The CARES Act’s Paycheck Protection Loan Program for Smaller and Specially Qualified Businesses
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On March 27, 2020, the President signed the Coronavirus Aid, Relief, and Economic Security (CARES) Act (the “Act”). The purpose of the Act is to provide emergency assistance for individuals, families, and businesses affected by the 2020 coronavirus pandemic.
For smaller and specially qualified businesses, the Act offers financial assistance via the new Paycheck Protection Program (PPP). The PPP is being implemented under the Small Business Act as part of its Section 7(a) loan program, the primary lending program of the Small Business Administration (SBA). The PPP provides loans of up to $10 million to companies that meet certain size requirements (“PPP Loans”). At least 75% of a PPP Loan must be used for payroll costs, and the entire PPP Loan (including interest) may be forgivable to the extent used for such payroll costs or mortgage interest, rent and utility payments.
Since the passage of the Act, the SBA and U.S. Department of the Treasury (“Treasury”) have provided much needed guidance in the form of two Interim Final Rules, a summary of the affiliation rules applicable to the PPP, and a set of FAQs.
Below is a general overview of the PPP, including requirements for eligibility and forgiveness.
Which companies qualify for PPP Loans?
If a company has 500 or fewer employees whose principal place of residence is within the U.S., it can apply for a PPP Loan. For companies in industries where the SBA has an established eligibility threshold higher than 500 employees, that higher threshold will apply.1
Alternatively, if the above employee headcount criteria are not met, a business can also qualify for the PPP as a small business concern if it meets both tests under the SBA’s “alternative size standard” as of March 27, 2020: (1) maximum tangible net worth of the business is not more than $15 million; and (2) the average net income after federal income taxes (excluding any carry-over losses) of the business for the two full fiscal years prior to the date of the application is not more than $5 million.
Subject to certain exceptions, the calculation for eligibility (whether based on employee headcount or tangible net worth and net income, as described above) is made on an aggregate basis with all of the company’s domestic and foreign affiliates (“Affiliation Rule”). For purposes of the Affiliation Rule, based on the SBA’s regulation at 13 CFR 121.301, entities are affiliates of one another when one controls or has the power to control the other, or a third party (or parties) controls or has the power to control both. Affiliation can be based on ownership, management, or identity of interest between close relatives, or arise under stock options, convertible securities, and agreements to merge. In finding affiliation based on ownership, a minority shareholder is deemed to be in control if that individual or entity has the ability, under the entity's charter, bylaws, or shareholders' agreement, to prevent a quorum or otherwise block action by the board of directors or shareholders.
For certain companies in the hospitality and restaurant industries (i.e., those in NAICS Sector 72), the number of employees is assessed on a per-location basis, and the Affiliation Rule is waived when calculating eligibility. Additionally, the Affiliation Rule is waived for (i) franchises that are assigned a franchise identifier code by the SBA and (ii) companies that receive financing from a small business investment company licensed under the Small Business Investment Act.
Companies also must have been in operation as of February 15, 2020, and have paid employees or independent contractors, in order to be eligible.
What is the maximum amount of PPP Loans that can be borrowed?
The maximum PPP Loan amount is determined by a payroll-based calculation, subject to a maximum cap of $10 million.
Generally, the available loan amount for a given company is 2.5 times its average monthly payroll costs during the one-year period prior to the loan date. The calculation is subject to certain adjustments in the case of seasonal employers, companies that borrowed loans under the SBA’s economic injury disaster loan program (“EIDL Loan”) between January 31, 2020 and April 3, 2020 (which may be refinanced into PPP Loans), and companies that have been in business for less than one year as of the calculation date.
Payroll costs consist of compensation to employees (whose principal place of residence is the U.S.) in the form of salary, wages, commissions, or similar compensation; cash tips or the equivalent (based on employer records of past tips or, in the absence of such records, a reasonable, good-faith employer estimate of such tips); payment for vacation, parental, family, medical, or sick leave; allowance for separation or dismissal; payment for the provision of employee benefits consisting of group health care coverage, including insurance premiums, and retirement; payment of state and local taxes assessed on compensation of employees; and, for an independent contractor or sole proprietor, wages, commissions, income, or net earnings from self-employment (or similar compensation).
However, payroll costs exclude (i) compensation in excess of $100,000 for any individual employee (on an annual basis, subject to proration)2; (ii) federal employment taxes imposed or withheld between February 15, 2020 and June 30, 2020, including the employees’ and employer’s share of FICA (Federal Insurance Contributions Act) and Railroad Retirement Act taxes, and income taxes required to be withheld from employee; (iii) compensation paid to residents of foreign countries and (iv) wages paid in respect of sick leave or expanded family leave for which a tax credit is allowed under Section 7001 or 7003, respectively, of the Families First Coronavirus Response Act. Payments to independent contractors are also excluded from the calculation of a borrower’s payroll costs, as contractors may separately apply for a PPP Loan.
What are the conditions applicable to PPP Loans?
