A business that accepted a Paycheck Protection Program (PPP) loan may face liability if the Small Business Administration (SBA) determines that the business could not make the “necessity” certification. The same could be true if the SBA decides that when the business’ affiliates are counted, it was ineligible for the loan.
Even businesses that acted in good faith could find themselves the subject of a government investigation and/or enforcement action. Recently, insurers have begun offering insurance policies specifically designed to cover the risk of an SBA challenge to the business’s eligibility certifications.
The Necessity Certification
Recipients of PPP loans are required to make a number of certifications at the time of application. This includes certifying that the “current economic uncertainty makes this loan request necessary to support the ongoing operations of the Applicant,” commonly known as the “necessity” certification. In April, the SBA issued guidance stating that loan recipients should have considered their access to alternative sources of liquidity before making the necessity certification.
There are severe consequences for submitting false or misleading certifications to the U.S. government, including fines and treble (i.e., triple) damages. The risk of suffering these consequences is increased for businesses that, together with their affiliates, have received loans in excess of $2 million. The SBA has created a safe harbor with respect to the necessity certification for recipients of loans of less than $2 million, but has advised that all PPP loans of $2 million or more are “subject to review by SBA for compliance with program requirements.”
Affiliation Rules
To qualify for a PPP loan, the applicant must have 500 or fewer employees, including any and all affiliates. Certain businesses, including portfolio companies of private equity funds, may find that the SBA will interpret their affiliation rules more conservatively than expected and deem those businesses to have been ineligible for PPP loans.
PPP Loan Insurance
Certain insurers are offering a policy to cover the risk that a business was ineligible to receive a PPP loan when it was granted. The policy covers the risk that the necessity certification was inaccurate when made, as well as the risk of inaccuracy of additional certifications made at the time of the application.
The policy will cover loss arising out of the lack of eligibility, including the amount of the loan (if required to be repaid), defense costs, fines, penalties and treble damages. The amount of coverage purchased can be increased if the applicant wishes to insure against treble damages. Please note that certain insurance policies may contain exclusions for reputational damages relating to the improper receipt of a PPP loan.
Certain insurers do not cover the government’s denial of loan forgiveness unless the denial is due to the company’s lack of eligibility at the time it applied for the loan. For example, if the company did not use the PPP loan proceeds according to the SBA’s requirements, which was the basis for the denial of forgiveness, then the policy would not provide coverage.
To obtain an insurance policy, the applicant should be prepared to share a substantial amount of information with the insurer, including information about relevant affiliates, analysis of how the affiliation rules apply to the applicant, payroll calculations made in connection with the loan application, analysis conducted to determine that the business could make the necessity certification (including an analysis of alternative sources of liquidity), data surrounding the impact of COVID-19 on the business, and all materials submitted to the SBA in connection with the application for the PPP loan.
Typically, insurers will provide coverage only if the applicant has a colorable and defensible basis for its position that it was eligible for the PPP loan at the time it made its eligibility certifications. Pricing for the coverage may evolve as the product matures and additional insurers enter the market, but currently, the premium is approximately 4% to 5% of the policy limit.
Frank DeLucia
HUB International Northeast
frank.delucia@hubinternational.com
212-338-2395
