Massachusetts District Office April 5, 2018 SEED ANNUAL TRAINING 1
See SBA Information Notice 5000-1708, Issuance of SOP 50 10 5 (J), for more detailed information of major changes to SOP, and SBA Information Notice 5000-17028, Technical Corrections to SOP 50 10 5 (J), for final changes. The revised SOP with the technical corrections is now posted on SBA s website at: https://www.sba.gov/document/sop-50-10-5- lender-development-company-loan-programs 2
Credit Elsewhere Test Debt Refinancing SBA Express LOC term-out period Equity Injection Requirements Allowable Fees Affiliation with Management Agreements Revised Franchise Procedures Personal Guaranty Requirement Business Financials Builder s CAPLine 3
Lenders remain responsible to ensure that the applicant meets all SBA eligibility requirements (see Subpart B, Chapter 2 of SOP 50 10) Passive Business Model Credit Elsewhere 4
Small Business applicant must: Be an operating business Be organized for profit Located in the U.S. (including territories & possessions) Be small (as defined by SBA) Demonstrate a need for the desired credit The Lender must certify that the Applicant does not have the ability to obtain some or all of the requested loan funds on reasonable terms from non-federal sources, including the Lender, without SBA assistance. 5
[pp. 97-98] The Lender must include in its credit memorandum: A determination that some or all of the loan is not available from any of the following sources: Non-Federal sources related to the Applicant, including the liquidity of owners of 10% or more of the equity of the Applicant, their spouses and minor children, and the Applicant itself; or Non-federal sources unrelated to the Applicant, including conventional lenders or other sources of credit. 6
[pp. 98] Substantiation that credit is not available elsewhere by discussing acceptable factors that demonstrate an identifiable weakness in the credit. Lender must include the specific reasons why the Applicant does not meet the Lender s conventional loan policy requirements. Failure of the Lender to adequately address the Applicant s need for the desired credit may result in SBA denying liability on the guaranty. 7
Acceptable factors that demonstrate an identifiable weakness in the credit or exceed policy limits of the Lender include, among others: The business needs a longer maturity than the Lender s policy permits (for example, the business needs a loan that is not on a demand basis); The requested loan exceeds the Lender s policy limit regarding the amount that it can lend to one customer; The collateral does not meet the Lender s policy requirements; The Lender s policy normally does not allow loans to new businesses or businesses in the Applicant s industry; and/or Any other factors relating to the credit (such as business and personal credit history) that, in the Lender s opinion, cannot be overcome except for the guaranty. These other factors must be specifically documented in the loan file. 8
Businesses that have entered into a management agreement with a third party that gives the management company sole discretion to manage the operations of the business, including control over the employees, the finances and the bank accounts of the business, with no involvement by the owner(s) of the Applicant business, are considered passive, are not eligible. 9
[pp. 89-90] Management agreements that give the management company sole discretion over the business operations with minimal oversight of the decision - making by the Applicant business, while not passive, create affiliation between the management company and the Applicant business. SBA has determined, however, that affiliation is not created between the Applicant business and the management company if the management agreement includes meaningful oversight by the Applicant business over the management company s activities. 10
Meaningful oversight by the Applicant business means involvement in the decisions made concerning the operation of the business such as: i. Approve the annual operating budget; ii. Approve any capital expenditures or operating expenses over a significant dollar threshold; iii. Have control over the bank accounts; and iv. Have oversight over the employees operating the business (who must be employees of the Applicant business). 11
Applicants with Management Agreements: If the applicant will be using a management agreement, for non-delegated loans, Lender must submit the management agreement to the LGPC to determine if it creates affiliation between the Applicant and the management company. If a delegated Lender is processing the loan under its delegated authority, the Lender must review the management agreement to determine if it creates affiliation between the Applicant and the management company. 12
[pp. 102-103] If it appears an Applicant may be connected, associated or affiliated with a religious organization, or may have a religious component, the Lender must complete the Religious Eligibility Worksheet (SBA Form 1971), attached to SOP (J) as Appendix 8. Any questions regarding this worksheet may be addressed to local SBA Counsel or Center Counsel. 13
[pp. 103] Prior to requesting a loan number, a delegated Lender must submit the completed worksheet and supporting documentation to Form1971Review@sba.gov for an eligibility determination. Such supporting documentation includes, but is not necessarily limited to, Lender s Credit Memorandum; the Applicant s business plan; any mission statement of the Applicant; and, where applicable, a detailed statement of Applicant s curriculum. SBA may request additional documentation as needed to complete the eligibility review. 14
