May 19, 2020Client Alert

SBA Releases Forgiveness Application – Providing De Facto Guidance

On May 15th the Small Business Administration (SBA) released a form application for forgiveness of an outstanding loan under the Paycheck Protection Program (PPP).

As has been the case with prior forms released under the PPP, the forgiveness application brings clarity to topics which were not entirely clear under the statute, interim regulations or regularly updated FAQ’s. In other words, many practitioners read the forms closely not just as a processing formality but as a way to glean how the SBA is interpreting the PPP.

The application was also released at a time when there are widespread media reports that Congress is considering making changes to the PPP, perhaps including extending the period during which PPP funds may be used and forgiven or making use limitations less restrictive. Notwithstanding those reports the forgiveness application makes clear that spending the PPP funds during the eight-week period following receipt of the loan remains the rule. A loosening of the PPP rules will – as of now – have to come from Congress.

After review of the forgiveness application, a sample of topics we see as novel points, new features or explanations that bring clarity to proper use of PPP funds include:

  • 25% Non-payroll Costs Rule: The 75% payroll costs use rule (also known as the 25% non-payroll costs rule) applies to whatever funds are spent during the covered period. In other words, of whatever amount is spent during the covered period, 75% must be on payroll costs.
  • 75% Use Requirement: The forgiveness application does not address the requirement that 75% of the loan proceeds must be used on payroll costs (that was separately added by the SBA in the first PPP regulation). We call this the “75% Use Requirement.” We take the fact that the application does not address the 75% Use Requirement as a solid indication that the SBA does not intend to impose total loss of forgiveness as a penalty for failure to meet the 75% Use Requirement. That being said, the original threat of repayment of misused funds (or even prosecution for fraud) found in the first PPP regulation remains unchanged. It remains to be seen whether the SBA considers a failure to meet the 75% Use Requirement a misuse of the funds that were not used to meet the 75% Use Requirement. In any event, no more than 25% of the amount requested to be forgiven can be used for non-payroll purposes.
  • Borrower Certifications: The SBA puts continued emphasis on borrowers themselves certifying the content they base their loans upon (putting less of an onus on lenders to “vet” forgiveness applications). Nevertheless, the forgiveness certification states that “the Borrowers eligibility for loan forgiveness will be evaluated in accordance with the PPP regulations and guidance issued by SBA through the date of this application.” For some this may alter the rules sufficiently to frustrate the core purpose of many applicants – forgivable loan. The application also requires applicants to self-report if their affiliated group PPP loans have exceeded $2 million in aggregate. This could require companies who have venture capital or other institutional investors to aggregate the loans of all portfolio companies who are deemed affiliates under SBA PPP guidelines.
  • Personal Property Leases: Leases for personal property (and not just real property) may be included in forgivable non-payroll costs. This would presumably include equipment and vehicle leases for agreements entered into on or before February 15, 2020.
  • Alternative Covered Period: Borrowers may use the eight-week period starting the day they receive the loan or, at their election, an alternative covered period, commencing on the first payroll period following disbursement of the loan if they have biweekly (or shorter) payroll periods.
  • Bonuses: There is no apparent prohibition on paying bonuses or shifting payrolls (though the $100k annualized compensation rule, which is boiled down to a cash compensation amount of no more than $15,385 per employee during the eight-week period, still applies). That being said, there is also no clear approval of such methods. Fortunately, the SBA’s allowance for an alternate “broader” covered period for payroll, as well as the expansive reading of the “costs incurred and payments made” language in the statute, should reduce the need to undertake these steps for some borrowers seeking maximum forgiveness.
  • Owner Payments: Special rules apply to the amount of payroll costs attributable to owner-employees, self-employed individuals, and general partners, limiting them to the lesser of $15,385 or the eight-week equivalent of their 2019 compensation. This makes it difficult to use bonuses to owner-employee, self-employed individuals, or general partners as a method to maximize forgiveness.
  • Timing of Payroll Cost Payments: Payroll costs paid during the covered period (or alternative covered period) are eligible for forgiveness. Payroll costs are considered paid on the day that paychecks are distributed (or ACH made) and are considered incurred on the day earned. In addition, payroll costs incurred but not paid during the last pay period of the covered period (or alternative covered period) are forgivable if paid by the next regular payroll date. This guidance generally negates the need for a special payroll run to cover wages earned during the covered period.  
  • FTEs and Rehire Rule: The headcount (penalty) reduction rules are clarified to define “Full Time Equivalent” as based on 40 hours. Moreover, the application allows borrowers to disregard those employees who were offered rehire and refused and anyone who was terminated for cause, who voluntarily resigned, or who voluntarily requested and received a reduction in hours. But only if the position was not filled by a new employee.
  • Mitigation of Reduction Rules: The impact of the headcount reduction and wage reduction rules (that decrease the amount of forgiveness) can be mitigated by rehiring employees terminated/laid-off in certain time frames if the positions or wages are restored as of June 30, 2020. Although these rules use the term “restore," the language does not appear to prohibit layoffs or wage reductions for July 1, 2020 or later.
  • Necessity Documentation: Borrowers are required to maintain, for six years, documentation supporting Borrower’s certifications as to the necessity of the loan request and its eligibility for a PPP loan. The application does not specify exactly what type of documentation must be maintained, but at a minimum borrowers should main an internal memo to file outlining the factors considered with respect to necessity. Also, this requirement is not expressly limited to only borrowers who received a PPP loan of more than $2 million, so all borrowers should maintain this documentation. Recent guidance has made it clear that borrowers who received a loan of less than $2 million won’t be subject to civil or criminal penalties for not making the necessity certification in good faith, but the failure to document the necessity for the PPP loan could still affect the forgiveness of the loan.  

Borrowers may presumably submit the forgiveness application to their lender as soon as their applicable eight-week covered period has expired (although those using the rehiring rules may need to wait until June 30 to do so as a practical matter). The application does not state when a borrower will hear back from the SBA or the lender or what form of notification to expect. We expect lenders to facilitate loan amendments or some other modification to document a reduced (or fully paid off) loan balance following forgiveness.

We recommend that you continue to work with your bank, legal counsel, and accounting experts to ensure compliance with the PPP.

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