December 9, 2020

SBA Issues Guidance Regarding Size Eligibility and Affiliation Under CARES Act

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  • The SBA clarifies that the CARES Act clearly waives affiliation for certain “sector 72 businesses” (lodging, accommodations, and food service business) which would otherwise fail to qualify under the affiliation rules typically applied in SBA loan programs.
  • The CARES Act applies the new 500-employee size standard to all PPP applicants, unless: (1) the SBA has provided a higher employee-based industry-size standard, or (2) the applicant qualifies under the alternative size standard.
  • The SBA’s existing affiliation exceptions under 13 CFR §121.103(b) still apply to small business concerns (e.g. those owned and controlled by Tribes, Alaska Native Corporations, Community Development Corporations, etc.).
  • The SBA’s existing affiliation rules apply for business concerns owned or controlled by investment firms.
  • The same affiliation waiver is provided to an applicant whether it operates as a franchise with an SBA assigned franchise identifier or if it is the recipient of financial assistance from an SBIC.
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SBA Issues Guidance Regarding Size Eligibility and Affiliation Under CARES Act

On April 4, 2020, the U.S. Small Business Administration’s (SBA) Office of General Counsel released a response¹ to inquiries received pertaining to the affiliation rules applicable to the recently enacted Coronavirus Aid, Relief, and Economic Security (CARES) Act.² The release provides guidance: (1) regarding how the CARES Act’s affiliation exceptions affect a business’s Paycheck Protection Program (PPP) eligibility, and (2) answering various questions remaining about the implementation of the CARES Act.

Affiliation Exceptions

First the SBA explained that an applicant is eligible as a small business for SBA assistance (including financial assistance) if it qualifies as a “small business concern” under 13 CFR §121. The SBA clarified in its response that a “business concern” is defined as:

an agricultural cooperative or for-profit business entity with a place of business located in the United States, and which operates primarily within the United States or which makes significant contribution to the U.S. economy through payment of taxes or us of American products, materials or labor.³

Also, according to the SBA, whether a business concern is “small” is typically determined by comparing the business’s size against an industry-specific size standard. The criteria used for measuring this are revenue and number of employees—and, in the case of the business concern’s affiliates,⁴ the SBA adds the employees and revenues of each affiliate.

Furthermore, citing 13 CFR §121.301(f), the SBA noted that the specific affiliation rules for SBA financial assistance programs provides that concerns and entities are considered affiliates when “one controls or has the power to control the other, or a third party or parties controls or has the power to control both.”⁵

Significantly, the SBA stated that, in the context of the PPP, the CARES Act alters how the SBA applies the affiliation rules. Specifically, the language in the CARES Act “clearly waives affiliation for businesses” described in the CARES Act as, such as certain categories of lodging, accommodations, and food service business (“section 72 businesses”) which would otherwise fail to qualify under the affiliations rules typically applied in SBA loan programs.⁶

The SBA emphasized that simply because the language in the CARES Act refers to 13 CFR 121.103, rather than 13 CFR §121.301(f) (i.e., the regulation governing “affiliation” in the SBA’s loan programs), does not mean that regulation should apply to subject those businesses to the affiliation rules. The SBA was clear that interpreting the CARES Act such that sector 72 business were unable to waive affiliation would be “contrary to Congressional intent” and “render the CARES Act’s affiliation waiver meaningless.”⁷ Moreover, the SBA supported their position more technically by providing that:

[T]he CARES Act waives affiliation under §121.301(f) through the statute’s general reference to SBA’s affiliation rules.  The CARES Act text waives affiliation “under section 121.103 of title 13, Code of Federal Regulations, or any successor regulation.”  The financial assistance rule at 13 CFR § 121.301(f) is a successor regulation to the affiliation rule at §121.103, for the purposes of applicants to SBA’s loan programs.  SBA promulgated the rule at §121J0l(f) in 2016, more than 20 years after SBA issued§ 121.103. See 81 FR 41423 (Jan. 27, 2016); 61 FR 3286 (Jan. 31, 1996). In finalizing the financial assistance rule, SBA stated that the former principles of affiliation in § 121.103(a)(8) “will be moved to a new §121.301(f).”  Thus, § 121J0l(f) directly succeeds§ 121.103 for SBA loan program affiliation, and, for sector 72 firms and the other specified categories, the CARES Act text expressly waives affiliation under the financial assistance affiliation rule at § 121.103(f).⁸

SBA Guidance Regarding CARES Act Implementation

Next, the SBA provided answers to a number of inquiries regarding the implementation of the CARES Act.

A. What Size Standards Should be Used?

The SBA explained that two size standards are used in determining the size of loan applicants—the industry-specific list and the alternative size standard. Per the alternative size standard, a business is eligible for an SBA loan if: (1) its maximum tangible net worth does not exceed $15 million, and (2) the average net income after Federal income taxes for the 2 full fiscal years preceding the date of application does not exceed $5 million. Additionally, explained the SBA, the CARES Act supplements those size standards with the 500-employee size standard applicable to all applicants.