[pp. 103] Upon approval by SBA, Lender may proceed to process the loan under its delegated authority. Lender must retain the worksheet, supporting documentation, and evidence of SBA s approval in its loan file and must submit all of the foregoing to SBA with any request for guaranty purchase. SBA also may review the worksheet and supporting documentation when conducting Lender oversight activities. 15
[pp. 103] A non-delegated Lender must submit the completed worksheet and supporting documentation (as described in the paragraph immediately above) to the LGPC with the application. Center Counsel will review the information, make a recommendation, and forward the matter to the Associate General Counsel for Litigation at Form1971Review@sba.gov for a final decision. The LGPC will notify the Lender of the Associate General Counsel for Litigation s decision. An Applicant is not ineligible merely because it offers religious books, music, ceremonial items and other religious articles for sale. 16
[pp. 107] A business is not eligible for SBA assistance if: It presents live or recorded performances of a prurient sexual nature; or It derives more than 5% of its gross revenue, directly or indirectly, through the sale of products, services or the presentation of any depictions or displays of a prurient sexual nature. 17
If a delegated Lender finds that the Applicant may have a business aspect of a prurient sexual nature, prior to requesting a loan number, the Lender must document and submit the analysis and supporting documentation to SBA at PSMReview@sba.gov for an eligibility determination. Upon approval by SBA, the Lender may proceed to process the loan under its delegated authority. Lender must retain its analysis, supporting documentation, and evidence of SBA s approval in its loan file and must submit the analysis and supporting documentation to SBA with any request for guaranty purchase. SBA also may review such documentation when conducting Lender oversight activities. 18
If a non-delegated Lender finds that the Applicant may have a business aspect of a prurient sexual nature, the Lender must include an analysis of the issue and supporting documentation with its application to the LGPC. Center Counsel will review the information, make a recommendation, and forward the matter to the Associate General Counsel for Litigation at PSMReview@sba.gov for a final decision. The LGPC will notify the Lender of the Associate General Counsel for Litigation s decision. 19
[pp. 109] Delegated Lenders are responsible for checking the Credit Alert Verification Reporting System (CAIVRS) to determine if any of the individuals or businesses identified in paragraph c) above have outstanding Delinquent Federal Debt or Prior Loss. All Lenders must inform the Applicant that if the small business defaults on the SBA-guaranteed loan and SBA suffers a loss, the names of the small business and the guarantors of the SBA-guaranteed loan will be referred for listing in the CAIVRS database, which may affect their eligibility for further financial assistance. 20
[pp. 115] An Eligible Passive Company (EPC) must use loan proceeds only to acquire or lease, and/or improve or renovate, real or personal property (including eligible refinancing), that it leases to one or more Operating Companies (OCs) for conducting the Operating Company's business, or to finance a change of ownership between the existing owners of the EPC. With the exception of a change of ownership between existing owners of the EPC, an EPC may not use loan proceeds to acquire a business, acquire stock in a business or any intangible assets of a business, or to refinance debt that was incurred for those purposes. 21
Expanded eligibility of EPC/OC structured loans To include situations where purpose of loan is to accomplish a change of ownership between existing owners of the EPC AND To reinforce/clarify that when the OC is a coborrower on the loan, proceeds also may be used for the purchase of other assets, including intangible assets for the OC s use SOP (J) [p. 115] Further, an EPC may only use loan proceeds to finance a change of ownership between existing owners when the real estate has been held by the selling owner(s) for at least 36 months. 22
Loan Proceeds for Farm Enterprises May be Used : To purchase land, buildings, and land improvements (fencing, irrigation systems, construction of dikes, silos, barns, hog and dairy facilities, etc.); For construction, renovation, or improvement (including water systems) of farm buildings other than residences; The purchase of farm machinery and equipment; The purchase of seed and the acquisition of animals; Operating expenses directly related to the farming operation, excluding personal or family living expenses; The refinancing of debt related to the farming operation, excluding personal or family living debt. 23
[pp. 122-123] The acquisition of land in excess of the farming operation s needs is not an eligible use of proceeds. In addition, Applicant must not use loan proceeds to purchase vacant or row crop land for possible future use, future construction, or to lease to third parties. For example, a concentrated animal feedlot operation (CAFO) that only requires 10 acres of land for its operation (including housing and feeding of the animals, service and access roads, and waste management facilities) may not use SBA-guaranteed loan proceeds to obtain excess farmland that is not used in the operation of the Applicant business. If excess land is being acquired at the same time as the SBA-guaranteed loan, the excess land must be financed from sources other than SBA and the source of the financing must be documented in the loan file. 24