A company applying for a PPP Loan must certify in good faith that (i) the PPP Loan is necessary to support the ongoing operations of the company due to the uncertainty of current economic conditions, (ii) funds will be used to retain workers, maintain payroll or make mortgage interest payments, lease payments and utility payments, and (iii) for the period from February 15, 2020 through December 31, 2020, the company has not received and will not receive another PPP Loan, among other things.
In addition, receipt of a PPP Loan will disqualify a business from utilizing the employee retention tax credits provided under the CARES Act.
Comment: As described in ”What are the permitted uses of PPP Loan proceeds?” below, the permitted uses of PPP Loan proceeds are not limited to retaining workers, maintaining payroll or making mortgage interest payments, lease payments and utility payments. However, the amount of potential loan forgiveness is tied to the amount of proceeds used for such purposes (see “Are PPP Loans eligible for loan forgiveness?” below).
What are the permitted uses of PPP Loan proceeds?
At least 75% of PPP Loan proceeds must be used for payroll costs. Up to 25% of the proceeds may be used for payments of mortgage interest (but not principal or prepayments), rent, utilities and interest on other existing debt obligations incurred before February 15, 2020, refinancing an EIDL Loan made between January 31, 2020 and April 3, 2020, and costs related to the continuation of group health care benefits during periods of paid sick, medical, or family leave, and insurance premiums.
What are the commercial terms of a PPP Loan?
PPP Loans are subject to an interest rate of 1%, have a term of two years, are subject to complete payment deferral (including principal, interest and fees) for six months, and are not subject to any prepayment penalty.
Unlike normal loans under Section 7(a) of the Small Business Act, PPP Loans are not required to be secured by collateral or personally guaranteed, do not require that the borrower be unable to find credit elsewhere, and are not subject to the SBA’s fees through June 30, 2020. Additionally, the SBA has no recourse against individual shareholders, members and partners of borrowers for non-payment of PPP Loans (except to the extent the loan is used for an unauthorized purpose).
Are PPP Loans eligible for loan forgiveness?
Up to the entire amount of a company’s PPP Loan (including interest) may be forgiven by application to the lender, together with certain supporting documentation. The amount of the PPP Loan eligible for forgiveness (“Forgiven Amount”) is the amount expended by the company during the eight-week period after the first disbursement of the PPP Loan on (i) payroll costs (as described in “What is the maximum amount of PPP Loans that can be borrowed?” above) and (ii) to the extent the underlying arrangements were in place prior to February 15, 2020, mortgage interest payments, lease payments and utility payments, with not more than 25% of the Forgiven Amount attributable to non-payroll costs.
If, during such eight-week period, the company (x) employs fewer full-time employees per month on average than it did during specified earlier periods or (y) reduces salary or wages by more than 25% for any employee earning less than $100,000 annually, as compared to their compensation in the most recent full quarter prior to such eight-week period, then the Forgiven Amount is reduced by a corresponding fraction or amount, as applicable. To incentivize rehiring and reversal of compensation reductions, the calculation of the Forgiven Amount will disregard any reductions made between February 15, 2020 and April 26, 2020 to the extent eliminated by June 30, 2020.
Additionally, if a business has its PPP Loan forgiven, the business will no longer be eligible to utilize the employer payroll tax payment deferrals provided under the CARES Act.
The SBA may issue additional guidance on PPP Loan forgiveness.
Who can be a lender of PPP Loans?
Lenders who are already qualified to participate in loans under Section 7(a) of the Small Business Act can elect to also participate in providing PPP Loans.
In order to expand the pool of potential PPP Loan lenders, the Department of the Treasury and the SBA have established criteria for other financing providers to participate as PPP Loan lenders. Federally insured depository institutions and credit unions, along with Farm Credit System institutions (subject to certain additional requirements), are automatically eligible to enroll (unless currently designated in “Troubled Condition” by their primary federal regulator or subject to a formal enforcement action by their primary federal regulator that addresses unsafe or unsound lending practices). Additionally, the following other financing providers may be eligible to enroll as PPP Loan lenders:
- depository or non-depository financing providers that have been operating since at least February 15, 2019; have originated, maintained, and serviced more than $50 million in business loans or other commercial financial receivables during a consecutive 12-month period in the past 36 months; have a formal compliance program; and apply certain Bank Secrecy Act requirements; or
- a service provider to any insured depository institution that has a contract to support such institution’s lending activities in accordance with 12 U.S.C. § 1867(c) and is in good standing with the appropriate federal banking agency.
How long will PPP Loans be available?
The Paycheck Protection Program expires on June 30, 2020.
How does a company apply for a PPP Loan?
Eligible companies should contact a registered SBA lender to start the application. The list of the most active SBA lenders (by lending volume through December 31, 2019) can be accessed through the SBA’s website here.
2 Note that the exclusion of compensation in excess of $100,000 annually applies only to cash compensation, not to non-cash benefits, including: employer contributions to defined-benefit or defined-contribution retirement plans; payment for the provision of employee benefits consisting of group health care coverage, including insurance premiums; and payment of state and local taxes assessed on compensation of employees.
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