3226 Federal Register / Vol. 61, No. 21 / Wednesday, January 31, 1996 / Rules and Regulations

(5) Reduce the gain computed in

paragraph (d)(4) of this section by your

estimate of related future income tax

expense. Subject to any adjustment

required by paragraph (d)(6)of this

section, the result is your Adjusted

Unrealized Gain for use in paragraph

(c)(2) of this section.

(6) If any securities that are the source

of either Class 1 or Class 2 Appreciation

are pledged or encumbered in any way,

you must reduce the Adjusted

Unrealized Gain computed in paragraph

(d)(5) of this section by the amount of

the related borrowing or other

obligation, up to the amount of the

Unrealized Appreciation on the

securities.

§ 107.1850 Exceptions to Capital

Impairment provisions for Licensees with

outstanding Participating Securities.

The provisions in this § 107.1850

apply only if at least two-thirds of your

outstanding Leverage consists of

Participating Securities, and at least

two-thirds of your Loans and

Investments (at cost) consist of Equity

Capital Investments.

(a) Forbearance period for

Participating Securities issuers. During

the first forty-eight (48) months

following your first issuance of

Participating Securities, you will not

have a condition of Capital Impairment

if your Capital Impairment Percentage is

below 85 percent.

(b) Extended forbearance period for

early stage investors. If at least twothirds of your Loans and Investments (at

cost) are in Start-Up Financings, the

forbearance period in paragraph (a) of

this section is extended to 60 months.

(c) Forbearance based on actions by

Licensee. The provisions of this

paragraph (c) apply only during the fifth

and sixth years following your first

issuance of Participating Securities. If

your Capital Impairment Percentage, as

determined either by you or by SBA,

exceeds the maximum permitted under

§ 107.1830(c) but is below 85 percent,

you will not have a condition of Capital

Impairment if you do either of the

following within thirty (30) days of such

determination:

(1) Increase your Regulatory Capital

by a cash contribution placed in an

escrow account or other account

satisfactory to SBA, for its benefit. The

contribution must equal, during the fifth

year, 15 percent of your outstanding

Leverage or, during the sixth year, 30

percent.

(2) Provide a guarantee, satisfactory to

SBA and for its benefit, for the amount

of the cash contribution required in

paragraph (c)(1) of this section. SBA

will credit any escrowed funds or

guarantee received in the fifth year

toward the requirements for the sixth

year.

(d) Conditions for forbearance under

paragraph (c) of this section. (1) You

cannot count any funds placed in an

escrow or other account under

paragraph (c) of this section as

Leverageable Capital.

(2) Any fee and/or any claim to

repayment by the party making the

capital contribution or by the guarantor

must be deferred and subordinate to all

outstanding Leverage plus any unpaid

Earned Prioritized Payments and earned

Adjustments.

(3) If there is an acceleration or

mandatory redemption under

§ 107.1810 or § 107.1820, any funds in

the escrow account and/or any

guarantee received under paragraph (c)

of this section will be applied toward

repaying any amounts due SBA.

(4) If you reduce your Capital

Impairment Percentage to zero, SBA

will release and return any escrowed

funds and/or any guarantee received

under paragraph (c) of this section.

Subpart K—Ending Operations as a

Licensee

§ 107.1900 Surrender of license.

You may not surrender your license

without SBA’s prior written approval.

Your request for approval must be

accompanied by an offer of immediate

repayment of all of your outstanding

Leverage (including any prepayment

penalties thereon), or by a plan

satisfactory to SBA for the orderly

liquidation of the Licensee.

Subpart L—Miscellaneous

§ 107.1910 Non-waiver of SBA’s rights or

terms of Leverage security.

SBA’s failure to exercise or delay in

exercising any right or remedy under

the Act or the regulations in this part

does not constitute a waiver of such

right or remedy. SBA’s failure to require

you to perform any term or provision of

your Leverage does not affect SBA’s

right to enforce such term or provision.

Similarly, SBA’s waiver of, or failure to

enforce, any term or provision of your

Leverage or of any event or condition set

forth in §§ 107.1810 or 107.1820 does

not constitute a waiver of any

succeeding breach of such term or

provision or condition.

§ 107.1920 Licensee’s application for

exemption from a regulation in part 107.

You may file an application in writing

with SBA to have a proposed action

exempted from any procedural or

substantive requirement, restriction, or

prohibition to which it is subject under

this part, unless the provision is

mandated by the Act. SBA may grant an

exemption for such applicant,

conditionally or unconditionally,

provided the exemption would not be

contrary to the purposes of the Act.

Your application must be accompanied

by supporting evidence which

demonstrates to SBA’s satisfaction that:

(a) The proposed action is fair and

equitable; and

(b) The exemption requested is

reasonably calculated to advance the

best interests of the SBIC program in a

manner consonant with the policy

objectives of the Act and the regulations

in this part.

§ 107.1930 Effect of changes in this part

107 on transactions previously

consummated.

The legality of a transaction covered

by the regulations in this part is

governed by the regulations in this part

in effect at the time the transaction was

consummated, regardless of later

changes. Nothing in this part bars SBA

enforcement action with respect to any

transaction consummated in violation of

provisions applicable at the time, but no

longer in effect.

Dated: January 22, 1996.

John T. Spotila,

Acting Administrator.

[FR Doc. 96–1351 Filed 1–30–96; 8:45 am]

BILLING CODE 8025–01–P

13 CFR Parts 108, 116, 120, 122, 131

Business Loan Programs

AGENCY: Small Business Administration

(SBA).

ACTION: Final rule.

SUMMARY: SBA has completed an

extensive review of all of its regulations,

and it has decided to eliminate some

regulations and consolidate, clarify, and

simplify the remainder. This final rule

consolidates five current CFR parts into

one Part to be known as Part 120. This

surviving Part 120 covers virtually all

policies and regulations, other than size

standards, applicable to SBA’s business

(non-disaster) loan programs. Almost all

provisions have been reworded,

renumbered, and relocated. There are a

few new or revised policies. Several

sections have been deleted. However,

most of the revisions merely streamline

and clarify the regulations and do not

represent substantive change.

DATES: This rule is effective March 1,

1996. This rule applies with respect to

all applications for financial assistance

filed on or after March 1, 1996.
Federal Register / Vol. 61, No. 21 / Wednesday, January 31, 1996 / Rules and Regulations 3227

FOR FURTHER INFORMATION CONTACT: John

R. Cox, (202) 205–6490.

SUPPLEMENTARY INFORMATION: On

December 15, 1995, SBA published in

the Federal Register (60 FR 64356) a

notice of proposed rulemaking with

respect to the consolidation of five

current CFR parts into one Part to be

known as Part 120. SBA received and

considered 136 timely comments in

response to the proposed rule. SBA has

adopted many of the comments in

issuing this final rule. Each of the

significant comments is addressed

below. In addition, SBA has made

technical changes and clarifications in

this final rule, where appropriate.

This final rule combines Parts 108,

116, 120, 122 and 131 of 13 CFR into

one new Part to be known as Part 120.

This new Part 120 will regulate all of

SBA’s non-disaster financial assistance

to small businesses under its general

business loan program (‘‘7(a) loans’’), its

microloan demonstration program

(‘‘Microloans’’), and its development

company program (‘‘504 loans’’).

Many repetitive and overlapping

sections from the current regulations are

eliminated in this final rule. Formerly,

provisions applicable to a business loan

program were often located in different

Parts. Sometimes unintended

differences developed between the loan

programs in the interpretation or

implementation of similar program

policies because of minor

inconsistencies in the language of the

provisions in the several Parts. These

inconsistencies have been eliminated.

In this final rule, the basic

requirements that apply to all of the

business loan programs are located in

subpart A. These include elements

currently found in portions of Parts 108,

116 and 120. Policies specific to a

particular program are in the separate

subpart applying to that program. Rules

specific to 7(a) loans are in subpart B

and include elements currently in

portions of Parts 116, 120, and 122.

Regulations applying to SBA’s special

purpose loans currently in Part 122 and

a portion of Part 116 are in Subpart C.

Subparts D, E, and F contain rules

regarding lenders, program

administration, and the secondary

market currently found in Part 120. The

loan moratorium provisions presently in

Part 131 are located in subpart E.

Subpart G contains rules specific to

Microloans currently in Part 122.

Regulations applying to 504 loans

currently located in Part 108 are in

subpart H.

Definitions

Many comments were received which

addressed the definition of Associate in

§ 120.10. Most commenters expressed

the opinion that the definition was too

broad and, if promulgated, would

adversely affect the ability of small

businesses to use SBA’s lending

programs. Of particular concern was the

inclusion of a ‘‘Close Relative’’ of a

principal of an entity in the definition

of Associate of a small business, Lender

or CDC. As a result of the comments,

SBA re-examined this definition and

modified it. An Associate of a Lender or

CDC will include a holder of 20 percent

or more of the value of a Lender’s or

CDC’s stock or debt instruments, as well

as an entity in which the Close Relative

of an Officer, Director, key employee, or

holder of at least a 20 percent interest

in the Lender or CDC. The definition of

an Associate of a small business was

amended to include an owner of more

than 20 percent of the equity of the

small business, but not an entity in

which a Close Relative of such an owner

is also an owner.

Subpart A

Numerous commenters indicated that

§ 120.101, pertaining to the

unavailability of credit, needed

clarification with respect to the

substantiation required to support a

Lender’s or CDC’s certification. SBA is

promulgating this section as proposed

because it plans to provide information

on how to provide the required

substantiation in its Standard Operating

Procedures (SOPs).

