SBA rules changes mean more opportunities, TBED orgs should take second look at SBA lending programs

The U.S. Small Business Administration finalized new rules that provide more opportunities to leverage the agency’s flagship lending programs to support economic development strategies. The most significant changes in the rules would allow more non-depository lenders (e.g., loan funds) to participate in SBA’s lending programs, make employee ownership transitions an eligible use of loan proceeds, and remove many of the existing underwriting criteria. These changes mean tech-based economic development organizations should consider becoming approved SBA lenders.

SBA’s “Affiliation and Lending Criteria for the SBA Business Loan Programs” rule affects the lending criteria and use of proceeds for many SBA lending programs and goes into effect May 11. Both the 7(a) loan program and 504 loan program provide participating lenders with guarantees that encourage the provision of loans to small businesses. A 7(a) loan can be for up to $5 million with proceeds used for fixed assets, working capital or business acquisition and startup costs, while the 504 program is focused on fixed assets.

Notable changes in this rule include the following:

• Small businesses will be able to use 7(a) loans to help finance the transition of a company’s ownership — either fully or partially — to an employee stock ownership plan (ESOP) or Qualified Employee Trust. Employee ownership has the potential to broaden economic opportunity, and several states offer programs to support these transitions. The rule does not change the restrictions on SBA’s 504 loan program, which can only fund changes in ownership alongside the costs of long-term fixed assets.
• Lenders for both the 7(a) and 504 loan programs will be allowed to rely on just three criteria (credit score/history, earnings or cashflow, and equity or collateral) to make SBA loans, instead of the current nine criteria (also including character, experience of management, strength of businesses, and effect of affiliates). Because many of the de-emphasized criteria are more qualitative in nature, the impact of these changes could be to support more equitable lending practices. The change will also make it easier for remote or automated lenders that do not have actual knowledge of the borrower to follow SBA’s lending requirements.
• Affiliation principles, which may currently limit the ability of venture capital-backed companies to participate in SBA loan programs, are overhauled by the rule. Under the new regulations, the affiliations of partial owners are considered only if no one controls more than 50% of the applicant business, other companies owned by the applicant’s owner (50% or, if no one controls this amount, any owner with more than 20% of the business) will only be considered affiliated if both companies have the same 3-digit NAICS code. SBA will consider the ownership implications of stock options and convertible securities as if the rights have been exercised.

SBA’s “Small Business Lending Company (SBLC) Moratorium Rescission and Removal of the Requirement for a Loan Authorization” rule creates an new type of license for non-depository lenders to participate in the 7(a) program and goes into effect May 12. Under current regulations, such lenders can receive temporary approval to make a version of SBA 7(a) loans under the Community Advantage (CA) pilot program. The CA program facilitates lending to small businesses operating in underserved markets by allowing lenders that maintain at least 60% of their SBA loan portfolio in underserved markets to provide 7(a) guarantees on small business loans up to $350,000. The rule change would have the following effects:

• Leverage SBA’s little-used SBLC license program to allow “mission-based” lenders — including all current Community Advantage participants — to receive permanent approval as Community Advantage SBLC lenders.
• SBA would also begin making greater use of its SBLC license to approve more non-depository entities as full 7(a) lenders, without a requirement to be a “mission-based” lender.
• SBLC licensees are also able to operate the SBA microloan program, which can be used to make short-term loans up to $50,000. Approved microlenders also receive funding to provide technical assistance to borrowers.

The full procedures for Community Advantage SBLC applications are not yet available. In a Senate small business committee hearing, SBA stated an intention to release the procedures implementing these rules to be released around May 3. However, the rule did indicate that initial application costs would be at least $10,000.