Legally Speaking Q and A: Paycheck Protection Program Loans Under the CARES Act
This article (a supplement to our original article here) addresses common questions and answers with regards to the Paycheck Protection Program (“PPP”) loans under the Coronavirus Aid, Relief, and Economic Security Act (“CARES Act”). It also includes guidance based upon the U.S. Small Business Administration’s April 3, 2020 Interim Final Order (available here) on the PPP loans.
COVERED LOAN
Q1: Who qualifies for a covered loan?
A1: Any business (eligible recipient) which employs not more than 500 employees shall be eligible to receive a loan. In addition, sole proprietorships, independent contractors, and self-employed individuals may be eligible for a covered loan.
Q2: What is a covered loan?
A2: A loan made during the covered period.
Q3: What is the covered period?
A3: The “covered period” begins February 15, 2020 and ends June 30, 2020.
Q4: What is the maximum covered loan the eligible recipient can borrow during the covered period?
A4: The lesser of: (a) $10,000,000; or (b) two and one-half (2.5) times the average total monthly payments for payroll costs incurred during the one (1) year period before the date on which the loan is made. Note, however, that the Instructions at page 3 of the SBA Form 2483 (Paycheck Protection Program Application Form) states that “For purposes of calculating ‘Average Monthly Payroll’, most Applicants will use the average monthly payroll for 2019 . . .”
Q5: What makes up payroll costs?
A5: The sum of payments of compensation with respect to employees that is: (a) salary, wage, or commission; (b) cash tips; (c) payment for vacation, parental, family, medical, or sick leave; (d) allowance for dismissal; (e) payment for provision of group health care benefits, including insurance premiums; (f) payment of any retirement benefit; and (g) payment of state or local tax on the compensation of employees.
Q6: Is there a limit on the compensation paid to an individual employee for purposes of determining payroll costs?
A6: Yes. Compensation of an individual employee in excess of an annual salary of $100,000 is not included in payroll costs.
Q7: So the amount that the eligible recipient can borrow is not augmented by payments for utilities, janitorial, rent, debt service, supplies, etc.?
A7: True.
Q8: How can the eligible recipient spend the covered loan funds during the covered period (2/15/20 thru 6/30/20)?
A8: The CARES Act provides that the eligible recipient may use the proceeds of the covered loan for: (a) payroll costs; (b) costs related to the continuation of group health care benefits during periods of paid sick, medical, or family leave, and insurance premiums; (c) employee salaries and commissions; (d) payments of interest (not principal) on mortgage obligations; (e) rent (including rent under a lease agreement); (f) utilities; and (g) payments of interest (not principal) on any other debt obligations that were incurred before February 15, 2020. However, the interim final rule issued by the Small Business Administration on April 2, 2020 provides that at least seventy-five percent (75%) of the loan proceeds shall be used for payroll costs.
Q9: So the items on which the covered loan funds can be spent aren’t consistent with the items of payroll costs on which the maximum covered loan amount is based?
A9: True. For example, the covered loan funds can be spent on utilities.
Q10: So the items on which the covered loan funds can be spent do not include janitorial, supplies, etc.?
A10: True.
Q11: What interest rate is paid on the covered loan?
A11: While the CARES Act provides that the interest rate on a covered loan shall not be more than four percent (4%), the interim final rule issued by the Small Business Administration on April 2, 2020 provides that such interest rate shall be one percent (1%).
Q12: What is the term on the covered loan?
A12: While the CARES Act provides that a loan shall have a maximum maturity of up to ten (10) years from the date the borrower applies for loan forgiveness, the interim final rule issued by the Small Business Administration on April 2, 2020 provides that such maturity shall be two (2) years.
Q13: Does the Lender have recourse against an individual shareholder, member, or partner of an eligible recipient of a covered loan for nonpayment?
A13: No. Except to the extent the shareholder, member, or partner uses the covered loan for a nonauthorized purpose.
Q14: Is a personal guarantee or collateral required for a covered loan?
A14: No.
Q15: Is there a possibility of loan deferment for a covered loan?
A15: Yes. While the CARES Act provides that there is complete payment deferment of principal, interest, and fees, with covered loans, for a period of not less than six months, and not more than 1 year, the interim final rule issued by the Small Business Administration on April 2, 2020 provides that the borrower will not have to make any payments for six (6) months following the date of disbursement of the loan, but that interest will continue to accrue on such loan during this six (6) month deferment.
Q16: Who is going to be administering these loans?
A16: The Small Business Administration. However, it appears that the authority to make covered loans shall be extended by the SBA to “additional lenders”.
FORGIVENESS
Q17: Is any of the covered loan eligible for forgiveness?
A17: Yes. The CARES Act provides that an eligible recipient is eligible for forgiveness of the covered loan in an amount equal to the sum of the following costs incurred and payments made during the covered period: (a) payroll costs (See Q&A 5); (b) payment of interest (not principal) on any covered mortgage obligation; (c) payment on any covered rent obligation; and (d) any covered utility payment. However, the interim final rule issued by the Small Business Administration on April 2, 2020 provides that not more than twenty-five percent (25%) of the loan forgiveness amount may be attributable to non-payroll costs.
Q18: So the items potentially available for forgiveness are a “subset” of the items constituting allowable uses of the covered loan?