Proposed § 120.102, which imposed a

requirement that the personal resources

of the owners of an applicant for a

business loan be injected into the

applicant generated more than 80

comments from the public. The

overwhelming majority of the responses

objected to the application of a personal

resources test to the 504 program

because that program is an economic

development program. After considering

the responses received, SBA has revised

the final rule to require an injection of

personal resources at a level dependent

on the amount of a total financing

package which includes an SBA

business loan. This means that the

injection of personal resources will bear

a designated correlation to the total

financing package of SBA and non-SBA

assistance. This regulation will ensure

that applicants for SBA financial

assistance will be able to ascertain the

demand on their personal resources,

with some certainty, before they seek

SBA financial assistance.

Section 120.110 lists types of

businesses which are not eligible for

SBA financial assistance. Several

commenters suggested SBA further

explain when a business is engaged in

a religious activity for purposes of

ineligibility under § 120.110(k), and to

eliminate the proposed requirement that

a business be principally engaged in the

activity. SBA has decided to retain the

prohibition on providing assistance to a

business principally engaged in a

religious activity. SBA believes that this

standard comports with Constitutional

requirements. SBA intends to

administer the standard in a manner

which balances the needs of small

businesses with applicable legal

requirements. However, given the

uncertainty of the state of legal

precedent relative to the Establishment

Clause, SBA will continue to review this

issue, and may make such prospective

changes in the regulation as may be

required.

In addition, for purposes of

consistency SBA will use a standard of

no more than one-third of gross annual

revenue derived from the prescribed

activity to determine the eligibility of

businesses engaged in legal gambling

activities or packaging SBA loans for

purposes of §§ 120.110 (g) and (m).

Proposed § 120.111 would permit an

Eligible Passive Company to be eligible

for 7(a) and 504 loan assistance if it

leases real or personal property to an

otherwise eligible small business. SBA

received many comments suggesting

that it permit a revocable or irrevocable

trust to be such an entity. SBA has

decided to delete the requirement that

when a trust is an Eligible Passive

Company it must be an irrevocable trust

in favor of one permitting eligibility for

revocable trusts in prescribed

circumstances. In order to be eligible,

the trustor must warrant and certify that

the trust will not be revoked or

substantially amended without SBA’s

consent, and the trustor’s personal

guarantee will be required to provide

adequate assurances of continuity and

financial support. SBA will monitor its

experience with revocable trusts and

make modification to this provision if

such experience warrants it.

Under current rules, an Eligible

Passive Company may not use the

proceeds of a business loan for working

capital. Only an active company may

obtain working capital as part of a

business loan. SBA recognizes that this

requirement has been burdensome and

has caused some applicants to obtain

two separate loans for the benefit of the

same Operating Company. Accordingly,

§ 120.120(b) will allow an Eligible

Passive Company to use part of business

loan funds for the working capital of the

Operating Company if the Operating

Company is a co-Borrower.

With respect to proposed § 120.195,

which required the reporting of fees
3228 Federal Register / Vol. 61, No. 21 / Wednesday, January 31, 1996 / Rules and Regulations

paid in connection with obtaining

business loan assistance by a Lender,

CDC, Intermediary Lender, and

Borrower, SBA has decided to retain

only a requirement relating to the

Borrower since other regulations cover

the obligation by the other parties to

report fees. By eliminating a reference to

other parties, SBA avoids unnecessary

duplication.

Subpart B

Proposed § 120.200 specified that

bonding is required as collateral for a

7(a) loan in which construction is

financed. Two commenters

recommended that a minimum amount

of construction should be designated in

§ 120.200 before payment and

performance bonds and builder’s risk

insurance would be required. Another

commenter expressed concern that the

proposed regulation would require

formal waivers of bonding and

insurance requirements on a case-bycase basis. Another comment noted that

the revised provision does not appear to

cover direct loans approved by SBA.

SBA has made minor changes in the

language of the provision to clarify that

the provision covers direct and

guaranteed loans. SBA has decided not

to establish a specific size limit on the

construction project which would

trigger the bonding and insurance

requirements, electing instead to

address the specific construction project

size in an SOP.

One commenter suggested that the

proposed revised language in § 120.201

was so restrictive as to disqualify any

refinancing of unsecured or

undersecured debt regardless of

circumstances. That was not the intent

of the proposal. However, the final

regulation specifies that SBA will not

permit 7(a) financing to be used to shift

a creditor’s potential loss to SBA.

SBA has decided to delete proposed

§ 120.203 relating to revolving credit, as

unnecessary. Revolving line of credit

financing is currently authorized under

§ 120.390 for the CapLines program, and

the Agency wants the flexibility to

consider special finance needs of small

business, such as ‘‘floor plan’’ financing,

at a later date.

With respect to proposed § 120.213,

SBA carefully considered suggestions to

add language to the regulation

pertaining to preemptive federal interest

rates and the quarterly publication by

SBA of maximum allowable fixed

interest rates in the Federal Register.

SBA has decided that it is unnecessary

to address in the regulations the legal

conclusion that maximum interest rates

prescribed by SBA are exempt by statute

from any maximum rates established

under state law. It is SBA’s intent to

publish on a quarterly basis in the

Federal Register notice of the maximum

fixed interest rate permitted on

guaranteed and direct loans. The final

rule retains the language in the

proposed rule.

Proposed § 120.214(f) has been

rewritten in order to clarify that SBA

has the authority to establish higher

interest for smaller loans, and that the

authority applies to both variable and

fixed rate loans. The proposal has been

finalized at § 120.215. Proposed

§ 120.214(g), has been renumbered and

is now § 120.214(f).

A number of commenters suggested

that SBA should amend proposed

§ 120.220(b), claiming that the policy of

terminating a guarantee for nonpayment

of the guarantee fee is too harsh. SBA

has considered the comments, but has

decided to retain the present policy of

terminating guarantees for nonpayment

of guarantee fees as one means of

assuring timely submission of guarantee

fees. In addition, under the Lender’s

agreement with SBA, payment of the

guarantee fee is the consideration

necessary to support SBA’s guarantee

commitment. Minor editorial changes

have been made in this section to reflect

that a guarantee fee payment may be

reimbursed to the Lender from funds

allocated in the working capital portion

of a guaranteed loan.

Two commenters suggested that SBA

should clarify in § 120.220(c) that the

annual fee payable by a Lender cannot

be charged to a Borrower. SBA has

adopted the suggestion.

SBA has deleted proposed

§ 120.221(b), relating to commitment

fees for Export Working Capital loans.

This provision was based on the former

Export Revolving Line of Credit program

and is no longer applicable to any

program.

A commenter suggested that SBA

define the term ‘‘Extraordinary

servicing’’ as proposed in § 120.221(c).

SBA believes that any further

description of special or extraordinary

servicing practices would be more

appropriate for its SOPs, and therefore

declines to adopt the suggestion. The

suggestion to permit prepayment fees,

which were prohibited under proposed

§ 120.221(e), has not been adopted by

SBA. The Agency believes that a small

business should be allowed to prepay a

7(a) loan without incurring additional

costs, and the prohibition on charging

prepayment fees is a positive marketing

tool for making 7(a) financial assistance

available to small business.

SBA has added referral fees to the list

of fees in § 120.222(b) which a Lender

or Associate may not charge a Borrower

since such fees are not fees which relate

to services normally provided by a

Lender. SBA has included a Service

Provider as an entity in § 120.222(d)

with which a Lender or Associate

cannot share a premium received from

the sale of an SBA guaranteed loan in

the secondary market. The inclusion of

a Service Provider in the prohibition

reduces further the possibility of a

conflict of interest or the appearance

thereof.

Subpart C

Two commenters noted that under the

provisions of proposed § 120.314, SBA

was precluded from requiring personal

guarantees for DAL–2 financial

assistance. SBA intended the

prohibition for requiring personal

guarantees to be applicable only to

DAL–1 financial assistance, and the

provision has been corrected to reflect

that intent.

One commenter suggested that SBA

should state in the provisions pertaining

to the Export Working Capital Program

(EWCP) that limits on lender fees and

interest rates are not prescribed. In final

§ 120.344, SBA has addressed the issue

of extraordinary fees and interest rates

pertaining to the EWCP. SBA does not

set a maximum rate of interest which

may be charged for this program.

At the suggestion of a commenter, the

reference to loan proceeds to develop or

penetrate foreign markets has been

deleted from § 120.342 and moved to

§ 120.347, pertaining to eligible use of

proceeds for International Trade Loans.

EWCP loan proceeds are to be used only

to finance export transactions.

Two commenters noted that proposed

§ 120.348 did not address a limitation

on the fixed-asset portion of

International Trade Loans. The

provision has been amended to specify

limitations on portions of loan amounts

allocated for fixed assets and non-fixed

assets.

At the suggestion of one commenter,

SBA has clarified § 120.377 to provide

that only a manufacturing concern may

use loan proceeds for working capital

for this particular loan program.

Two commenters suggested SBA

should address the DELTA loan

program in § 120.380. While the DELTA

loan program is not a permanently

funded SBA program, SBA has elected

to briefly describe it in § 120.381(c).

Subpart D

Although § 120.420, which allows

nondepository lenders to pledge notes

evidencing SBA guaranteed loans or to

sell the unguaranteed portions is not

new, two commenters asked that

depository lenders be allowed the same
Federal Register / Vol. 61, No. 21 / Wednesday, January 31, 1996 / Rules and Regulations 3229

option. SBA has rejected this

suggestion. This option is not available

to depository lenders because they have

a depository base which provides

liquidity, whereas the nondepository

lenders have no such base. They have

only a capital base which must be left

unimpaired. To provide them with some

liquid assets, SBA allows them to sell

the unguaranteed portions of SBA

guaranteed loans.

