Pub. 7 2017 Issue 1

19 ISSUE 1. 2017 L OANS PARTIALLY GUARANTEED BY THE UNITED STATES SMALL BUSINESS ADMINISTRATION (THE “SBA”) ARE FAST BECOMING A KEY SOURCE OF FUNDING FOR SMALL BUSINESSES AND A SOURCE OF CREDIT SUPPORT FOR BANKS. The 7(a) Loan Program, in particular, promotes loans to start-up and existing small business borrowers who might not otherwise obtain financing through normal lending channels. It provides the bank a valuable credit support in the form of an SBA partial guaranty of repayment. It is great for borrowers who would otherwise not obtain credit on such reasonable terms. It is great for banks because, in addition to valuable credit support, the bank may sell the guaran - teed portion of the 7(a) loan on the secondary market. This allows the bank to realize immediate recovery of the principal lent, plus a premium. Unfortunately, banks repeatedly make two key mistakes when engaging in SBA lending. First, many banks mistakenly believe that SBA lending is the same as portfolio lending. It is not. Very particular laws, regulations, and standard operating procedures (the “SOPs”) govern SBA lending and must be followed meticulously to avoid mistakes that may eliminate the bank’s SBA guaranty. Banks should ensure that only qualified lending staff originate and service SBA-guaranteed loans. Second, banks mistakenly view the SBA as a lending partner—as if the SBA and the bank’s interests are aligned. They are not. Banks should instead view the SBA as an insurance company who is only profitable to the extent it increases revenue (guaranty fees paid) but reduces expenses (deny guarantees or request repair). Ultimately, banks pay an up-front fee for each SBA guaranty—but the SBA has until long after origination and default, with the benefit of 20/20 hindsight, to pick apart every decision the bank ever made before denying the guaranty or requesting a repair but retaining the guaranty fee paid. Banks must ensure that their staff and legal service providers under - stand and be vigilant to avoid the most common reasons for denial of an SBA guaranty. These include , but are not limited to: Lien and collateral issues such as failure to obtain required lien po - sition, perfect a security interest, or fully collateralize the loan when possible. Banks must make a concerted effort to ensure lien and security interests are properly documented and that all available col - lateral is obtained as necessary to ensure complete collateralization. The relevant SOP and the loan authorization likely have specific requirements for language to be used which must be incorporated in loan documentation. Unauthorized use of proceeds and failure to verify equity injection. The bank must confirm that the loan proceeds are properly disbursed and used. The bank must verify the equity injection. The relevant SOP has specific requirements for how these processes are to be performed. Liquidation deficiencies. Liquidation is an SOP minefield. Banks reg - ularly fail to conduct site visits, fail to safeguard or properly dispose of collateral, fail to properly apply recoveries, fail to submit liquidation or litigation plans, and take unauthorized or unapproved liquidation actions. Banks often mistakenly assume that their primary default counsel will liquidate in accordance with the SOP. They are wrong. Banks should confirm that their default counsel understand the require - ments of the SOP. If the default counsel does not know what the SOP is, the bank should run, not walk, to the nearest exit. At the end of the day, the SBA and the 7(a) program are great . . . un - til they are not. Much heartache can be avoided by banks who only utilize qualified SBA lenders and counsel to originate, service, and liquidate SBA-guaranteed loans according to the express provisions of the relevant SOPs. w 1 List of Top Reasons for Repair & Denial prepared by the SBA Office of Capital Access and may be found at https://www.sba.gov/offices/headquarters/oca/re - sources/5141, last visited March 9, 2017. About the Author Jeremy Goodman is focused on representing financial institutions—particularly on the servicing and liquidation of government guaranteed defaulted credits. Jere - my’s legal advice is informed by his practical banking experience, having worked in the consumer and small business division of Bank of America and the corporate trust division of Wells Fargo. Jeremy is a graduate and former executive student advisor of the Pacific Coast Banking School at the University of Washington—the Nation’s premier national graduate school of banking. This practical perspective is key to Jeremy’s ability to counsel and interact credibly with institutional clients on sophisticated banking matters. SBA LENDING IS GREAT . . . UNTIL IT ISN’T TRAINING STAFF AND NAVIGATING THE SOPS BY JEREMY M. GOODMAN