Can two separate provisions of the CARES Act truly provide a lifeline to small businesses?

Posted in on April 1, 2020

The CARES Act passed March 27, 2020 provides several different avenues of relief to individuals, small business and large businesses, airlines and healthcare industries, including COVID-19 small business loans and funding. Packed into this enormous piece of legislation are several provisions for short term loans for small businesses to be provided under the Small Business Administration program, one of which includes the Paycheck Protection Program (“PPP”). For a small business to qualify for a PPP loan, it must employ no more than 500 employees, and provide proof that it was in business as of February 15, 2020. If a small business qualifies, the terms and other provisions of the loan program are quite favorable to the borrower. They include:

Maximum loan amount of $10,000,000;
Fixed interest rate of 0.5%;
Repayment term of 2 years with potential forgiveness of some of the debt;
No fees or pre-payment penalties;
No guarantees as the loans will be non-recourse to owners, partners or shareholders;
No collateral is required;
Payments are deferred for at least 6 months; and
Loan proceeds can be used for payroll, taxes, health benefits, utilities, mortgage debt interest, rent, and interest on pre-existing loan obligations.

The PPP is certainly very encouraging considering that the above allowed uses are the overwhelming majority of the average small business’s day to day operational expenses. The question however, is whether this CARES Act funding truly is a lifeline as it has been touted, or will the delays in implementation and roll- out be too late for many small businesses? Overwhelmingly, March saw tens of thousands of small businesses shuttered with virtually no advance warning. Restaurants, pubs, hotels, hair salons, dental and chiropractic practices, concert and music halls, movie theatres, and countless other businesses have closed. Quite possibly, the large majority of these businesses did not have a stockpile of cash on hand or have the necessary funds to pay mortgages, rents, payroll, benefits or their utilities moving forward. As a consequence, it’s predicted that many of these businesses will succumb to this immediate financial pressure. Lenders, taxing authorities, landlords and other creditors will probably not sit idly by waiting for this pandemic to pass. They are in business too. Some are no doubt going to begin exercising their rights and remedies and calling loans, filing tax liens or evicting tenants. Not to mention the hardship that the employees are experiencing with a lack of compensation and threatening loss of their health benefits.

The second piece of the CARES Act which provides interesting potential relief for small businesses is the increase in debt limits for small business reorganizations. The Small Business Reorganization Act of 2019 (SBRA) became effective in February 2020, and it provides a more streamlined process for small businesses to reorganize through bankruptcy without the excessive and time consuming requirements of the traditional Chapter 11 reorganization. The small business provision, known as Subchapter V of Chapter 11 of the U.S. Bankruptcy Code, was enacted in August 2019 and became effective February 19, 2020. As enacted, the SBRA capped debt limits for eligibility at $2,725,625. Debtors with a debt load greater than this were not eligible. The CARES Act has temporarily increased this debt limit to $7,500,000, clearly expanding those businesses that can take advantage of the SBRA. Some of the streamlined provisions of the SBRA include a combined disclosure statement and plan, a relaxation of US Trustee fees, and more importantly, it allows for an early exit out of bankruptcy and the ability of the business owners to retain their equity interest without violating the enormous obstacle of the absolute priority rule that plagues many traditional business reorganizations.

Because the roll-out of the PPP may be delayed some while the SBA and Treasury adopt working regulations, many businesses may fail in the meantime, lose their lease, or fall into tax trouble before this happens. The SBA and Treasury have been given 30 days to adopt and implement the regulations of the various new loan programs offered under the CARES Act.

Because of this delay in implementation and the inevitable immediate insolvency of many small businesses, I submit that the answer for these nearly doomed businesses would be to take advantage of both provisions. Hypothetically, an eligible business could file a Chapter 11 under the SBRA that would impose the automatic stay provided in bankruptcy and prevent third party creditors from permanently shuttering them. Choosing this route would provide the business with 90 days to present a plan of reorganization. That plan, simply, would be a PPP loan.

Now, to be clear, there is no current express provision in the PPP that allows for a debtor in possession loan—the loan that ordinarily allows Chapter 11 debtors to exit bankruptcy. That provision would have to be incorporated into the regulations adopted by the SBA. Debtor in possession loans are often the vehicle used for businesses to complete Chapter 11 and are not traditionally provided by conventional or SBA lenders—they are often too risky. But in this time of emergency, coupled with the paramount goal of saving our small businesses and more importantly, their employees’ jobs, it makes perfect sense. Further, considering the relaxation of many traditional underwriting rules for business loans, the PPP is the model debtor in possession loan and could undoubtedly bridge that economic gap and save many businesses from inevitable and ultimate failure.

Contact the attorneys at Baker, Braverman & Barbadoro, P.C. for additional CARES Act law counsel or corporate and bankruptcy advice. – Gary Hogan, Esq.