In light of the new 500-employee size standard, the SBA noted that:

  • Lenders may still use either the industry-specific standard or the alternative size standard. Importantly, small businesses in industries with size standards exceeding 500 employees, including several manufacturing industries, can use the higher SBA industry-specific standard.
  • PPP applicants can use the new 500-employee standard whether or not the applicant qualifies as a small business under the industry-specific standard or the alternative size standard. And for a sector 72 business, it qualifies if it meets the 500-employee standard per physical location.
  • Although, size standards are typically only applied to for-profit businesses, the CARES Act opens PPP to nonprofits and veterans’ groups. Applicants will be eligible for PPP if they meet the 500-employee standard, or any existing SBA industry standard.
B. When is Size Determined for PPP Eligibility?

The SBA pointed out that this question is not directly answered in the CARES Act. The SBA noted that language in the CARES Act indicates that affiliation is waived when the loan is disbursed; however, the SBA strongly announced that it did not believe that such timing for determination does not make sense. Thus, the SBA concluded that its general rule applies such that the average number of individuals who are employed “in the preceding completed 12 calendar months as of the date of application apply for Paycheck Protection Program eligibility.”⁹

C. Does the SBA’s Ordinary Entity-Owned Affiliation Exceptions Still Apply?

The SBA clarified that its ordinary affiliation exceptions under 13 CFR §121.103(b) still apply.  For instance, the SBA has exceptions applicable to business concerns such as those owned and controlled by Tribes and Native Corporations. Under ordinary SBA rules, such concerns are not considered affiliates of the entities.  The SBA explained that while the CARES Act identifies Tribal business concerns having fewer than 500 employees as being PPP eligible, the SBA believes that “such specific identification is superfluous” and such business concerns would be eligible as “small business concerns.”¹ Thus, the SBA concluded that if such business concerns employ fewer than 500 individuals, while applying the pre-CARES Act affiliation exceptions, then they are PPP eligible.¹⁰

D. How Does the Affiliation Rule for Financial Assistance Apply to Investment Firms?

According to the SBA, the SBA’s existing affiliation rule for financial assistance applies to applicants unless they are listed in 13 CFR §121.103(b) or in the CARES Act waiver. This includes applicants such as business concerns owned or controlled by investment firms.

The existing SBA affiliation rule counts the applicant’s employees and all employees of the applicant’s affiliates. However, the SBA notes that the CARES Act rescinded a recent SBA amendment such that the common-investment affiliation rule and the economic-dependence affiliation rule no longer apply to financial assistance programs, including PPP. Thus, the SBA will no longer use either of those rules to affiliate multiple owners of an applicant or “an applicant with a firm from which it obtains 85 percent or more of its revenues.”¹¹

However, the SBA affiliation rules that remain applicable include affiliation via ownership and common management. So, the SBA will find affiliation between an applicant and an owner that owns or has control of more than 50 percent of the concern’s voting equity. And the SBA fill find affiliation among applicants and those in control of the business concern’s management (CEO, President, etc.) also controls the management of one or more other business concerns.

E. Is Affiliation Waived in the Context of SBIC Investment?

Finally, the SBA explained that the affiliation rules in 13 CFR §§121.103 and 121.301(f) are waived for entities applying for a PPP loan and which also receive other financial assistance from a Small Business Investment Company (SBIC). The SBA reiterated that the CARES Act waives affiliation for “any business concern that receives financial assistance from a company licensed under section 301 of the Small Business Investment Act  of 1958 (15 U.S.C. 681).”¹² Therefore, even in the context of the affiliation rules applicable to business concerns owned by investment firms, all affiliation rules are waived if the SBIC has provided financial assistance to a business concern (in any amount) and the business concern is owned or controlled by an investment firm or firms.

Conclusion

This latest guidance from the SBA is helpful in clarifying that the new CARES Act’s waives affiliation for certain “sector 72 businesses” (lodging, accommodations, and food service business), and it answers various lingering questions regarding the overall implementation of the CARES Act. This guidance further emphasizes how the CARES Act, enacted in response to the COVID-19 pandemic, has expanded eligibility for much needed relief via PPP loans—but don’t forget, the funding for these loans won’t last long!

Footnotes

  1. You can read the SBA Response Regarding Eligibility and Affiliation Under the CARES Act (SBA Response) at: https://askfrost.com/wp-content/uploads/2020/04/Document-2.pdf
  2. Pub. L. 116-136.
  3. SBA Response at 1-2, citing 13 CFR §121.105.
  4. “Affiliation” and “affiliates” are defined in 13 CFR §121.103.
  5. SBA Response at 2.
  6. Id. at 3.
  7. Id.  
  8. Id
  9. Id. at 5.
  10. Id.
  11. Id. at 6.
  12. Id.at 7, citing 15 USC §636(a)(36)(D)(iv)(III), as added by Pub. L. 116-136, §1102(a).
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