Two commenters wrote that a conflict

exists between §§ 120.420(a) and

120.453(c). SBA adopted the

commenter’s suggestion to include

language which makes clear that

nondepository lenders who are also PLP

lenders may sell the entire

unguaranteed portion, not just 90

percent, of SBA guaranteed loans with

SBA’s consent.

Section 120.420(b)(2) concerning

retention of economic risk, has been

revised to require a nondepository

lender which has sold the unguaranteed

portion of a loan, to establish a

sufficient reserve fund at the time of

sale. The two other options available in

the current regulations have not been

used and are not being retained, and

SBA has only approved proposals that

have included a reserve fund.

One commenter proposed that

§ 120.441, concerning the Certified

Lenders Program, be amended to permit

certification of individual loan officers

rather than the lending institution. SBA

has considered this idea previously.

SBA relies on the capability of its

lenders, not individual loan officers.

Therefore, SBA has decided not to alter

the present procedure at this time. The

current selection criteria already permit

consideration of the experience of

individual loan officers in certifying

lenders.

Concerning the provision at § 120.442

which sets forth grounds for suspension

or revocation of eligibility to participate

in the CLP program, one commenter

suggested including ethics violations as

a basis for suspension or revocation.

SBA will consider including this in its

SOP which, if violated, would fall

within the language ‘‘violations of

applicable * * * published SBA

policies and procedures.’’ SBA will

follow suit with the PLP program,

which has a similar revocation and

suspension provision. SBA also

emphasizes that the reasons listed in

§ 120.442 are simply examples of causes

for suspension or revocation and not an

exclusive list.

One commenter requested that PLP

lenders be allowed to process loans

which refinance interim loans under

§ 120.452(a)(2). SBA has decided to

permit such loans if made for other than

construction purposes and if the interim

loan was approved by the lender within

90 days of receipt of the PLP loan

number or the refinancing.

SBA received two comments

requesting clarification on whether a

lender was required to be a CLP lender

before being eligible to apply for PLP

status. Both commenters approved of

the eligibility requirement. In the final

rule, SBA is eliminating this

requirement. It is not necessary to

develop lenders into PLP lenders in

stages. If a lender does not perform well

as a PLP lender, SBA can revoke its PLP

status.

Several commenters suggested that

SBLCs be allowed to extend credit

through other programs. SBA has been

considering this for some time and has

decided to amend § 120.470 by allowing

SBLCs to provide SBA guaranteed loans

to Intermediaries participating in the

SBA Microloan program.

A commenter suggested raising the

minimum bond coverage a Small

Business Lending Company is required

to have, from $25,000 to $500,000. SBA

agrees with the commenter that $25,000

is too low and is adopting the

suggestion by amending

§ 120.470(b)(10).

Subpart E

SBA received several comments

concerning § 120.524(a) which sets forth

grounds under which SBA may deny

liability. The commenters opposed the

proposed language which would allow

SBA to deny liability upon any failure

of a lender to take certain actions, as

compared to the current language of the

regulation which allows SBA to deny

liability only upon substantial failure.

SBA has decided not to adopt this

suggestion. The final regulation makes it

clear that SBA may deny liability on the

basis of any material noncompliance

with SBA’s regulations or the terms of

applicable loan documentation.

The provisions of § 120.532 et seq.,

which describe the loan moratorium

program, have been deleted from this

final rule and will be inserted into the

Agency’s SOPs. The requirements of

this program are already provided for by

statute and the regulations are therefore

redundant. SBA has retained in the

regulations a short description of the

program, and provides notice that

complete information concerning

moratoriums is available at local SBA

district offices.

One commenter opined that

§ 120.540(a) requires additional

language concerning when SBA or a

lender may liquidate collateral securing

a loan. SBA agrees and is including

language that allows liquidation if the

loan is in default.

One commenter suggested that

§ 120.540(c)(1) be revised to allow

lenders to liquidate collateral as they

normally would, rather than having to

attempt to sell at auction. SBA has

adopted the commenter’s suggestion

and the section now allows a lender to

use negotiated sales if consistent with

its usual practice for liquidating nonSBA-related assets.

One commenter discussed the

revisions to the homestead protection

provisions found at § 120.550 et seq.

Much of the details have been removed

with the intention of publishing them in

an SOP. The writer was concerned that

persons interested in these provisions

will not know what is needed to comply

with the requirements of this program.

With the publication of the procedures

in an SOP, persons wishing to know

more about this program will be able to

obtain the information easily from any

local SBA district office.

Subpart F

Only one comment was received on

Subpart F. The commenter requested

that a definition of ‘‘Associates of a Pool

Assembler’’ be added to the definitional

section. This comment was not adopted

since ‘‘Associate’’ is defined in § 120.10

and there is no need for a different

definition for this Subpart. Minor

changes were made to this Subpart for

clarification.

Subpart G

Only one comment was received on

Subpart G. The commenter suggested

that proposed § 120.707(d) be revised to

require Intermediaries to assign all

guarantees and liens from their

Microloans to SBA. This comment was

not adopted. SBA believes that it is

adequately protected by the current

requirement that the Intermediary

pledge to SBA a first lien position in the

Microloan Revolving Fund, Loan Loss

Reserve Fund, and all notes receivable.

Minor changes were made to this

Subpart for clarification.

Subpart H

§ 120.801. SBA received several

comments regarding this introductory

section describing the 504 program in

general terms. All pointed out that a

small business must apply for 504

financing through a CDC servicing the

area in which the Project is located, not

in which the business is located. SBA

concurs and makes the correction in this

final rule. SBA also has made several

other minor revisions to this section in

response to comments.
3230 Federal Register / Vol. 61, No. 21 / Wednesday, January 31, 1996 / Rules and Regulations

§ 120.810. Several comments

suggested minor changes in one or more

definitions that apply to the 504

program. SBA disagrees with all of the

comments, except one regarding

Substantial Increase in Unemployment.

The commenter questioned the need for

such a definition, questioning the SBA’s

ability to quantify the increases

mentioned in the definition. SBA

concurs and has deleted the definition

(see § 120.881).

§ 120.827. As a result of a comment,

SBA amended this section to make it

clear that a CDC may itself provide

financial and technical assistance to

small businesses, as well as help small

businesses to obtain such assistance

from other sources.

§ 120.828. SBA received 13 comments

on this section. As discussed more

thoroughly in the following discussion

of expansion into additional Areas of

Operation, small businesses in some

areas of the country receive excellent

504 assistance measured, at least, by

loan activity, while in other areas, few,

if any, small businesses have received

assistance. SBA attempted to address

this fact by, among other things,

designating a minimum number of loan

approvals which a CDC must process in

order to retain certification. The present

rule requires a minimum of 2 loan

approvals averaged over the preceding 2

years. In the proposed rule, SBA altered

the requirement to be ‘‘the minimum

number of 504 loans set by SBA in an

annual program announcement.’’ The

purpose of the proposed change was to

give SBA the flexibility to adjust the

number as required to reflect an

expected increase in loan volumes.

Without exception, every comment

opposed this change, believing it

imposed a burden both on the industry

and SBA to adjust the standard every

year in a program announcement. The

industry trade association

recommended changing the annual

language to ‘‘from time to time.’’ Most

of the other comments suggested that

SBA retain its existing regulation. Based

upon such comments, SBA has decided

to retain the standard of 2 per year. The

only change from the existing regulation

is that SBA feels it is no longer

necessary to use an average of the

previous two years.

Many of the comments confused this

issue with the performance standard for

expansion into another Area of

Operation. SBA wishes to emphasize

that the standard in § 120.828 has

nothing to do with expansion or

competition.

§ 120.829. Three comments were

received regarding this section. Title V

of the Small Business Investment Act

requires a CDC’s portfolio to reflect a Job

Opportunity Average. At the present

time, the requirement is one Job

Opportunity per $35,000 of 504 funding.

That figure has been in effect for many

years. The current regulation permits

the AA/FA to allow a CDC’s average to

be up to 25 percent higher in certain

areas. In the proposed rule, SBA

rounded the 25 percent maximum

($43,875) up to $45,000. Otherwise SBA

retained the current rule.

SBA received comments suggesting

that SBA increase both the base $35,000

and the exception because of inflation.

In addition, one comment

recommended that SBA delete all of the

exceptions in § 120.829 except Alaska

and Hawaii because the rule is

impossible to administer. SBA rejects

both suggestions, principally because it

is not aware that the industry has been

having any problem complying with the

Job Opportunity Average requirement at

its present level. However, SBA does

agree that redevelopment areas as

defined in 42 U.S.C. 3161 should be

deleted from the provision. The purpose

of the 25 percent differential was to

assist distressed geographical areas

needing development. However, once

designated, redevelopment areas remain

so designated forever. Because they

have become so common, the effect

would be to increase the Job

Opportunity Average for entire Areas of

Operations to $45,000 rather than

$35,000, if the CDC and SBA followed

the regulation exactly. From a review of

the Job Opportunity Averages submitted

by CDCs in their annual reports, it is

clear that the increased average in

redevelopment areas is not required by

CDCs or is not being followed.

Furthermore, areas that were once

distressed, but no longer are, would

continue to be eligible for the higher

average, even though it is no longer

needed. For these reasons, SBA has

determined that redevelopment areas be

deleted from the section.

