Travel back in time to the spring of 2020: people search for toilet paper and spray their groceries with Lysol. Additionally, lenders are tackling new loan programs created under the CARES Act. Lenders quickly learn how to process applications for Paycheck Protection Program (PPP) and Economic Disaster Loan (EIDL) loans and navigate an ever-changing landscape of SBA guidelines. On the other hand, companies are crossing their fingers, hoping for approval.
For many businesses, their PPP and EIDL loans may not be enough to get through the pandemic. Some companies are in the same financial situation as in the spring of 2020 despite obtaining the loans.
Many PPP and EIDL loans issued before June 5, 2020 had a maturity date of two years, which means that by mid-2022 many lenders, for loans that have not been canceled, will face to questions about how to deal with borrowers who are in default or declaring bankruptcy. What obligations does a lender have when its PPP or EIDL borrower defaults or has filed for protection under the Bankruptcy Code?
Treatment of PPP loans in bankruptcy: While PPP loans generally did not require collateral or personal guarantees, some EIDL loans did. In fact, EIDL loans over $25,000 required collateral and EIDL loans over $200,000 required personal guarantees.
Generally speaking, PPP and EIDL loans are eligible to be included in a business bankruptcy case. PPP and EIDL loans will be treated in bankruptcy based on their security and priority as a typical loan. This means that, for most borrowers, a PPP loan is likely to be treated as unsecured debt that may be eligible for discharge.
Although the majority of PPP and EIDL loan obligations can be canceled in the event of bankruptcy, this will not necessarily clear a lien on any real estate pledged as security for a loan. Additional steps are required for the borrower-debtor to attempt to extinguish the lien on the property depending on the type of bankruptcy case filed.
Efforts were made to protect lenders under the Consolidated Appropriations Act of 2021 (CAA) which was enacted on December 27, 2020. The CAA sought to allow certain debtors to obtain PPP funds and also to Protect lenders by treating unforgiven PPP loans as super-priority administrative expense claims under Sections 364(c)(1) and 503(b) of the Bankruptcy Code. However, these provisions were contingent on the SBA providing a written determination to the US Office of the Trustee that bankrupt debtors are eligible for PPP loans. The SBA has never made such a decision. This leaves PPP lenders to be treated like any other lender, with their priority determined by their security.
SBA requirements for lenders when a PPP borrower goes bankrupt: Although PPP and EIDL loans can go through the bankruptcy process like any other loan, there are other considerations for lenders. Unlike the typical lender, PPP and EIDL lenders must also take all necessary steps to ensure that the SBA honors its guarantee. So what does the SBA require of the lender when the PPP and/or EIDL borrower files for bankruptcy?
Unless the borrower files for no Chapter 7 assets, the lender must provide the SBA with a notice of filing for bankruptcy, file a proof of claim, and continue to monitor the bankruptcy. PPP loans are 100% secured and unsecured, as such the SBA has indicated that while it requires lenders to monitor bankruptcy, it does not expect lenders to take action in the process. bankruptcy beyond the above minimum actions. The SBA considers filing a proof of claim a nominal administrative cost prior to filing the purchase application and will not reimburse lenders for this expense. The SBA does not provide for the need for lenders to incur expenses related to the continuation of the loan. The SBA generally will not approve any additional litigation plan unless it determines that there is a reasonable expectation of recovery in excess of legal fees.
For loans secured by collateral, a lender will want to become more involved in the bankruptcy of its borrower. In Chapter 11 bankruptcies, the lender will want to be particularly concerned about its treatment under the borrower’s Chapter 11 plan. As with any bankruptcy strategy, there are various considerations in determining what action to take in the event of a borrower’s bankruptcy.
Effect of bankruptcy on lender’s ability to request collateral purchase or imputation: Another issue that a PPP and/or EIDL lender must consider is the effect of their borrower’s bankruptcy on their ability to seek relief from the SBA. Are there time limits on what the lender can request? Can he ask for a purchase or imputation guarantee? Can he do it simultaneously?
Under guidelines issued by the SBA, a lender may simultaneously request a collateral purchase and an imputation from the SBA under certain circumstances. One such circumstance is if the borrower files for Chapter 7 bankruptcy. If the borrower files for Chapter 11, 12, or 13 bankruptcy, the lender must wait until at least sixty days have passed. from the end of the PPP loan deferment period or at any time after the entry of an order confirming a plan if the plan does not provide for the payment of 100% of the underlying debt. There are various other circumstances in which a lender may request a collateral purchase and an SBA charge, but since they are unrelated to bankruptcy, they are not discussed here.
Non-SBA Loans and Liens: Many lenders have not only issued SBA loans to a specific borrower, but may also have issued non-SBA loans to the same borrower. In this situation, many lenders ask: if the assets are liquidated, what priority is the PPP and/or EIDL loan entitled to compared to non-SBA loans? Should the liens securing these loans be satisfied before other non-SBA liens?
According to the SBA, the answer is no. SBA loans do not enjoy any special priority in the event of liquidation of the borrower’s assets. If an institution has non-SBA loans to an SBA borrower or its principals/guarantors or has liens on such loans against collateral securing the SBA loan, proceeds from the sale of collateral should be applied based on the relative priority of the privileges, as needed. by SBA loan authorization.
Maintenance Responsibilities: As PPP loans mature this coming year, many borrowers could go through the various stages of default before bankruptcy is filed, if at all. So what obligations does a lender have at this point? When do the lender’s service responsibilities end?
According to the SBA, lenders must service PPP loans until they are fully canceled or paid in full or, in the event of default or other qualifying event, until the SBA purchases the collateral. and charges any remaining uncollectible balance.
As part of their servicing responsibilities, PPP lenders are required to:
- Keep an accurate record under his direct control of each loan;
- Collect and apply loan and forgiveness payments;
- Submit separate monthly SBA Form 1502 reports that include loan status information for their PPP loans, whether the borrower has made a payment in the current month or the loan is deferred until the loan is fully repaid, fully canceled or, if applicable, until the SBA purchases the security on the loan;
- Document all loan modifications, including ownership changes. Note: Borrowers cannot receive a rebate unless the loan details are correct in E-TRAN;
- Render a decision to the SBA in accordance with PPP loan program requirements when the borrower submits a request for forgiveness. If a borrower does not apply for forgiveness within 10 months of the end of the covered period, the lender should contact the borrower to determine the status of the business (for example, whether the business is open, closed , bankrupt , etc.) and notify the borrower of the due date for the first payment on the loan. The lender must document communication attempts and results in its records;
- If a borrower does not submit a forgiveness request within 10 months of the end of the covered period, or if the PPP loan is partially forgiven or if the PPP loan forgiveness is denied in full, the borrower must make the payments. in accordance with the note, and the lender must continue to service the loan until it is repaid in full or the SBA purchases the security;
- If the borrower is more than 60 days in arrears, the lender must request full payment and submit a request for purchase of collateral and reimbursement via the platform;
- If a balance remains after a lender receives a forgiveness payment from the SBA, the reduction in principal and interest of the forgiveness forgiveness and any loan payments received from the borrower must be reported on Form 1502. from the SBA before the lender submits a request to purchase collateral;
- If the borrower does not receive full forgiveness on the loan and the lender receives post-warranty purchase payments from the borrower, the lender must send full payments to the SBA via Pay.Gov (https:// www.pay.gov/).
Navigating the bankruptcy process can be daunting, and the addition of new types of SBA loans can complicate the process. While it appears that the SBA often does not require a large bankruptcy participation for the average PPP lender, this strategy may be different for a collateralized lender.