Nonbank Lenders & the Paycheck Protection Program
Just over a week ago, the Treasury Secretary promised that “any FDIC bank, any credit union, any fintech lender will be authorized to make [Paycheck Protection Program] loans.” Treasury and the Small Business Administration have made good on two-thirds of that promise: All banks and credit unions can act as lenders under the Program. But FinTech companies, and every other state-licensed lender, is on the outside looking in. As my friend Todd Baker has written, these lenders serve a large fraction of the small businesses this Program is designed to help.
They will reportedly be granted an opportunity this week, with the release of a new application form. So now the question is: Should they take yes for an answer?
Below I briefly discuss considerations for FinTechs and other nonbank lenders in deciding whether to become Paycheck Protection Program lenders or to work with an origination partner, as well as important steps they should take to prepare to assist their customers under either scenario.
Funding. As I pointed out Saturday, funding is quickly becoming the most significant obstacle to nonbank origination of Program loans. Even where nonbank lenders choose to partner with banks to originate the loans, funding is becoming a challenge. The largest banks have indicated they will prioritize existing customers, and the “partner” banks who are able to scale up quickly to service nonbank lending partners will quickly find themselves constrained by their available funding. Every nonbank lender and partner bank I’ve spoken to cites funding as their primary concern.
Larger banks could assist borrowers who are not their primary customers indirectly by agreeing to purchase the loans from smaller banks, or by quickly securitizing the loans. But the returns on these loans--interest is capped at 1%--suggest that ultimately the Fed will need to provide liquidity, either by lending to nonbank lenders at less than 1% to fund Program loans or purchasing Program loans from nonbank lenders nearly immediately upon approval of the SBA Guaranty. TALF is an option, but loans would need to be packaged into securities first, and the large securitization sponsors are still figuring out how that might work.
If the funding problems can be resolved, nonbanks will be able to service their customers directly or indirectly. The following are some steps they can take to minimize their risk in doing so.
Documentation. Lenders are already receiving applications from their customers. In advance of submitting an application to SBA or to a partner bank, lenders should require applicants to submit documentation:
Verifying that the Borrower had employees for whom it payed payroll taxes on or about Feb. 15, 2020
Supporting the calculation of the requested loan amount (in most cases this is likely to be payroll information sufficient to establish average monthly payroll for 2019).
This information is required.
In addition, lenders should strongly consider requesting upfront information demonstrating the likely forgivable amount. The surest risk mitigant for these loans will be successful application for loan forgiveness, which could result in most or all of the loan being repaid within about nine weeks following origination. Borrowers can receive forgiveness on proceeds used to cover payroll costs for the 8 weeks immediately following loan disbursement, plus 25% of that amount for mortgage interest/rent and utility expenses. This amount is reduced for headcount or payroll reductions. Accordingly, you should collect information on FTEs for January and February 2020, current FTEs, and current payroll (excluding employee compensation above $100,000 for any individual employee).
BSA Requirements. It is likely that all Program lenders will be required to conduct appropriate customer due diligence to establish a reasonable basis to know the identity of the borrower. For your longstanding customers, this should be relatively straightforward. Lenders working with origination partners may be required to indemnify their partner for BSA risk, so this step is prudent however you intend to proceed.
Industry eligibility check. There is a long list of ineligible businesses under standing SBA policy. This list (with the exception of non-profits) is incorporated into the Program under the Program Rules, and seems to have caught several potential lenders and borrowers by surprise. See the list beginning on page 104 of SBA SOP 10 50 5(K). Borrowers are required to attest to their eligibility, but not all of the categories are straightforward, so double-checking this requirement could avoid trouble down the road.
Servicing Capacity Planning. Nonbanks who intend to service loans to their customers, should consider their current capacity to service these loans. In particular, servicing needs are likely to spike for the period from 6-9 weeks following approval of the loan application. This is the period when borrowers should be preparing for and applying to receive loan forgiveness. Applications for forgiveness can be submitted seven weeks following disbursement, and SBA says it will pay forgiveness claims within 15 days of receipt.
In the longer run, servicing complexity will arise from the 6-month forbearance period and the likely need to process loan guarantees if/when borrowers default. So far, there is no firm guidance on how to treat payments missed during the forbearance period, but the Act and Program Rules impose a maximum 2-year loan term so extending the maturity does not appear to be an option.
If nonbanks are limited to the “agent” fees under the Program, their ability to increase servicing capacity may be impaired .
Oversight. These steps should be taken with a view toward the inevitable audits and investigations that will examine how loans and loan forgiveness were approved under this Program. The CARES Act creates a Pandemic Response Accountability Committee (PRAC) to “promote transparency and support oversight of funds provided in [the CARES] Act.” The PRAC has authority to conduct its own investigations, as well as support investigations by agency Investigators General, and was appropriated $80 million to carry out its duties. The President has already named a Chair for the PRAC. In addition, Congress appropriated $25 million for the SBA’s Inspector General as part of the CARES Act.