§ 120.830. Several comments objected

that the definition of ‘‘Associates’’

would cause increased and burdensome

reporting requirements. SBA believes

that the amended definition of Associate

cures this problem.

§ 120.831. The proposed rule

included a new requirement that a CDC

disclose to SBA and the Borrower any

referral fees or other payment made or

received by the CDC from the Lender or

other party to the 504 transaction. A

comment from the industry trade

association indicated that it understood

that SBA may want this disclosure, but

that it should be required of all SBA

guaranteed lenders, not just CDCs. In

the interest of program consistency,

SBA agrees, has broadened the language

to include all lenders, and has

consolidated the section with § 120.195

so that it applies to all business loans.

§ 120.835. Throughout the history of

the 504 program there has been a great

divergence among CDCs in the number

of loan approvals each year. While some

CDCs have exhibited continued growth

measured by their loan approvals and

ability to package, process and service

loans, other CDCs have lagged behind.

There are many complicated reasons for

this, but the net result has been a

patchwork of 504 service (measured by

loan approvals) across the country, with

many small businesses in some areas

receiving 504 assistance while in other

areas few, if any, small businesses have

received such assistance.

SBA attempted to address this issue

by permitting CDCs to expand

temporarily into adjacent areas, and,

then, in 1993, by designating a

minimum number of loan approvals per

year which a CDC must average over the

previous two fiscal year periods to

retain certification as a CDC. The

current number of required loan

approvals is two. SBA also established

the status of an Associate Development

Company (‘‘ADC’’). Those CDCs unable

or unwilling to meet the minimum

number of loan approvals may become

ADCs, thereby continuing to participate

in the program goals of economic and

community development without

having to make loans. A number of

CDCs have been decertified as a result

of this policy and have opted for ADC

status.

However, a focus on removal from

CDC status does not address the real

question of adequacy of service within

an Area of Operations. What constitutes

adequate service within a community?

The statutory objectives of the 504

program are to provide a portion of long

term fixed-asset financing for small

business projects that provide jobs and

result in economic development.

Clearly, these goals cannot be met in an

Area of Operations unless loans are

being packaged, processed, approved,

closed and serviced by one or more

CDCs. Unfortunately, SBA is aware of

too many locations across the country in

which present CDCs are unable or

unwilling to meet the small business

demand for 504 loans. Transferring an

existing CDC to ADC status does not

address this inadequacy. SBA has

concluded that the answer lies not in

decertification, but in competition and

customer service.

Therefore, SBA proposed in § 120.835

that existing CDCs be permitted to

expand into Areas of Operations that are

not being adequately serviced. Under
Federal Register / Vol. 61, No. 21 / Wednesday, January 31, 1996 / Rules and Regulations 3231

the proposed rule, the expanding CDC

would have to show that the proposed

Area of Operations is not being

adequately served by the existing CDCs

and that the expanding CDC is wellqualified to serve it. SBA did not

propose any geographic or size

limitation on CDCs applying to service

a location, but suggested that such

factors would be considered in

evaluating the application. As proposed,

a CDC would apply in writing to the

SBA district office serving the

geographic area in which the CDC

proposes to expand.

In the proposed rule, SBA solicited

comment on the factors to be considered

in determining whether an area is being

adequately serviced. As a result of many

discussions with industry members,

SBA had concluded that, in general, the

starting point for any determination

would be the number of loan approvals

averaged by the existing CDCs in the

Area of Operations over the last two

fiscal years. Even if the number of loan

approvals does not accurately represent

the competence of a CDC, it does

accurately reflect the market penetration

of 504 financing in the proposed area of

expansion.

SBA had also concluded that there is

no minimum loan approval number

appropriate to every CDC in every

location across the country. A small

CDC with a rural Area of Operations and

slow economic activity may be

providing adequate service at a low

level of approvals while a larger CDC in

a metropolitan region with much

economic activity may be providing

inadequate service, despite having a

greater number of loan approvals. In the

proposed rule, SBA advanced the

population of an Area of Operations as

the base factor, but indicated that

industry members had suggested other

possibilities such as the number of

small businesses in the Area of

Operations.

As a result of numerous consultations

with the industry and small businesses,

SBA had also concluded at the time of

the proposed rule that adequate service

includes other factors in addition to the

number of loan approvals, including

adequate servicing of loans. Thus, in the

proposed rule, SBA indicated that any

CDC seeking to expand will have to

show that it has a history of adequate

experience and expertise in both loan

packaging and servicing, and that the

existing CDCs in the proposed area of

expansion have not been adequately

packaging or servicing loans.

In the proposed rule, SBA solicited

comments and recommendations

regarding the factors that should be

included in a determination of whether

the existing CDCs are adequately

servicing an Area of Operations. SBA

asked commenters to particularly focus

on how to incorporate a servicing

component into its approach.

SBA received 35 comments in

response to its solicitation. Only two

opposed the policy proposed by SBA.

The remainder supported SBA’s efforts

to assure availability of 504 financing

everywhere in the country by

establishing limited competition. Most

of the comments discussed various

factors which the commenter believed

should be incorporated into SBA’s

decision making process upon receipt of

an application for extension of one CDC

into another’s Area of Operations.

Among the comments received was a

proposal submitted by the industry’s

trade association, as well as many

recommendations from individual CDCs

and financial institutions.

As a result of the comments received,

SBA has determined to amend its

proposed rule in several respects. The

proposed rule provided that SBA would

consider an Area of Operations

inadequately served if the existing CDCs

in the Area of Operation have not

averaged, over the last two fiscal years,

sufficient loan approvals for the

population in the CDCs’ Area of

Operation, as set by SBA in an annual

program announcement. All of the

comments which were addressed to the

issue were concerned about the annual

development of a standard. Commenters

expressed the opinion that annually

revisiting the standard would create a

‘‘moving target’’ for the industry to

achieve and introduce uncertainty and

instability into the industry. Most

indicated support for a reviewable

standard consistent with national

performance levels.

Most comments were opposed to

judging performance solely on the

number of loan approvals based upon

population levels as suggested by SBA

in the proposed rule (along with a

servicing component). The comment

submitted by the industry’s trade

association did utilize the number of

loan approvals per million of general

population (and a servicing component)

as the criterion for determining that the

CDCs in an Area of Operations are

adequately serving the area. However,

many individual CDCs presented

numerous other elements which they

recommended be considered as part of

the performance level ‘‘formula’’. In

addition to the number of loan

approvals per population of the Area of

Operation, the various factors included:

The number of small businesses in the

Area of Operations; the number of deals

closed, rather than approved (showing

that the deals are ‘‘real’’ and the CDC is

capable of following through); the

density of small businesses in the Area

of Operation; the character of the Area

of Operations (urban, suburban, or

rural); the types of small businesses; the

economic conditions prevailing in the

Area of Operations; amount loaned per

small business population; jobs created/

retained; servicing record and

capabilities; currency rate; loss rates;

other services provided to small

businesses (technical and financial

assistance); relationship with the local

SBA office; ties to the local community

and its resources; and knowledge of the

area and its economic and business

climate. In short, solely looking at loan

approval volume is an inadequate

measure of a CDC’s service to the

community.

Several commenters pointed out

potential problems that could result

from basing CDC performance solely on

‘‘packaging’’ and loan approval volume.

SBA agrees with several commenters

that level of activity is probably an

accurate barometer of past and future

performance. However, SBA has

determined that loan approval volume

based upon general population alone

should not be the sole determination of

whether an area is being adequately

served.

Based upon the comments received,

SBA has decided to amend its proposed

rule to delete the reference to any one

factor determining that an Area of

Operations is being inadequately served.

Rather, SBA has determined that loan

approval volume should be utilized

only as a benchmark upon which to

support the application of a CDC to

expand into an Area of Operation which

it presently does not serve. If the loan

approval volume of the existing CDCs in

the area does not reach the benchmark

figure, the applying CDC will be able to

proceed with its application.

The application to expand must be in

writing to the SBA District Office

serving the geographic area in which the

CDC proposes to expand. It must

demonstrate to the satisfaction of SBA

that the CDC is capable of providing the

additional territory the full range of

services expected of a CDC, including

the ability to process, close, service,

and, if authorized, liquidate 504 loans.

The existing CDC or CDCs in the

expansion area will then have at least 30

days in which to respond to the District

Office. The ‘‘burden of proof’’ shall be

upon the existing CDC or CDCs to

explain why the SBA should not grant

the application for extension. In its

deliberations, the SBA District Office

may, in its discretion, consider any

factor presented to it, but SBA will
3232 Federal Register / Vol. 61, No. 21 / Wednesday, January 31, 1996 / Rules and Regulations

consider particularly relevant

information concerning the various

factors suggested in the comments to the

proposed rule and previously set forth

in this preamble. The SBA District

Office shall submit its recommendation

within 30 days of the end of the

comment period to the AA/FA for a

final decision within 30 days of receipt

of the District Office’s recommendation.

Seven comments cautioned that

expansion should be permitted only

into contiguous areas, referencing the

problems experienced by the banking

industry when interstate banking was

first permitted. These commenters

suggested that ‘‘leapfrogging’’ financial

institutions may not know their new

markets, leading to potential loan losses

and damage to the program. Two other

commenters were concerned with

‘‘cherry picking’’ of valuable markets to

the detriment of markets where business

potential was less.