A18: True.
Q19: What is the covered period for purposes of loan forgiveness?
A19: The eight (8) week period beginning on the date of the origination of the covered loan.
Q20: So it is only that portion of the covered loan that is spent on qualified items during the eight (8) week period beginning on the date of the origination of the covered loan that is eligible for forgiveness?
A20: True.
Q21: So there is a different covered period (2/15/20 through 6/30/20) for purposes of the covered loan being issued and the covered period (eight weeks) for purposes of loan forgiveness?
A21: True.
Q22: What is a covered mortgage obligation?
A22: Any indebtedness/liability of the borrower which is a mortgage on real or personal property and was incurred before February 15, 2020.
Q23: What is a covered rent obligation?
A23: A rent obligation under a leasing arrangement in force before February 15, 2020.
Q24: What is a covered utility payment?
A24: Payment for a service for electricity, gas, water, transportation, telephone, or internet access for which service began before February 15, 2020.
Q25: If the eligible recipient cuts back employees, does that impact the potential loan forgiveness?
A25: Yes. The potential loan forgiveness (See Q&A 17) is reduced to an amount equal to the product determined by multiplying the potential loan forgiveness by a fraction. The numerator of the fraction is the average number of full-time employees per month employed by the eligible recipient during the eight (8) week covered period, and the denominator (at the election of the eligible recipient) is either: (i) the average number of full-time employees per month employed by the eligible recipient from February 15, 2019 through June 30, 2019; or (ii) the average number of full-time employees per month employed by the eligible recipient from January 1, 2020 to February 29, 2020.
Q26: So, if the eligible recipient has cut back his full-time employees during the eight (8) week covered period by fifty percent (50%), only fifty percent of the potential loan is eligible for forgiveness?
A26: True.
Q27: If the eligible recipient re-hires the employees which had been cut back, can that eliminate the adverse impact on the potential loan forgiveness?
A27: Yes. There is no reduction in the potential loan forgiveness if during the period from February 15, 2020 through April 26, 2020 (thirty days after the enactment of the CARES ACT) there is a reduction in the number of full-time employees as compared to February 15, 2020, and not later than June 30, 2020 the reduction in the number of full-time employees has been eliminated.
Q28: If the eligible recipient cuts back salaries of employees, does that impact the potential loan forgiveness?
A28: It depends. There is no impact if the salary reduction is with respect to employees whose annualized rate of pay in 2019 was more than $100,000. If salaries of employees making less than $100,000 are cut back, there may be an impact. There is no impact if the salary reduction for lower paid employees does not exceed twenty-five percent (25%) of the employee’s salary. The amount of the potential loan forgiveness is cut back by the amount of any reduction in total salary of any such employee during the eight (8) week covered period that is in excess of twenty-five percent (25%) of the salary of the employee during the most recent full quarter during which the employee was employed before the covered period.
Q29: If the eligible recipient has eliminated the reduction in salary of the subject employees, can that eliminate the adverse impact on the potential loan forgiveness?
A29: Yes. There is no reduction in the potential loan forgiveness if not later than June 30, 2020, the eligible employer has eliminated the reduction in salary of such employees.
Q30: Are amounts forgiven considered cancelled indebtedness giving rise to income from discharge of indebtedness?
A30: Yes and No. Amounts forgiven are considered cancelled indebtedness, but the cancelled indebtedness is excluded from gross income.
TAKE AWAYS
1. It seems an eligible recipient would borrow the maximum covered loan (See Q&A 4) so long as the sum could be spent on allowable uses (See Q&A 8).
2. Even if part of the covered loan will not be forgiven, the interest rate (one percent), the deferment, and the term (two years) may compare favorably to commercial loans. This is especially true since the covered loan does not require guaranties or collateral.
3. The eligible recipient would want to spend as much of the covered loan as possible during the eight week covered period on items that are subject to forgiveness. A covered loan which is forgiven is “free money”.
4. A cut back in salaries for higher paid employees ($100,000 annualized) has no adverse impact on potential loan forgiveness.
5. A cut back in salaries of up to twenty-five percent (25%) on all employees has no adverse impact on potential loan forgiveness.
NOTE: Payroll Costs are payments of compensation with respect to employees that are: (a) salary, wage, or commission; (b) cash tips; (c) payment for vacation, parental, family, medical, or sick leave; (d) allowance for dismissal; (e) payment for provision of group health care benefits, including insurance premiums; (f) payment of any retirement benefit; and (g) payment of state or local tax on the compensation of employees.
The foregoing article is prepared by attorneys C. Gray Johnsey (Mr. Johnsey is a Board Certified Specialist in Estate Planning and Probate Law, as designated by the NC State Bar Board of Legal Specialization), James C. “Jim” Purnell V, and Sherwood C. “Chris” Henderson (Mr. Henderson is a Board Certified Specialist in Estate Planning and Probate Law, as designated by the NC State Bar Board of Legal Specialization) of White & Allen, P.A. in order to provide general information to interested parties who wish to learn more about these topics discussed. This article is not intended to give, and should not be relied upon for, legal advice in any particular circumstance or fact situation, and does not establish an attorney-client relationship. If you would like additional information or to discuss your specific situation, please contact White & Allen, P.A. by calling 252-527-8000.
