LawFlash

COVID-19 Relief for Small Businesses – Existing Options

03/25/2020 (Updated 05/08/2020)

Small businesses are among the hardest hit by the coronavirus (COVID-19) crisis and the shocks to consumer demand and supply resulting from the ensuing government orders to stay at home and close nonessential businesses. In addition to any new or expanded relief in the federal stimulus package, you should be aware that there are existing programs that may be of assistance. One such existing source of relief for your business may be found in the Small Business Administration’s Disaster Loan Program. 

UPDATE: On April 15, the Small Business Administration (SBA) ceased accepting most new applications for Economic Injury Disaster Loans (EIDLs) to preserve limited appropriations. Processing has since resumed only for borrowers that submitted applications before April 15, with new applications being accepted on a limited basis only for agricultural businesses. In addition, there have been unofficial reports that the maximum EIDL size has been reduced from $2 million to $150,000.

Overview

The SBA has administered a Disaster Loan Program in some form since 1953. In addition to funding the replacement of assets lost in physical disasters, this program also provides loans to help cover ordinary and necessary financial obligations that cannot be met as a direct result of COVID-19.

These EIDLs are currently available to small businesses in all 50 states and territories and can provide

  1. an advance of up to $10,000;
  2. up to $2 million in loans to cover fixed debts, payroll, accounts payable, and other working capital needed to cover substantial economic injuries caused by COVID-19;
  3. low interest rates of 3.75% for for-profit businesses and 2.75% for nonprofits; and
  4. long-term repayment plans of up to 30 years.

To obtain a loan advance or a loan, you must be a small business within the regulatory definitions established by SBA. These definitions are not intuitive and must be carefully applied. Further, you must demonstrate that the business has suffered such that you are unable to pay ordinary and necessary operating expenses and that credit cannot be reasonably obtained elsewhere. EIDL loans typically require that you pledge all available assets of the business as collateral, and in some cases your personal assets as well. The terms of your loan may vary based on the financial health of your business and your ability to repay the loan. As stated by SBA, credit requirements are as follows:

  • Credit History – Applicants must have a credit history acceptable to SBA.
  • Repayment – Applicants must show the ability to repay the loan.
  • Collateral – Collateral is required for all EIDL loans over $25,000. SBA takes real estate as collateral when it is available. SBA will not decline a loan for lack of collateral, but SBA will require the borrower to pledge collateral that is available.

The loan advance, in the amount requested by such applicant (up to $10,000), is designed to get money in the hands of small businesses immediately and will be made available to applicants within three days of a successful application. This loan advance will not have to be repaid, even if the applicant is subsequently denied an EIDL. However, if an applicant that receives a loan advance transfers into, or is approved for, the loan program under Section 7(a) of the Small Business Act (15 U.S.C. 636(a)), the loan advance amount will be reduced from the loan forgiveness amount for a loan for payroll costs made under such Section 7(a). The authority to issue loan advance funds will expire on December 31, 2020.

With respect to each EIDL, SBA will determine an appropriate installment payment based on the financial condition of each borrower, which in turn will determine the loan term.

Am I in a Disaster Area?

President Donald Trump and SBA have issued disaster declarations covering all 50 States due to COVID-19, with an incident start date of January 31, 2020, and continuing. Visit the SBA website for updated information regarding COVID-19 related disaster declarations. This information is searchable by county and state.

Are There Limits to How I Can Use EIDL Funds?

EIDL funds can only be used as working capital necessary to carry an entity until resumption of normal operations and for expenditures necessary to alleviate the specific economic injury, but may not be used to provide the entity with working capital exceeding that which the business could have generated had the injury not occurred. When SBA approves an application, it issues a loan authorization that specifies the permitted use of the loan proceeds. Willful use of any loan proceeds without SBA approval contrary to the loan authorization issued may be subject to civil and criminal penalties.

How Do I Know If I Am Eligible for the Full $2M?

The actual amount of each loan is limited to the economic injury determined by SBA, less business interruption insurance and other recoveries up to the administrative lending limit. SBA also considers potential contributions that are available from the business and/or its owner(s) or affiliates. However, if a business is a major source of employment, SBA has the authority to waive the $2 million statutory limit.

How Do I Apply?

The SBA encourages businesses to apply online for the loan advance and EIDL funds.

Are There Deadlines for EIDL Loan Applications?

Yes. Each state’s disaster declaration contains a deadline for submission of an EIDL application, generally at some point in December 2020.

Determining Whether You Own a Small Business

One of the most difficult issues for loan applicants to navigate is determining whether they qualify as a “small business” under 13 CFR 121. SBA has established different standards for size for each separate industry based on either three-year average annual receipts or number of employees. The definition of “small” varies by industry, but is relatively easy to determine by searching the table in 13 CFR 121.201 and seeing whether you are below the applicable employee or annual revenue limits.