[pp. 125-126] Debt that is not identified as not on reasonable terms (items a to g on page 125) but the Lender believes no longer meets the h) needs of the Applicant: The Lender must cite the specific reasons why the existing debt no longer meets the needs of the Applicant; Lender may not cite improving the lien position as the sole reason for the refinancing; and Applications under this subparagraph h) may only be processed through non-delegated 7(a) procedures. 25
[pp. 125-126] When refinancing debt, the Lender s loan file must include: A written analysis that addresses the following issues: The reason the debt was incurred; The reason for restructuring the debt (for example, overobligated or imprudent borrowing); The factor(s) that support that the debt being refinanced is not currently on reasonable terms; How the new loan will improve the financial condition of the Applicant; The reason(s) the Lender believes the debt to be refinanced no longer meets the needs of the Applicant (See paragraph E.3.h) above.); 26
[pp. 126] When refinancing debt, the Lender s loan file must include: Supporting documentation for each debt to be refinanced: Lenders are required to obtain copies of notes, security agreements, leases, or other documentation evidencing the debt. For credit card debt, include a copy of the most recent credit card statement evidencing the holder of the account and the current balance. 27
[pp. 131] For an existing building, Applicant or OC(s) must occupy 51% of the rentable property and may sublease up to 49%; For new construction, Applicant or OC(s) must occupy 60% of the rentable property, may permanently sublease up to 20% and temporarily sublease an additional 20% with the intention of using some of the additional 20% within three years and all of it within 10 years. An EPC must lease 100% of the rentable property to an eligible OC. The OC must follow items F.1.a) and b) above. 28
[pp. 131] Circumstances may justify allowing the Applicant a period of time after closing of the SBA loan to comply with the above occupancy requirements. In no case may the small business have more than one (1) year to meet occupancy requirements. The restrictions in F.1.a) and b) above apply regardless of whether the rentable property is leased to a commercial or residential tenant. The Applicant may not use loan proceeds to improve or renovate any portion of the Rentable Property that is subleased to a third party. During the life of the loan, a borrower may not lease space to any business engaged in any activity that is illegal under federal, state or local law (such as a marijuana dispensary). 29
[pp. 143-144] Extends maximum maturity to 10 years BUT Requires a term-out period that is not less than the draw period (no draws during term-out period) e.g., loan can have an 8 year maturity with a 2-year draw period and a term-out period of 6 years Allows increases to SBA Express LOCs during draw period only. [pp. 222] -Must be within five (5) years for SBA Express and seven (7) years for Export Express of the date of loan approval 30
The Lender or a third party may charge an Applicant fees for packaging and other services. Packaging services provided by Lender or third party include assisting the Applicant with completing one or more applications, preparing a business plan, cash flow projections, and other documents related to the application. Other services provided by a third party includes consulting as to what financing is needed and what type, and broker or referral fees. Note: The Lender and its Associates are prohibited from charging the Applicant for other services, as defined above. 31
With regard to fees for packaging or other services charged based on a percentage of the loan amount: In no event may the fee exceed 3 percent on loans of $50,000 or less; The fee may not exceed 2 percent for loans between $50,000 and the first $1,000,000 with an additional ¼ percent on amounts over $1,000,000; All fees over $2,500 must be supported, documenting the work performed and the time spent on each activity (See VIII.B for detail) The maximum fee that may be charged to an Applicant on a percentage basis is $30,000. 32
[pp. 158-159] With regard to fees for packaging and other services charged on an hourly rate: Fees must be reasonable and customary for the actual services performed. There is no maximum fee for fees charged on an hourly rate. However, all fees over $2,500 must be supported, documenting the work performed and the time spent on each activity (See paragraph VIII.B for detail). 33
For change of ownership loans deletes requirement for 25% equity injection for PLP processing when > $500,000 in intangibles [pp. 174 (loans > $350,000), 177 (small loans)] For all regular 7(a) loans, regardless of size Mandates minimum 10% equity injection (Applicant contribution) of total project costs (all costs required to become operational, regardless of the source of funds) for true start-ups SBA considers a business to be a start-up for the purpose of determining equity injection requirements if it has been in operation (i.e., generating revenue from intended operations) for up to one year; 34
