Money for Nothing? CARES Act Economic Injury Disaster Loan Application
The CARES Act (Coronavirus Aid, Relief and Economic Security Act) includes two new SBA loan provisions: The Paycheck Protection Program (PPP) and Emergency EIDC Grants. Of note, the loan program is available to some VC backed firms (see below) sole proprietors, independent contractors, and self-employed individuals (subject to additional requirements). While there are two applicable programs, this article will focus primarily on the Paycheck Protection Program (PPP) Loan.
- PPP Loan. This is getting the most focus as it is targeted at helping businesses keep employees on the payroll and loans are forgivable under certain circumstances. Intended for businesses and non-profits with fewer than 500 employees that are ‘substantially affected by COVID-19’ which includes supply chain disruptions, staffing challenges, decrease in sales or customers or shuttered businesses. Loan size is lesser of $10mm or 2.5x the average monthly payroll (during the 1 year period before the loan date). Duration is up to a maximum of 10 years. It can be used, with some restrictions, for payroll support, salaries, mortgage interest payments, rent, utilities and other items.
- SBA Economic Injury Disaster Loan (EIDL) Program. The EIDL program is a low interest, non-forgivable loan offered by the SBA. Loan size is up to $2mm and can be used to pay fixed debts, payroll, accounts payable and other bills.
Interest rates are 3.75% for businesses and 2.75% for non-profits. An emergency grant of $10,000 can be provided even before loan approval to cover specified costs. Supporting documentation will likely include recent tax returns, schedule of liabilities and a personal financial statement.
- PPP loans do not require collateral or guarantees. What this means is that the other eligibility requirements of the SBA loan participation (e.g., average annual receipts) are not applicable, and this program is available (i) to many new businesses not otherwise able to avail themselves to the SBA loan programs, and (ii) provides much friendlier terms than traditional SBA loan programs.
- To substantiate an application for loan forgiveness under PPP, the loan recipient is required to: i) Provide verifying documentation of the number of full-time equivalent employees (including 1099 consultants — see below for qualifications) on payroll and pay rates; ii) Certify that documentation is true and accurate, and the amount for which forgiveness is requested was used to retain employees or to make mortgage, rent, or utility payments.
- Based on a current review of the act, PPP loan forgiveness appears to be excluded from taxable income. Please confirm this with your financial advisor.
- Applicants for the PPP Loan will need to apply for the loan through a SBA affiliated bank. The applicant most likely will need to have an existing account with such a bank in order to apply and facilitate payment of the loan proceeds.
- The treatment of 1099 consultants is an eligible use of PPP loan proceeds.
However, since the company and potentially the 1099 consultant can apply for the loan, coordination is recommended between the company and 1099 consultant during the application process.
- For VC/PE sponsored firms – In calculating the number of employees, businesses generally need to include the employees of all affiliates.
- These rules require the aggregation of employees or annual receipts of all the sponsors or investors controlled companies. In some instances, The CARES Act waives the strict SBA affiliation rules for this new loan in certain instances (which should be reviewed with your financial institution).
- This could result in portfolio companies of private equity or venture capital companies and other businesses with common controlling ownership lacking eligibility for these loans.
- When do the affiliate regulations require aggregation with your VC’s other portfolio companies (and the VCs themselves) for purposes of determining whether you have 500 employees?
- Section 301, which actually governs SBA 7(a) loans – startups do NOT have to find “affiliation” based on having two or more stockholders with roughly equal holdings who together are “large” compared to others.
- Section 301 looks at the power to “control” that is held by an equity holder (rather than unrelated minority holders) where that holder owns or has the power to control more than 50 percent of the [company’s] voting equity. A VC fund typically owns a minority, not a majority, stake in a company.
- To assess whether a VC-backed company qualifies:
- (1) If the VC holds 50% or more of the company’s equity (calculated per Section 301(f)); or
- (2) Does any single VC control a majority of the company’s board (this applies particularly to companies where there are multiple VC stakeholders); or
- (3) Will a single VC have significant protective provisions that would enable that VC to thwart critical corporate actions so that the VC controls the firm?
- If you answer yes to ANY one of the above questions, seek guidance from counsel, because you may then need to add together your employee headcount with that of your VC and all of that VC’s other “affiliates.”
More information will be released in the coming weeks. For further details, we urge you to review the requirements of the PPP and EIDL, with your financial and/or tax advisors, as well as your bank which originates SBA loans.