These are both matters which SBA

will consider very carefully. The

expanding CDC’s application must

specify the exact territory into which it

proposes to expand. SBA will compare

the loan approval volume of the existing

CDC or CDCs in that exact territory to

the benchmark figure. The expanding

CDC will not be able to use an existing

CDC’s loan approval volume for its

entire Area of Operations (presumably

lower) to justify expansion into a

smaller, valuable market, which is being

adequately served by the existing CDC

or CDCs. If the more valuable market is

not being adequately served, then the

expanding CDC is justified in

attempting to expand into it. SBA will

at all times maintain its focus on the

ultimate customers, the small

businesses which both SBA and the

CDC industry serve. If small businesses

in a ‘‘prime’’ area are not being

adequately served, the existing CDC or

CDCs will not be supported by SBA in

any argument that the area is being

‘‘cherry picked’’. If a CDC is concerned

about potential expansion into its

territory, SBA believes, as do many of

the commenters, that competition will

cause that CDC to better serve its

community.

Although sensitive to the advantages

resulting from regional experience and

knowledge, SBA has determined not to

limit applications for expansion to

contiguous areas. SBA will, however,

require that an expanding CDC have a

local presence in a non-contiguous

territory. As part of its application, the

expanding CDC must indicate how it

intends to provide that local presence,

and must agree to have a local presence

in place before submitting any 504 loans

for approval.

Finally, the comments presented to

SBA several suggestions which it has

considered for establishing the

benchmark figure. SBA recognizes that

each number suggested by any of the

commenters was somewhat arbitrary.

Several comments presented data on

loan approval volume in the country or

in specific regions. Based on the figures

provided by the industry trade

association in its comment, total loan

approvals for FY 1993 were 2,388

resulting in an average loans per million

of general population of 5.37. In FY

1994 and 1995, the corresponding

figures were 3,685 (8.29 loans per

million) and 4,398 (9.89 per million).

The industry trade association suggested

that an average of 5 loans per million of

general population, for the previous two

years, or 2, whichever is greater, be the

standard. (In the proposed rule, the

standard would have been absolute and

determined that a CDC was not

adequately serving its Area of

Operation.)

SBA prefers to set a higher target.

Unlike the performance standard in

§ 120.828, failure to attain the standard

will not disqualify a CDC in any way or

cause it to be subject to decertification.

So long as a CDC provides 2 loan

approvals per year, it will continue as

an active CDC if it so chooses. The

standard in § 120.835 is merely a

benchmark to determine whether

another CDC may be able to expand into

the CDC’s Area of Operations in order

to compete with the CDC in order to

better serve the small business

community.

Therefore, SBA has adopted the

suggestions contained in the comment

of an individual CDC and has

established in this final rule the

benchmark standard of one approved

loan per 100,000 of general population

averaged over the last year 2 years. Both

the industry and SBA expect the

number of loans approved to grow

sharply over the next several years. As

discussed earlier in this preamble, the

industry prefers and SBA agrees that the

benchmark remain constant and not

change on an annual basis so that CDCs

will know that they have a constant

‘‘target’’ to attain. SBA does not want to

establish a benchmark which is already

outdated. The industry average is nearly

10 loan approvals per million (or one

per 100,000). By adopting the comment

of 1 per 100,000, SBA feels it has

established a figure which may remain

in effect for the foreseeable future and

is already exceeded by a majority of the

industry. Further, the benchmark

applies to a total loan volume of all

CDCs existing in an Area of Operations,

not each individual CDC.

SBA will continue to work with the

industry to refine the benchmark. One

or more of the factors discussed

previously may supplement or

ultimately replace loan approvals per

100,000 of general population (such as

small business population, job creation/

retention, loans closed, or dollar amount

of loan volume).

§ 120.838. In the proposed rule, SBA

determined that all existing, temporary

expansions of Areas of Operations

would expire automatically 6 months

after the effective date of these

regulations, unless a CDC applies for

permanent expansion into that Area

before the expiration date. SBA believed

that CDCs will best serve the small

business community by making a

permanent commitment to an Area of

Operations. SBA received several

comments in support of this provision

and none in opposition. Therefore, SBA

adopts the proposed provision without

change in this final rule.

§ 120.839. In the proposed rule, SBA

provided for a CDC, upon showing good

cause, to apply to SBA to make an

individual loan for a Project outside its

Area of Operations in an area not being

adequately served by other CDCs. The

SBA also proposed to permit an

applicant small business to write to the

AA/FA to request the assistance of a

CDC not currently serving the area. SBA

added this provision to give a small

business more flexibility if it had a

concern about the ability of a particular

CDC to provide service.

SBA received 12 comments

concerning this proposal, none of which

opposed the provision. Several

supported the provision as proposed.

Others concurred that case-by-case

extensions can help to assure access to

504 financing, but should be limited to

specific situations. Others felt that the

proposed regulations were too vague

and permitted too much discretion on

the part of decision-makers. Most

commenters favored more explicit

directions and alternatives.

SBA has determined to adopt, in most

part, the suggestions of the industry

trade association in its comment.

Provided that the applicant CDC can

demonstrate that it can adequately

service the loan, a CDC may apply to

make an individual loan outside its

Area of Operations if (1) the applicant

CDC has previously assisted the

business to obtain a 504 loan, (2) the

applicant small business or CDC can

document in writing to the AA/FA

specific circumstances that would

prevent the existing CDC or CDCs

serving the area from assisting the

business adequately, or (3) the existing

CDC or CDCs serving the area agree to
Federal Register / Vol. 61, No. 21 / Wednesday, January 31, 1996 / Rules and Regulations 3233

permit the applicant CDC to make the

loan. SBA has deleted from its proposed

rule the reference to an area not

adequately served by other CDCs. As

discussed previously with respect to

§ 120.835, this final rule does not

establish a standard of performance, but

only a benchmark. Thus, it would not be

possible to establish that an area is

inadequately served without going

through the entire process set forth in

§ 120.835, which is not SBA’s intent in

this section. Further, the focus in this

section is on the particular Project in

question and that is covered sufficiently

by the situation (2) as recommended by

the industry trade association. The

second circumstance in SBA’s proposed

rule, Borrower initiation of the request,

is also subsumed into situation (2) in

this final rule.

§ 120.840. SBA received one comment

regarding this section, pointing out that

the section set forth only basic

eligibility standards for a CDC to

become an Accredited Lender, which

standards did not refer to servicing or

portfolio quality in any way. SBA

concurs with the comment and has

amended the section to include

additional eligibility requirements,

including that an applicant must have

been a CDC for a minimum of 12

months.

§ 120.845. SBA received two

comments regarding this section. One

comment pointed out that the proposed

language appeared to suggest that SBA

approved Premier Certified Lender

loans in the same manner as any other

504 loan. SBA has adopted the language

of the comment, clarifying that SBA’s

final approval is limited to eligibility of

the guarantee. The other comment

requested SBA to include in the

regulation the specific amounts and

payment schedule of contributions to

the loss reserve. SBA has concluded that

this is not necessary. The schedule is in

the statute and will be expounded upon

in SBA’s SOP, to which PCLPs will have

access. Therefore, SBA declines to adopt

this comment.

§ 120.862. This section sets forth

community development and public

policy goals, the achievement of any one

of which causes a Project to be eligible

for 504 financing if a CDC’s overall

portfolio of 504 loans, including the

subject loan, meets or exceeds the CDC’s

Job Opportunity average. Also,

qualifying under a public policy goal

makes a Project subject to an increased

amount of funding. One comment

pointed out that assisting businesses in

Labor Surplus Areas had been a

community development goal in the

current regulation, but had been

included as a public policy goal.

Another comment pointed out that there

must be a written revitalization plan in

order to invoke revitalizing a business

district as a public policy goal. A third

comment pointed out that the rule

should include assisting businesses

located in areas affected by Federal

budget reduction, not just businesses

affected by such matters. SBA concurs

in all three comments and has made the

revisions in this final rule. A fourth

comment contended that assisting

manufacturing firms was a public policy

goal, not a community development

goal. However, assisting manufacturing

firms has always been a community

development goal in SBA’s regulations,

and SBA declines to change this longstanding placement.

§ 120.871. Both the 7(a) and 504 loan

programs limit the amount of the

rentable property which can be leased to

a third-party, whether the loan or

Project involves new construction or an

existing building. Currently, there are

minor differences between the programs

in the amount of space permitted to be

leased. The 504 limitation is currently

set forth in a regulation, while the 7(a)

limitations are set forth in an SOP.

Several commenters noted the

differences between the programs and

suggested that the proposed regulation

be made applicable to all SBA business

loan programs. SBA concurs with the

comments and has moved §§ 120.871

and 120.872 from Part H to Part A as

§§ 120.131 and 120.132.

§ 120.880. SBA received five

comments pointing out that the size

standard for 504 eligibility set forth in

the proposed rule omitted the word

‘‘tangible’’ to modify net worth. SBA

concurs and adds the word ‘‘tangible’’

in this final rule.

§ 120.881. This section sets forth

types of Projects ineligible only for 504

loans (as opposed to 7(a) loans). In the

current regulation, a Project is

ineligible, if the relocation of any of the

operations of the small business will

cause a substantial increase in

unemployment in any area of the

country or a net reduction of one-third

or more in the workforce of the

relocating small business. In the

proposed rule, SBA attempted to limit

the effect to distressed areas rather than

the entire country by creating a defined

term. As discussed earlier, commenters

pointed out that SBA’s proposed

definition may have been unworkable.

Therefore, SBA has dropped the

proposed change and returned the

relocation limitation to the language in

the current regulation.

One commenter pointed out that

speculative projects are ineligible in all

business loan programs, not just 504.

SBA concurs and has moved

§ 120.881(c) to § 120.110(s).

