By Joe Bailey, Teri Lindquist and Andy Smetana
On May 5, 2020, the Small Business Administration (SBA) issued a new FAQ announcing that it will be extending the deadline for borrowers under the Paycheck Protection Program (PPP) to repay their loans and be deemed to have made the “necessity” certification in good faith from May 7 to May 14. The extension is to be implemented through a revision to the fourth Interim Final Rule that had previously set a May 7 deadline.
PPP borrowers are required to certify in good faith that ‘‘[c]urrent economic uncertainty makes this loan request necessary to support the ongoing operations of the Applicant.” In late April, the SBA issued guidance in the form of FAQs that expanded and sought to clarify the meaning of this “necessity” certification. This guidance called into question the “necessity” certifications that were made by borrowers before that time when submitting PPP loan applications. Specifically, the guidance provided that certain public companies and, under subsequent guidance, private companies, who had access to liquidity to fund ongoing operations, may have difficulty making the “necessity” certification in good faith. A subsequent FAQ issued by the SBA provided that companies that received loans of $2 million or more would be subject to scrutiny with respect to this “necessity” certification. The safe harbor created in the fourth Interim Final Rule on April 24, 2020 allowed borrowers who had made the certification before April 24, 2020 to return their PPP loan proceeds by May 7, 2020 to be deemed to have made the PPP loan certification of “necessity” in good faith.
In addition to announcing plans to extend this deadline to May 14, the new FAQ #43 issued on May 5, 2020 noted that the SBA intends to issue additional guidance regarding how it will review the “necessity” certification by May 14. For PPP borrowers considering this issue, the extension of time and promise of additional guidance may be welcome, but they create new challenges for businesses trying to navigate in the current uncertain economic climate. Additional information on the importance of this development is provided below.
WHAT DOES THE “NECESSITY” CERTIFICATION MEAN?
Through prior FAQs and the SBA’s fourth Interim Final Rule, the SBA has sought to provide clarification regarding the “necessity” certification. Specifically, the guidance highlighted the requirement that the certification be made in good faith and that borrowers may be scrutinized and subject to liability for making this certification when the underlying facts of their business do not support the certification.
When PPP loans first became available in early April, many borrowers may have focused on the language in the certification referring to “[c]urrent economic uncertainty” when applying for their loan. Others may have focused on language in the CARES Act that authorized the PPP loans that refers to “impacted borrowers” and presumes that all businesses in operation on February 15, 2020 are impacted by COVID-19. Nevertheless, the certification required for PPP loans has consistently referred to the loan being “necessary to support the ongoing operations of the Applicant.”
The SBA guidance issued in late April clarified that economic uncertainty is not the sole focus of the “necessity” certification. That guidance highlighted that the CARES Act suspends the ordinary requirement for SBA loans that borrowers must be unable to obtain credit elsewhere, but borrowers still must certify in good faith that their PPP loan request is necessary. The SBA has provided that, in considering whether the loan is necessary, borrowers should take into account their current business activity and their ability to access other sources of liquidity sufficient to support their ongoing operations in a manner that is not significantly detrimental to the business. However, this guidance has not clarified what kind of business activity would justify a loan, whether the certification will be measured against only short-term needs of the business or longer-term needs, what level of liquidity would be considered “sufficient” to call a “necessity” certification into question, or what financing terms would be considered “significantly detrimental to the business.”
Guidance provided in the FAQs also seems to target public companies that obtained PPP loans, providing that it is unlikely that a public company with substantial market value and access to capital markets will be able to make the required certification in good faith. Other guidance indicates that a similar standard will be used for businesses owned by private companies with adequate sources of liquidity to support the business’s ongoing operations, which could be read to require consideration of business owners’ access to liquidity and not merely the business’s access to liquidity.
The fourth Interim Final Rule’s safe harbor allows companies to return their loan proceeds to be deemed to have made the “necessity” certification in good faith. This has been read to suggest that the SBA intends to apply their guidance on “necessity” on a retroactive basis, notwithstanding an SBA FAQ that provides, “Borrowers and lenders may rely on the laws, rules, and guidance available at the time of the relevant application.” The SBA has also announced that it will review all loans in excess of $2 million, in addition to other loans as appropriate. This announcement was made contemporaneously with public statements suggesting that borrowers that received more than $2 million in PPP loan proceeds would be subject to an audit or investigation as to their “necessity” certification.
These developments have caused many PPP borrowers to reassess their eligibility for a PPP loan, taking into account the factors suggested by the SBA and the potential implications of audits or investigations. This includes consideration of reputational risk and other issues that could arise from even an appearance of impropriety, even if the PPP loan is fundamentally justified. All of this has led to some borrowers returning PPP loans. For some, this has forced decisions of whether to keep the PPP loan proceeds to pay employees or return the PPP loan proceeds and implement cost-cutting measures such as layoffs, furloughs, and wage and salary reductions. For business managers, this puts them in the unenviable position of having to choose between employees and the legal and reputational risks created by a lack of clarity in the “necessity” certification.
In any case, a company that received a PPP loan should be prepared to demonstrate the basis for its certification to the SBA. While some potential risk factors to be considered can be derived from the SBA’s existing guidance, the SBA’s suggestion that they will be providing further guidance on how they will review the “necessity” certification offers the promise of greater certainty for businesses that are closely monitoring this issue.
For additional discussion on this topic, see our prior blog post regarding the “necessity” certification and this article written by some of our colleagues in our white collar litigation group.
WHAT SHOULD BUSINESSES DO?
For businesses that have already concluded that they clearly do not “need” the PPP loan, the option of returning the loan proceeds and availing themselves of the safe harbor for the “necessity” certification remains open. A conservative approach would be return the loan proceeds by May 7 to be certain to fall within the safe harbor.
As of the issuance of this blog post, the SBA has not yet released a modification to its fourth Interim Final Rule to implement the extension of the May 7 deadline. Accordingly, the extension is not yet technically in effect. Assuming that the modification to the fourth Interim Final Rule occurs as promised by the SBA, then businesses that are still reviewing their “necessity” certification and weighing their options should consider waiting before making a final decision. It is possible that the SBA will issue additional guidance before May 14 that could impact a business’s analysis of the “necessity” certification and potentially change the outcome of that decision.
Unfortunately, for many businesses that have received PPP loans, delaying on this decision could mean delaying using the loan proceeds to pay employees, or could require making business decisions with immediate impact to prudently manage their businesses. Businesses should consider all relevant factors, and attorneys at Perkins Coie have assisted dozens of companies in this process. Please contact your Perkins Coie attorney if we can be of any assistance as you work to decide how to proceed with respect to a PPP loan.
 See FAQ #43. All referenced FAQs are available at https://home.treasury.gov/system/files/136/Paycheck-Protection-Program-Frequently-Asked-Questions.pdf.
 See FAQs #31 and #37.
 See FAQ #39.
 See FAQ #17.