What can be difficult and may require professional assistance is applying the SBA regulatory affiliation rules to identify all “affiliates” of your business. This is necessary because SBA’s rules for determining a business’s size require the aggregation of the loan applicant’s annual receipts (or numbers of employees) with the annual receipts (or employees) of all affiliates. SBA’s affiliation rules for financial assistance programs are set forth in 13 CFR 121.301. Determining affiliation often is a fact-specific inquiry. Under SBA regulations, one entity is affiliated with another if it controls or is controlled directly or indirectly by the other entity. SBA’s rules provide that a loan applicant or entity that owns or has the power to control more than 50% of the loan applicant’s voting equity is affiliated with the applicant. If no individual, loan applicant, or entity is found to control, SBA will deem the board of directors or president or chief executive officer (CEO) (or other officers, managing members, or partners who control the management of the loan applicant) to be in control of the loan applicant. SBA will deem a minority shareholder to be in control, if that individual or entity has the ability, under the loan applicant’s charter, by-laws, or shareholder’s agreement, to prevent a quorum or otherwise block action by the board of directors or shareholders.

Affiliation also can arise between two entities with common management or financial dependence. Further, businesses owned by other family members may be affiliated under the identity of interest test for affiliation. Importantly, where a small business has venture capital or other investors, if the investor is affiliated, then portfolio companies it is deemed to control under SBA rules may also be affiliated. Loan applicants should be careful to review all the bases for affiliation set forth in 13 CFR 121.301. Note that, at the time of this writing, Congress is considering relaxation of SBA affiliation rules as part of its package to address economic harms caused by the COVID-19 pandemic. We will provide updates should this occur.

Finally, please note that misrepresenting the size of your company to induce the SBA to provide you with a loan can be a crime. Therefore, appropriate diligence in making an SBA size representation is important.

Is a Portfolio Company an “Affiliate” of its Owners?

Equity sponsors and other majority owners are as a general rule considered “affiliates” of their portfolio businesses by the SBA, if they are deemed to control their portfolio businesses under SBA’s affiliation rules, including in certain circumstances when they control less than 50% of the voting shares of that portfolio business, and should be considered in the aggregate when determining whether such businesses are “small”. However, you may not be required to aggregate such a portfolio business with its owner’s assets if an exception from 13 CFR 121.103(b) applies. Two of those exceptions are:

  • Businesses owned in whole or substantial part by investment companies licensed, or development companies qualifying, under the Small Business Investment Act of 1958, as amended, are not considered affiliates of such investment companies or development companies.
  • For financial, management or technical assistance under the Small Business Investment Act of 1958, as amended, an applicant is not affiliated with the investors listed below:
    • venture capital operating companies, as defined in the U.S. Department of Labor regulations found at 29 CFR 2510.3-101(d);
    • employee benefit or pension plans established and maintained by the Federal government or any state, or their political subdivisions, or any agency or instrumentality thereof, for the benefit of employees;
    • employee benefit or pension plans within the meaning of the Employee Retirement Income Security Act of 1974, as amended (29 U.S.C. 1001, et seq.);
    • charitable trusts, foundations, endowments, or similar organizations exempt from Federal income taxation under section 501(c) of the Internal Revenue Code of 1986, as amended (26 U.S.C. 501(c));
    • investment companies registered under the Investment Company Act of 1940, as amended (1940 Act) (15 U.S.C. 80a-1, et seq.); and
    • investment companies, as defined under the 1940 Act, which are not registered under the 1940 Act because they are beneficially owned by less than 100 persons, if the company’s sales literature or organizational documents indicate that its principal purpose is investment in securities rather than the operation of commercial enterprises.

Please be sure you reference the complete regulations in 13 CFR 121.103(b) when determining whether an exception applies and, of course, disclose all applicable information to the SBA. Additional exceptions have been contemplated by the pending stimulus legislation, including for the food service industry, but are subject to change as of the time of this writing.

Coronavirus COVID-19 Task Force

For our clients, we have formed a multidisciplinary Coronavirus COVID-19 Task Force to help guide you through the broad scope of legal issues brought on by this public health challenge. We also have launched a resource page to help keep you on top of developments as they unfold. If you would like to receive a daily digest of all new updates to the page, please subscribe now to receive our COVID-19 alerts.

Contacts

If you have any questions or would like more information on the issues discussed in this LawFlash, please contact any of the following Morgan Lewis lawyers:

Philadelphia
Andrew T. Budreika
Michelle Catchur
Jamal C. Hill
Mehar Jagota
Brittany Leon
John K. Mickles
Andrew P. Rocks
Benjamin W. Stango
Carl S. Witkin

New York
Kristen V. Campana
Matthew E. Schernecke
Melissa M. Meyer
Stephanie Lax
Crystal Fang
Shantanu Vaid
Michael Byrnes

Boston
Sandra J. Vrejan
Ian M. Wenniger
Julia Frost-Davies
Christopher L. Melendez
Gitte J. Blanchet
Tasmin N. Din

Houston
Elizabeth Khoury Ali
Tara McElhiney

Los Angeles
David V. Chang
Negin Fatahi
Veronica Roh

Orange County/Los Angeles
Steven L. Miller

Washington, DC
Stephen E. Ruscus
Charles M. Horn
Shah M. Nizami
Donald S. Waack
Katelyn M. Hilferty

Dallas/Washington, DC
Sheila A. Armstrong

Miami/Hartford
Gabriel M. Lopez