§ 120.882. In the current regulations,

costs incurred by a Borrower in

anticipation of receiving a 504 loan are

not eligible to be included in Project

costs unless the applicant has filed a

written notices with the CDC and SBA

within 60 days of incurring the expense

and SBA gives written approval. As a

result, CDCs and SBA receive notices

from many potential borrowers

considering 504 financing who desire to

maximize potential financing. Many of

these businesses never actually apply or

their applications are denied. In those

cases, the written notices are a useless

paperwork burden on SBA, the CDC and

the applicant. Therefore, SBA proposed

in § 120.882(a)(2) to eliminate the

requirement for written notice and

allow as an eligible Project cost any

expense incurred toward a Project

within six months of receipt by SBA of

a complete loan application.

SBA received 16 comments opposing

the 6 month limit. Commenters pointed

out that in actual practice the time it

takes to reach the point of application

is often far greater than 6 months. In

many metropolitan areas, the zoning use

permits, building permits, and other

clearances can take 9 to 12 months.

Often engineering plans and

architectural drawings may need to be

completed or redone, and lengthy

environmental studies may be required.

In states like Minnesota with long

winters, the delay between site

preparations and construction may span

more than 6 months.

The intent of the proposed rule was

to alleviate unnecessary paperwork. It

was not intended to limit eligible costs.

Therefore, SBA increases the limit in

this final rule to 9 months and adopts

a comment suggesting a waiver of the

limit by the SBA District Office for good

cause, which waiver should not be

unreasonably withheld.

§ 120.883. This section sets forth

eligible administrative costs which may

be paid with the proceeds of the 504

loan, thereby allowing the small

business to borrow the cost of the item

so that it does not have to be paid out

of the Borrower’s own resources. One of

the permitted costs is the CDC

processing fee. Seven commenters

pointed out that in streamlining the

language of the regulation, SBA had

deleted language in the current

regulation describing at what point in

time the fee is considered earned and

may be collected. SBA agrees that this

is important information for Borrowers

to know and adds the requested

language in this final rule.
3234 Federal Register / Vol. 61, No. 21 / Wednesday, January 31, 1996 / Rules and Regulations

Another grouping of costs

traditionally allowed by SBA to be paid

out of the proceeds of the 504 loan are

closing costs. Currently, SBA interprets

closing costs to include fees of

professionals, such as engineers and

attorneys, involved in the Project (see

§ 120.961(a)).

Typically, many of the legal services

required to close the 504 financing are

provided by the CDC’s counsel, who is

usually experienced in closing 504

loans and thus, is able to do so cost

effectively. Sometimes, a Borrower will

also retain an attorney. Under the

current regulations, the CDC may charge

the Borrower up to $2,500 to reimburse

the CDC for the legal expenses resulting

from services performed by the CDC

counsel relating to the 504 financing.

The Borrower must pay the legal fees of

Borrower’s counsel, if retained. If CDC

counsel desires to charge the CDC more

than $2,500, the CDC may only do so if

SBA approves the higher fee, in which

case, the CDC must pay the difference

to the CDC counsel and may not be

reimbursed by the Borrower. The CDC

collects the fee (up to $2,500) at closing

and forwards it to the closing attorney.

The $2,500 figure in the current

regulation has engendered much debate

within the industry. Many CDCs feel the

figure establishes a minimum base for

attorney fees and is, therefore, anticompetitive. On the other hand, during

the past year, SBA has conducted

several expedited closing training

sessions for CDC counsel. Many

attorneys feel that the figure establishes

a ceiling for attorney services and is,

therefore, anti-competitive. There

appears to be a wide range of fees

charged by CDC counsel for closing

services.

Most CDCs try to minimize counsel

fees to reduce costs to the Borrower.

One of the ways is for the CDC to use

in-house counsel. Another way is to use

in-house paralegals and staff to prepare

the closing documents, close the loan,

and present a completed loan closing

package after closing to outside counsel

solely for review and legal opinion.

However, the current regulations allow

a CDC to charge the Borrower only for

the legal bill of outside CDC counsel. A

CDC that retains its own counsel inhouse or employs paralegals and other

staff to prepare and close the loan

cannot recover its costs for providing

that service.

In the proposed regulation, SBA

omitted reference to any legal fee

amount in either § 120.883(d) or

§ 120.961(a). Whether it is viewed as a

ceiling or a base, the $2,500 reference

certainly appears to have had an effect

on legal fees charged. SBA believes legal

fees should be determined by the

competitive market. There is no reason

for SBA to influence the market rate by

referring to a specific fee level in its

regulation.

SBA received 15 comments

concerning legal fees from the industry.

All but one strongly objected to the

deletion of the $2,500 reference from the

regulations. In addition, several

comments requested SBA to allow CDCs

to recover the staff and in-house counsel

costs of closing a loan.

SBA concurs with the comments

recommending that CDCs be allowed to

charge the Borrower for the in-house

costs of preparing the loan documents

and closing the loan. Since both the

CDCs and SBA desire to reduce the level

of legal fees incurred by the Borrowers,

it is self-defeating to require CDCs to

utilize outside counsel in order to

recover legal costs. Allowing the CDC to

recover in-house costs from the

Borrower will still result in a savings to

the Borrower because the costs of CDC

staff and in-house counsel are less than

outside counsel. Therefore, proposed

rule § 120.961(a) (which is

§ 120.971(a)(2)) in this final rule has

been amended to allow the CDC to

charge the Borrower an amount

sufficient to reimburse it for reasonable

legal expenses of outside counsel, and

in-house counsel and staff related to

closing the 504 financing.

Despite the near unanimous

opposition to the deletion of the $2,500

reference, SBA declines to amend either

§ 120.883(d) or § 120.971(a)(2)

(§ 120.961(a) in the proposed rule).

None of the comments presented any

persuasive arguments to cause SBA to

change its convictions. Many of the

comments referred to the $2,500

reference as a ‘‘cap’’ which kept legal

fees to the Borrower in line. Whether it

functioned more to inhibit or increase

fees is open for discussion. But

exceeding the ‘‘cap’’ certainly did not

affect the Borrower. If SBA approved,

the CDC paid the attorney without

reimbursement. Thus, if the reference

functioned as a ‘‘cap’’, it did so to

benefit the CDC, not the Borrower.

As more attorneys become designated

to perform expedited 504 loan closings,

as more attorneys become familiar with

the 504 closing process (because of the

expected large increase in loan volume),

and as additional CDCs use in-house

counsel or paralegal staff to prepare

documents and close loans, SBA

expects competitive pressures to limit

increases in legal fees. In any event,

SBA does not belong in the business of

setting or suggesting legal fees. That is

a function of the competitive market.

The comment process caused SBA to

review carefully the whole issue of legal

fees as treated in the 504 program

compared to commercial lending

generally. A number of comments

present information concerning CDC

efforts to reduce Borrowers’ legal costs.

SBA has previously interpreted legal

fees to be eligible costs, either as Project

costs or administrative costs. Most of

the legal fees for which a Borrower is

responsible are eligible Project costs

directly attributable and essential to the

Project.

Legal fees associated with the closing

of the 504 loan are not eligible as Project

costs. They are not directly attributable

and essential to the Project. If they are

eligible at all, they would have to be

eligible administrative costs.

All of the eligible administrative costs

in § 120.883, with the exception of legal

fees, are fees imposed upon the

Borrower by the financing process itself

over which the Borrower has no control.

All are defined by regulation or other

government entities (recording fees, for

example). The only variable cost is legal

fees.

Closing legal fees are not usually

financed by commercial loan proceeds.

Closing legal fees are current costs. Why

should they be financed over 20 years?

Legal fees are not usually financed over

time. SBA suspects that if claims are

true that closing legal fees have been

maintained at an artificially high level,

it is because the fees have been able to

be financed over a lengthy period of

time and have been ‘‘hidden’’ in the

Debenture. SBA has concluded that

closing legal fees should not be eligible

administrative costs for 504 loans. CDCs

and Borrowers will now have a real

incentive to reduce fees. Therefore, in

this final rule, SBA has eliminated legal

fees from the eligible administrative

costs for 504 loans in § 120.883(d).

Finally, several commenters

recommended that the specific fees for

the items in § 120.883 be identified.

SBA concurs. These fees have been set

forth with specific numbers in

§ 120.971.

§ 120.891. This section of the

proposed rule required the interim

lender to certify to the amount of the

interim loan disbursed and the CDC to

certify that the Project was completed in

accordance with the plans and

specifications. Three comments noted

that the wording of the first requirement

implied that the interim lender must

certify to much more than just the

amount disbursed. SBA concurs that the

language could be misleading. In this

final rule, SBA clarifies that the interim

lender must certify only the amount

disbursed.
Federal Register / Vol. 61, No. 21 / Wednesday, January 31, 1996 / Rules and Regulations 3235

§ 120.892. This sections deals with

certifications to SBA by the CDC,

interim lender, and Borrower that there

has been no adverse change in the

ability of the Borrower to repay the 504

loan. For over 15 years the standard

phrase used was ‘‘unremedied

substantial adverse change.’’ In the

proposed rule, SBA substituted

‘‘adverse change,’’ believing that if there

were insubstantial adverse changes or

remedied changes, it did not affect

whether the Borrower could repay the

loan. However, after receiving seven

comments requesting a return to the

familiar language, SBA amends the

three subsections of § 120.892 to insert

in this final rule ‘‘unremedied

substantial adverse change.’’

§ 120.911. The current regulations

state that the Borrower’s contribution to

the permanent financing may be land or

cash. The regulations have never

permitted the value of buildings or other

structures on the land to be counted

toward the Borrower’s contribution.