[p. 174] Changes of ownership: 4/6/2018 Resulting in a new owner (complete change of ownership): SBA considers an equity injection of at least ten (10) percent of the total project costs (all costs required to complete the change of ownership, regardless of the source of funds) to be necessary for such transactions. Seller debt may not be considered as part of the equity injection unless it is on full standby for the life of the SBA loan and it does not exceed half of the required equity injection; Change of ownership between existing owners ( partner buyout ): The pro-forma equity position after the change of ownership must be at least ten (10) percent of the total assets. SOP 50 10 5 (J) Effective 1/1/2018 35
[p. 175] Requires that for debt to be considered as equity MUST be on FULL standby (no principal or interest payments) for the life of the loan When debt is seller takeback on full standby for life of loan, it may only contribute 50% of mandated equity So, if loan $1 million and equity requirement is $100,000, seller take back could be no more than $50,000 36
SBA Information Notice 5000-17009 Effective 1/1/2018 SBA Franchise Directory https://www.sba.gov/document/support-objectobject-sba-franchise-directory SBA has created the SBA Franchise Directory which includes all franchise and other brands reviewed by SBA that are eligible for SBA financial assistance. Lenders will no longer have to review franchise agreement and other collateral documentation for affiliation between the franchisor and franchisee or eligibility of the franchise eliminating inconsistent decisions and backlogs. 37
Determine if a brand meets the FTC definition of a franchise Determine if the business model for the brand is eligible under SBA regulations. Provide an SBA Franchise Identifier Code if the brand meets the FTC definition Determine if an addendum is needed, and if so whether the franchisor will use the SBA Addendum (SBA Form 2462) or has an SBA Negotiated Addendum. 38
If the franchisor agrees to use SBA Form 2462 (SBA Standard Addendum) SBA will only conduct an eligibility review and will not review of affiliation. If the franchisor elects not to use the SBA Form 2462, SBA will work with the franchisor to resolve any affiliation issues, including through the use of an SBA Negotiated Addendum, if necessary. 39
Prior to submitting the application to SBA for nondelegated processing or requesting an SBA Loan Number for delegated processing the Lender must check the Directory to determine if it includes the Applicant s brand If the Applicant s brand is on the Directory, Lender may proceed with submitting the application to SBA or requesting an SBA Loan Number through E-Tran or SBA One If the Applicant s brand is not on the Directory, for nondelegated loans, Lender cannot submit the application to the LGPC, or for delegated loans, Lender cannot submit a request for a loan number and must follow the process to add a brand to the Directory. 40
Franchisor must submit the following to franchise@sba.gov Franchise Disclosure Document (FDD) if applicable Agreement All other documents the franchisor requires the franchisee to sign For Questions on SBA s Franchise Policy: franchise@sba.gov Franchisors that would like to appeal SBA s decision not to place them on the Directory may do so by forwarding a copy of the decision, along with an explanation of how the determination is perceived to be inconsistent with this SOP, to franchise@sba.gov. Franchise appeals will be reviewed by the SBA Franchise Committee comprised of OFA and OGC personnel. 41
Upon completion of SBA s review and a determination by SBA that the brand is eligible, SBA will list the brand on the Directory, along with an indication of the type of Addendum being used, if necessary, and will assign an SBA Franchise Identifier Code. If SBA determines that the brand does not meet the FTC definition of a franchise, SBA will list the brand on the Directory but will indicate that it is not a franchise and SBA will not assign an SBA Franchise Identifier Code 42
SBA Express and Export Express Lenders may use a business credit scoring model (such a model cannot rely solely on consumer credit scores) to assess character, reputation, and credit history of the applicant and/or repayment ability if they do so for their similarly-sized, non-sba guaranteed commercial loans. If used, the business credit scoring results must be documented in each loan file and available for SBA review. Lenders must validate (and document) with appropriate and accepted statistical methodologies their business credit scoring model is predictive of loan performance and they must provide that documentation to SBA upon request. 43
SBA Express and Export Express Programs: If the Lender uses business financial information to determine the creditworthiness of an SBA loan, the Lender must follow the IRS tax verification process set out above. If the Lender does not use business financial information to determine creditworthiness, such as with some credit scoring models, Lender must obtain IRS tax transcripts in order to verify that the returns were filed and for the purpose of determining the Applicant s size, but reconciliation of the tax transcripts is not required. 44
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CONTACTS Ili R. Spahiu Lead Lender Relations Specialist 617-565-5569 Ili.Spahiu@sba.gov Carlos Hernandez Lender Relations Specialist 617-565-5565 Carlos.hernandez1@sba.gov Robert H. Nelson District Director Tip O Neil Federal Building Suite 265 Boston, MA 02222 617-565-5561 RHNelson@sba.gov 46