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SBA Issues Guidance on PPP and Changes of Ownership

October 07, 2020

Looking to buy or sell a business with a PPP Loan? You’ll want to read up on a recent notice issued by the Small Business Association. Here, we dive into the notice and answer some frequently asked questions.

One of the major questions in the mergers and acquisitions (M&A) world over the past few months has been how to handle sales/acquisitions where the target entity being acquired has an outstanding Paycheck Protection Program (PPP) loan. The SBA has recently issued SBA Procedural Notice 5000-20057 Paycheck Protection Program Loans and Changes of Ownership (the Notice). In this blog we will highlight some of the important aspects of the Notice and potential questions that will need to be resolved during negotiations that the Notice does not address. Click here for a full copy of the Notice.

Two Key Questions

There are two key questions that have to be answered when evaluating the effects of a PPP loan on a sales/acquisition transaction. The first is, “Has as a change of ownership occurred?” The notice defines a change of ownership to have occurred when –

1) at least 20 percent of the common stock or other ownership interest of a PPP borrower (including a publicly traded entity) is sold or otherwise transferred, whether in one or more transactions, including to an affiliate or an existing owner of the entity,

2) the PPP borrower sells or otherwise transfers at least 50 percent of its assets (measured by fair market value), whether in one or more transactions, or

3) a PPP borrower is merged with or into another entity.

The second major questions is, “Has the PPP note been satisfied in full?” A PPP note is considered fully satisfied if a PPP borrower has –

  1. Repaid the PPP Note in full; or
  2. Completed the loan forgiveness process in accordance with the PPP requirements and
    -SBA has remitted funds to the PPP Lender in full satisfaction of the PPP Note; or
    -The PPP borrower has repaid any remaining balance on the PPP loan.

Once the two key questions above have been answered, the buyer and seller can begin determining what steps to take next to complete the purchase/sale of the target entity.

PPP Note Considered Fully Satisfied Prior to Closing

If the PPP Note is considered fully satisfied in accordance with the above, then there are no restrictions on a change of ownership. The change of ownership transaction can occur without SBA or PPP lender approval.

PPP Note NOT Considered Fully Satisfied Prior to Closing

However if the PPP Note is not fully satisfied prior to the change in ownership, then the PPP borrower will have to either get PPP Lender or SBA approval prior to closing depending on the situation. The PPP lender is the bank that originated the PPP loan with the PPP borrower. In certain scenarios the PPP Lender can approve the change of ownership without SBA approval. For many transactions, this would be the preferred scenario as the SBA has 60 days to make a determination for approval. In many cases a PPP Lender will be able to render approval in less time.

We have outlined below some common scenarios and outline approval and other conditions required prior to closing.

  1. Sale of LESS than 50% of the target entity’s common stock or other ownership interest. In this scenario, only PPP Lender approval is required prior to closing.
  2. Sale of MORE than 50% of the target entity’s common stock, other ownership interest. In this scenario, only PPP Lender approval is necessary if the PPP borrower completes a forgiveness application reflecting its use of all of the PPP loan proceeds and submits it, together with any required supporting documentation, to the PPP Lender, and an interest-bearing escrow account controlled by the PPP Lender is established with funds equal to the outstanding balance of the PPP loan. After the forgiveness process (including any appeal of SBA’s decision) is completed, the escrow funds must be disbursed first to repay any remaining PPP loan balance plus interest.
    Important – In this scenario an escrow account has to be established in order for the PPP Lender to be able to approve the sale. If an escrow account cannot be established, then the change of ownership must be approved by the SBA in accordance with the procedures described in the Notice.
  3. Structured as an Asset Sale – If the PPP borrower sells more than 50% of its assets (measured at fair market value), then the same approvals and conditions as described in Scenario #2 would apply.

Post Transaction

Buyers need to be mindful that in the case of any change of ownership, whether or not it required SBA approval, the PPP borrower (and, in the event of a merger of the PPP borrower into another entity, the successor to the PPP borrower) will remain subject to all obligations under the PPP loan. In addition, if the new owner(s) use PPP funds for unauthorized purposes, SBA will have recourse against the owner(s) for the unauthorized use.

Also, the Notice outlines that if any of the new owners or successor entity (as a result of a merger) from the transaction had a separate PPP loan prior to the transactions, they are responsible for segregating and delineating PPP funds and expenses and providing documentation to demonstrate compliance with PPP requirements by each PPP borrower and to both PPP loans.

Questions Remaining

Although the Notice provides important clarifications for M&A transactions, some questions remain such as -

  • In the case where a PPP loan has been fully satisfied prior to the change of ownership, who is liable if the initial forgiveness decision by the SBA is overturned at a later date under SBA audit? Remember, the SBA has six years from the date forgiveness is granted to audit the loan forgiveness application. Buyers have to factor this into their risk analysis when determining the potential purchase price and make sure that any purchase and sale agreement explicitly addresses potential future SBA audit adjustments.
  • Potential tax effect of PPP related expenses. The IRS to this point has ruled that expenses paid for using PPP funds are non-deductible for income tax purposes. Members of Congress have stated that these expenses were always intended to be deductible for income tax purposes and would look to address in future Acts, however to date, no action on this has been taken. The possibility of these expenses becoming tax deductible prior to/or after the sale and their potential effect on the purchase price and purchase price adjustments need to be considered.

The questions noted above are important considerations for buyers to consider and negotiate with the seller.

Navigating through all of the information and programs available to impacted businesses may be overwhelming. KLR advisors are available to assist you navigate the best path forward during this unprecedented crisis. With a completely remote workforce our advisors are always available.

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