SBA did not propose any change in this

section in the proposed rule.

However, SBA received 10 comments

suggesting that SBA consider including

the value of site improvements such as

buildings on contributed property if the

Project is for the purpose of renovating

the building or constructing an addition

to the building. According to the

comments, older buildings that need

renovation are often not financed under

the 504 program due to this restriction.

SBA sees no reason why it should not

agree to these suggestions. Whatever the

original purpose of the restriction may

have been, it appears to have no logical

reason, credit or otherwise, for

continuing it. Therefore, SBA adopts the

comments in this final rule and allows

Borrowers to contribute the value of

buildings, structures and other site

improvements which will be part of the

Project Property, previously acquired by

the Borrower or CDC.

§ 120.921. As a result of comments

received, two subsections have been

added to § 120.921. First, § 120.923(b) in

the proposed rule has become

§ 120.921(d). The language of the

proposed rule has been changed to

clarify that a Third-Party lienholder

must subordinate to the CDC/SBA lien

any future advance in excess of the

outstanding principal balance and

accrued interest of the Third-Party Loan

at the time of such advance. The new

§ 120.921(e) prohibits a Third-Party

lender from escalating the rate of

interest upon default to an amount

greater than the maximum rate in

§ 120.921(b).

§ 120.930. SBA received five

comments pointing out that the

language was confusing. In the proposed

rule, SBA attempted to indicate what

happens if the cost of the completed

Project is less than the Debenture

amount. Since five commenters all felt

the language was confusing, SBA

returns in this final rule to the language

in the present regulation.

§ 120.938. This section defines when

SBA will look to the CDC for recourse

in the event it defaults on a Debenture.

SBA received 6 comments contending

that negligence is too high a standard.

SBA examined the Debenture which

CDCs sign. The language in the

Debenture includes fraud, negligence, or

misrepresentation. Therefore, SBA has

adopted the language in the Debenture.

§ 120.961(b). SBA received 4

comments contending that the referral

fee which a CDC may charge a ThirdParty lender is excessive. However,

none of the comments presented any

reasons or support for such assertions.

Therefore, SBA declines to change the

proposed rule. However, commenters

did point out an error in the section in

that the fee applies to the Third-Party

loan, not the 504 loan. In addition, SBA

refers to the fee in the final rule as a

referral fee, rather than a finder’s fee.

SBA further indicates in this final rule

that a CDC receiving such a fee must

comply with the regulations under Part

103 of this chapter.

§ 120.971. In this final rule, SBA has

consolidated into this section the fees

which were previously set forth in

§ 120.883, so that a Borrower may find

in one section all allowable fees to

which it may be subject.

Compliance With Executive Orders

12612, 12778, and 12866, the

Regulatory Flexibility Act (5 U.S.C. 601,

et seq.), and the Paperwork Reduction

Act (44 U.S.C. Ch. 35)

SBA certifies that this final rule

involves internal administrative

procedures and does not constitute a

significant rule within the meaning of

Executive Order 12866 and does not

have a significant economic impact on

a substantial number of small entities

within the meaning of the Regulatory

Flexibility Act, 5 U.S.C. 601, et seq. It

is not likely to have an annual economic

effect of $100 million or more, result in

a major increase in costs or prices, or

have a significant adverse effect on

competition or the United States

economy.

For purposes of the Paperwork

Reduction Act, 44 U.S.C. Ch. 35, SBA

certifies that this final rule contains no

new reporting or record keeping

requirements.

For purposes of Executive Order

12612, SBA certifies that this rule has

no federalism implications warranting

the preparation of a Federalism

Assessment.

For purposes of Executive Order

12778, SBA certifies that this rule is

drafted, to the extent practicable, in

accordance with the standards set forth

in Section 2 of that Order.

List of Subjects

13 CFR Part 108

Equal employment opportunity, Loan

programs-business, Reporting and

recordkeeping requirements, Small

businesses.

13 CFR Part 116

Coastal Zone, Flood insurance, Flood

plains, Lead poisoning, Small

businesses, Veterans.

13 CFR Part 120

Loan programs-business, Reporting

and recordkeeping requirements, Small

businesses.

13 CFR Part 122

Community development, Employee

benefit plans, Energy conservation,

Environmental protection, Exports,

Individuals with disabilities, Loan

programs-business, Loan programsenergy, Loan programs-veterans,

Microloans, Reporting and

recordkeeping requirements, Small

businesses, Solar energy, Trusts and

trustees, Veterans.

13 CFR Part 131

Loan programs-business, Small

businesses.

Accordingly, pursuant to the

authority set forth in sections 5(b)(1)

and (b)(6) of the Small Business Act, 15

U.S.C. 634(b)(6) and 636(a) and (h), SBA

hereby amends Chapter I of Title 13,

Code of Federal Regulations (CFR), as

follows:

1. Part 120 is revised to read as

follows:

PART 120—BUSINESS LOANS

General Descriptions of SBA’S Business

Loan Programs

Sec.

120.1 Which loan programs does this part

cover?

120.2 Descriptions of the business loan

programs.

120.3 Pilot programs.

Definitions

120.10 Definitions.
3236 Federal Register / Vol. 61, No. 21 / Wednesday, January 31, 1996 / Rules and Regulations

Subpart A—Policies Applying to All

Business Loans

Eligibility Requirements

120.100 What are the basic eligibility

requirements for all applicants for SBA

business loans?

120.101 Credit not available elsewhere.

120.102 Funds not available from

alternative sources, including personal

resources of principals.

120.103 Are farm enterprises eligible?

120.104 Are businesses financed by SBICs

eligible?

120.105 Special consideration for veterans.

Ineligible Businesses and Eligible Passive

Companies

120.110 What businesses are ineligible for

SBA business loans?

120.111 What conditions must an Eligible

Passive Company satisfy?

Uses of Proceeds

120.120 What are eligible uses of proceeds?

120.130 Restrictions on uses of proceeds.

120.131 Leasing part of new construction or

existing building to another business.

Ethical Requirements

120.140 What ethical requirements apply to

participants?

Credit Criteria for SBA Loans

120.150 What are SBA’s lending criteria?

120.151 What is the statutory limit for total

loans to a Borrower?

120.160 Loan conditions.

Requirements Imposed Under Other Laws

and Orders

120.170 Flood insurance.

120.171 Compliance with child support

obligations.

120.172 Flood-plain and wetlands

management.

120.173 Lead-based paint.

120.174 Earthquake hazards.

120.175 Coastal barrier islands.

120.176 Compliance with other laws.

Enforceability Despite Rule Changes

120.180 Are rules enforceable if they are

changed later?

Loan Applications

120.190 Where does an applicant apply for

a loan?

120.191 The contents of a business loan

application.

120.192 Approval or denial.

120.193 Reconsideration after denial.

Computerized SBA Forms

120.194 Use of computer forms.

Reporting of Fees

120.195 Disclosure of Fees.

Subpart B—Policies Specific to 7(a) Loans

Bonding Requirements

120.200 What bonding requirements exist

during construction?

Limitations on Use of Proceeds

120.201 Refinancing unsecured or

undersecured loans.

120.202 Restrictions on loans for changes in

ownership.

Maturities; Interest Rates; Loan and

Guarantee Amounts

120.210 What percentage of a loan may

SBA guarantee?

120.211 What limits are there on the

amounts of direct loans?

120.212 What limits are there on loan

maturities?

120.213 What fixed interest rates may a

Lender charge?

120.214 What conditions apply for variable

interest rates?

120.215 What interest rates apply to smaller

loans?

Fees for Guaranteed Loans

120.220 Fees that Lender pays SBA.

120.221 Fees which the Lender may collect

from a loan applicant.

120.222 Fees which the Lender or Associate

may not collect from the Borrower or

share with third parties.

Subpart C—Special Purpose Loans

120.300 Statutory authority.

Disabled Assistance Loan Program (DAL)

120.310 What assistance is available for the

disabled?

120.311 Definitions.

120.312 DAL–1 use of proceeds and other

program conditions.

120.313 DAL–2 use of proceeds and other

program conditions.

120.314 Resolving doubts about

creditworthiness.

120.315 Interest rate and loan limit.

Businesses Owned by Low Income

Individuals

120.320 Policy.

Energy Conservation

120.330 Who is eligible for an energy

conservation loan?

120.331 What devices or techniques are

eligible for a loan?

120.332 What are the eligible uses of

proceeds?

120.333 Are there any special credit

criteria?

Export Working Capital Program (EWCP)

120.340 What is the Export Working Capital

Program?

120.341 Who is eligible?

120.342 What are eligible uses of proceeds?

120.343 Collateral.

120.344 Unique requirements of the EWCP.

International Trade Loans

120.345 Policy.

120.346 Eligibility.

120.347 Use of proceeds.

120.348 Amount of guarantee.

Qualified Employee Trusts (ESOP)

120.350 Policy.

120.351 Definitions.

120.352 Use of proceeds.

120.353 Eligibility.

120.354 Creditworthiness.

Veterans Loan Program

120.360 Which veterans are eligible?

120.361 Other conditions of eligibility.

Pollution Control Program

120.370 Policy.

Loans to Participants in the 8(a) Program

120.375 Policy.

120.376 Special requirements.

120.377 Use of proceeds.

Defense Economic Transition Assistance

120.380 Program.

120.381 Eligibility.

120.382 Repayment ability.

120.383 Restrictions on loan processing.

Caplines Program

120.390 Revolving credit.

Builders Loan Program

120.391 What is the Builders Loan

Program?

120.392 Who may apply?

120.393 Are there special application

requirements?

