary seller representations and warranties and

buyback obligations for breaches, including breaches by the borrowers and loss

of the SBA 100% guarantee, consistent with true sale considerations.

• Community Reinvestment Act and Other Bank Lender Benefits

- Bank participation in PPP is expected by the government and may be viewed

favorably by customers and regulators.

- Participation should enhance banks’ Community Reinvestment Act (“CRA”)

performance. Earnings will be increased mostly by the origination processing

fee, not the fixed low rate of interest.

- Over the long term, returns on assets and capital may be reduced by PPP loans

and investors may discount PPP fee income as transitory.

56

Other Bank and Lender Issues (continued)

- The PPP may have significant regulatory, customer and economic benefits. It is

unlikely to boost bank shareholder value significantly except through long-term

customer relationships. Tangible capital levels will remain critical measures to

bank regulators and investors.

- The regulators’ relief for banks’ services to their communities during the current

pandemic national emergency is limited by the need to provide such service

prudently and consistent with safe and sound banking practices.

- Careful planning, underwriting and management of a PPP loan program and

establishing aggregate limits on PPP loans held as part of a capital allocation

strategy should be carefully considered by bank PPP lenders.

57

The Federal Reserve PPP Liquidity Facility (“PPPLF”)

• The Federal Reserve announced the PPPLF for depository institutions on

April 9, 2020 and expanded it to all SBA eligible PPP lenders on April 30,

2020.

• Significant Terms:

- Only PPP Loans guaranteed by the SBA are eligible collateral for the Facility.

An eligible borrower may pledge SBA-guaranteed PPP Loans that it has

originated or purchased. Extra documentation needs to be supplied for PPPLF

loans secured by purchased PPP loans

- PPPLF loans will be for 100% of eligible PPP loans, and are non-recourse

- The maturity date of an PPPLF extension of credit under the Facility will equal

the maturity date of the PPP Loan pledged to secure the extension of credit

- The maturity date of the Facility’s extension of credit will be accelerated if the

underlying PPP Loan goes into default and the eligible borrower sells the PPP

Loan to the SBA to realize on the SBA guarantee

58

The Federal Reserve PPP Liquidity Facility (continued)

- The maturity date of the Facility’s extension of credit also will be accelerated to

the extent of any loan forgiveness reimbursement received by the eligible

borrower from the SBA

- Interest is 35 BP with no fees

- PPPLF terminates September 30, 2020, unless extended by the Federal

Reserve and the Treasury

• The Federal Reserve has extensive FAQs further defining the PPPLF

59

Enforcement and Oversight

• The CARES Act has a Congressional Oversight Committee similar to the

TARP oversight committees and a House Select Committee on COVID-

19 Pandemic

• SBA (including its IG) and the Bank regulators and their Igs

• Office of the Special Inspector General for Pandemic Recovery provided

by Section 4018 of the CARES Act

• Department of Justice.

- On May 5 the DoJ announced that David A. Staveley, aka Kurt D. Sanborn, 52,

of Andover, Massachusetts, and David Butziger, 51, of Warwick, Rhode

Island, are charged with conspiring to seek forgivable loans guaranteed by the

SBA, claiming to have dozens of employees earning wages at four different

business entities when, in fact, there were no employees working for any of the

businesses

60

Enforcement and Oversight (continued)

- These charges were announced also by the IRS -Criminal Investigation and

FDIC- IG, with cooperation from the Rhode Island Department of Revenue

Equal Credit Opportunity Act

• The SBA’s PPP Borrower Application From expressly references

ECOA.

61

Equal Credit Opportunity Act (continued)

• The Equal Credit Opportunity Act (“ECOA”), 15 U.S.C. 1691 et seq.,

as implemented by CFPB Regulation B, prohibits creditors from

discriminating against credit applicants on the basis of race, color,

religion, national origin, sex, marital status or age.

• Regulation B prohibits creditors from requesting and collecting

specific personal information about an applicant that has no bearing

on the applicant’s ability or willingness to repay the credit requested

and could be used to discriminate against the applicant.

62

Equal Credit Opportunity Act (continued)

• Application Evaluation. A creditor may consider any information in

evaluating applicants, so long as the use of the information does not

have the intent or the effect of discriminating against an applicant on

a prohibited basis.

• Notification. Regulation B requires A notification of adverse action

must be in writing and must contain certain information, including the

name and address of the bank and the nature of the action that was

taken

• CFPB has not yet provided rules on PPP loan adverse action..

• Record Retention. In general, a bank must preserve all written or

recorded information connected with an application for twenty-five

months (twelve months for business credit) after the date on which

the bank informed the applicant of action taken on an application or

of incompleteness of an application.

63

SBA NONDISCRIMINATION – Interim Final Rule

• On April 5, 2020, the SBA issued interim final rules addressing

nondiscrimination and PPP eligibility criteria;

- SBA regulations Part 113 impose regulatory requirements “to reflect to the

fullest extent possible the nondiscrimination policies of the Federal

Government as expressed in the several statutes, Executive Orders, and

messages of the President dealing with civil rights and equality of

opportunity.”

- With respect to any loan or loan forgiveness under the PPP, the

nondiscrimination provisions in the applicable SBA regulations incorporate

the limitations and exemptions provided in corresponding Federal statutory

or regulatory nondiscrimination provisions. . . .”

64

Lending Complaints

• Throughout April, reports surfaced alleging that PPP lenders :

- Were making loans first to PPP applicants, if they had preexisting banking

relationships or lending relationships; and

- Prioritizing PPP loan applications for larger borrowers.

• This allegedly had a disproportionate impact small and minority-

owned businesses.

• On April 23, 2020, Sen. Marco Rubio, chair of the Senate Small

Business Committee, sent letters to 12 bank CEOs seeking a

detailed explanation regarding how PPP loan applications were

processed.

65

Class Actions

• In response, class action law suits are being filed in a number of

jurisdictions, including California, Maryland, Texas, Colorado, Ohio,

Florida and New York, allege violations of competition law,

misrepresentation, false advertising, contractual interference and

unfair business practices as banks allegedly unlawfully prioritized

processing larger PPP loans or applications from businesses with

preexisting bank relationships, rather than processing applications on

a first-come, first-served basis. - Profiles Inc. v. Bank of America Corp. et al., No. 1:20-cv-00894

- BSJA, Inc. et al. v. Wells Fargo & Co et al., Case No. 2:20-cv-03588;

- Outlet Tile Center v. JPMorgan Chase & Co. et al., Case No. 2:20-cv-03603 and;

- Kennard Law PC, on Behalf of Itself and All Others Similarly Situated v. Frost Bank,

Case No. 2020-24432.

- Scherer, et al. v. Wells Fargo Bank, N.A., Case No. 4:20 – CV-01295 (S.D. Tex).

66

Class Actions

• It is uncertain whether the class plaintiffs will be afforded any relief by

the courts. Nonetheless, as more small businesses are faced without

relief under the PPP banks can expect to see more claims like these.

• All institutions should be carefully considering and documenting their:

Eligibility criteria Marketing initiative

Prioritization effort

fostering FIFO

approach

Additional underwriting

criteria outside those

mandated by the SBA

Employee training

Policies regarding

large and small dollar

PPP loans

Clear PPP

underwriting

guidelines

Record and document

preservation

Internal acceptance/denial documentation

Consistent, written criteriaOversight and validation controls

67