120.394 What are the eligible uses of

proceeds?

120.395 What is SBA’s collateral position?

120.396 What is the term of the loan?

120.397 Are there any special restrictions?

Subpart D—Lenders

120.400 Loan Guarantee Agreements.

Participation Criteria

120.410 Requirements for all participating

Lenders.

120.411 Preferences.

120.412 Other services Lenders may

provide Borrowers.

120.413 Advertisement of relationship with

SBA.

Pledging Notes or Transferring Unguaranteed

Portion

120.420 Financings by Nondepository

Lenders.

Miscellaneous Provisions

120.430 SBA access to Lender files.

120.431 Suspension or revocation of

eligibility to participate.

Certified Lenders Program (CLP)

120.440 What is the Certified Lenders

Program?

120.441 How does a Lender become a CLP

Lender?

120.442 Suspension or revocation of CLP

status.

Preferred Lenders Program (PLP)

120.450 What is the Preferred Lenders

Program?

120.451 How does a Lender become a PLP

Lender?

120.452 What are the requirements of PLP

loan processing?

120.453 What are the requirements of a PLP

Lender in servicing and liquidating SBA

guaranteed loans?

120.454 PLP performance review.

120.455 Suspension or revocation of PLP

status.

Small Business Lending Companies (SBLC)

120.470 What is an SBLC?

120.471 Records.

120.472 Reports to SBA.

120.473 Change of ownership or control.

120.474 Prohibited financing.
Federal Register / Vol. 61, No. 21 / Wednesday, January 31, 1996 / Rules and Regulations 3237

120.475 Audits.

120.476 Suspension or revocation.

Subpart E—Loan Administration

120.500 General.

Servicing

120.510 Servicing direct and immediate

participation loans.

120.511 Servicing guaranteed loans.

120.512 Who services the loan after SBA

honors its guarantee?

120.513 What servicing actions require the

prior written consent of SBA?

SBA’S Purchase of a Guaranteed Portion

120.520 When does SBA honor its

guarantee?

120.521 What interest rate applies after

SBA purchases its guaranteed portion?

120.522 How much accrued interest does

SBA pay to the Lender or Registered

Holder when SBA purchases the

guaranteed portion?

120.523 What is the ‘‘earliest uncured

payment default’’?

120.524 When is SBA released from

liability on its guarantee?

Deferment, Extension of Maturity and Loan

Moratorium

120.530 Deferment of payment.

120.531 Extension of maturity.

120.532 What is a loan Moratorium?

Liquidation of Collateral

120.540 What are SBA’s policies

concerning liquidation of collateral?

Homestead Protection for Farmers

120.550 What is homestead protection for

farmers?

120.551 Who is eligible for homestead

protection?

120.552 Lease.

120.553 Appeal.

120.554 Conflict of laws.

Subpart F—Secondary Market

Fiscal and Transfer Agent (FTA)

120.600 Definitions.

120.601 SBA Secondary Market.

Certificates

120.610 Form and terms of Certificates.

120.611 Pools backing Pool Certificates.

120.612 Loans eligible to back Certificates.

120.613 Secondary Participation Guarantee

Agreement.

The SBA Guarantee of a Certificate

120.620 SBA guarantee of a Pool Certificate.

120.621 SBA guarantee of an Individual

Certificate.

Pool Assemblers

120.630 Qualifications to be a Pool

Assembler.

120.631 Suspension or termination of Pool

Assembler.

Miscellaneous Provisions

120.640 Administration of the Pool and

Individual Certificates.

120.641 Disclosure to purchasers.

120.642 Requirements before the FTA

issues Pool Certificates.

120.643 Requirements before the FTA

issues Individual Certificate.

120.644 Transfers of Certificates.

120.645 Redemption of Certificates.

120.650 Registration duties of FTA in

Secondary Market.

120.651 Claim to FTA by Registered Holder

to replace Certificate.

120.652 FTA fees.

Suspension or Revocation of Participant in

Secondary Market

120.660 Suspension or revocation.

Subpart G—Microloan Demonstration

Program

120.700 What is the Microloan Program?

120.701 Definitions.

120.702 Are there limitations on who can

be an Intermediary or on where an

Intermediary may operate?

120.703 How does an organization apply to

become an Intermediary?

120.704 How are applications evaluated?

120.705 What is a Specialized

Intermediary?

120.706 What are the terms and conditions

of an Intermediary SBA loan?

120.707 What conditions apply to loans by

Intermediaries to Microloan borrowers?

120.708 What is the Intermediary’s

financial contribution?

120.709 What is the Microloan Revolving

Fund?

120.710 What is the Loan Loss Reserve

Fund?

120.711 What rules govern Intermediaries?

120.712 How does an Intermediary get a

grant to assist Microloan Borrowers?

120.713 Does SBA provide technical

assistance to Intermediaries?

120.714 How does a non-Intermediary get a

grant?

120.715 Does SBA guarantee any loans an

Intermediary obtains from another

source?

Subpart H—Development Company Loan

Program (504)

120.800 What is the purpose of the 504

program?

120.801 How is a 504 Project financed?

120.802 Definitions.

Certification Procedures to Become a CDC

120.810 Applications for certification as a

CDC.

120.811 Public notice of CDC certification

application.

120.812 Probationary period for newly

certified CDCs.

Requirements for CDC Certification and

Operation

120.820 CDC non-profit status.

108.821 CDC Area of Operations.

120.822 CDC membership.

120.823 CDC Board of Directors.

120.824 Professional management and staff.

120.825 Financial ability to operate.

120.826 Basic requirements for operating a

CDC.

120.827 Services a CDC provides to small

businesses.

120.828 Minimum level of CDC lending

activity.

120.829 Job Opportunity average a CDC

must maintain.

120.830 Reports a CDC must submit.

Extending a CDC’s Area of Operations

120.835 Application to extend an Area of

Operations.

120.836 Public notice and opportunity for

response.

120.837 SBA decision on application for

extension.

120.838 Expiration of existing, temporary

expansions.

120.839 Case-by-case extensions.

Accredited Lenders Program

120.840 Accredited Lenders Program (ALP).

Premier Certified Lenders Program

120.845 Premier Certified Lenders Program.

Associate Development Companies (ADCs)

120.850 ADC functions.

120.851 ADC eligibility and operating

requirements.

120.852 Suspension and revocation of

ADCs.

Ethical Requirements

120.855 CDC and ADC ethical

requirements.

Project Economic Development Goals

120.860 Required objectives.

120.861 Job creation or retention.

120.862 Other economic development

objectives.

Leasing Policies Specific to 504 Loans

120.870 Leasing Project Property.

120.871 Leasing part of an existing building

to another business.

Loan-Making Policies Specific to 504 Loans

120.880 Basic eligibility requirements.

120.881 Ineligible Projects for 504 loans.

120.882 Eligible Project costs for 504 loans.

120.883 Eligible administrative costs for

504 loans.

120.884 Ineligible costs for 504 loans.

Interim Financing

120.890 Source of interim financing.

120.891 Certifications of disbursement and

completion.

120.892 Certifications of no adverse change.

Permanent Financing

120.900 What are the sources of permanent

financing?

The Borrower’s Contribution

120.910 How much must the Borrower

contribute?

120.911 Land contributions.

120.912 Borrowed contributions.

120.913 May an SBIC provide the

contribution?

Third Party Loans

120.920 The first lien position.

120.921 Terms of Third Party loans.

120.922 Pre-existing debt on the Project

Property.

120.923 What are the policies on

subordination?

120.924 Prepayment of subordinate

financing.

120.925 Preferences.

120.926 Referral fees.

504 Loans and Debentures

120.930 Amount.

120.931 504 lending limits.
3238 Federal Register / Vol. 61, No. 21 / Wednesday, January 31, 1996 / Rules and Regulations

120.932 Interest rate.

120.933 Maturity.

120.934 Collateral.

120.935 Deposit.

120.936 Subordination to CDC.

120.937 Assumption.

120.938 Default.

120.939 Borrower prohibition.

120.940 Prepayment of the 504 loan or

Debenture.

120.941 Certificates.

Debenture Sales and Service Agents

120.950 SBA and CDC must appoint agents.

120.951 Selling agent.

120.952 Fiscal agent.

120.953 Trustee.

120.954 Central Servicing Agent.

120.955 Agent bonds and records.

120.956 Suspension or revocation of

brokers and dealers.

Closings

120.960 Responsibility for closing.

120.961 Construction escrow accounts.

Servicing and Fees

120.970 Servicing of 504 loans and

Debentures.

120.971 Allowable fees paid by Borrower.

120.972 Oversight and evaluation of CDCs

and ADCs.

CDR Transfer, Suspension and Revocation

120.980 Transfer of CDC to ADC status.

120.981 Voluntary transfer and surrender of

CDC certification.

120.982 Correcting CDC servicing

deficiencies.

120.983 Transfer of CDC servicing to SBA

or another CDC.

120.984 Suspension or revocation of CDC

certification.

Enforceability of 501, 502 and 503 Loans and

Other Laws

120.990 501, 502 and 503 loans.

120.991 Effect of other laws.

Authority: 15 U.S.C 634(b)(6) and 636(a)

and (h).

General Descriptions of SBA’s Business Loan

Programs

§ 120.1 Which loan programs does this

part cover?

This Part regulates SBA’s financial

assistance to small businesses under its

general business loan programs (‘‘7(a)

loans’’) authorized by section 7(a) of the

Small Business Act (‘‘the Act’’), 15

U.S.C. 636(a), its microloan

demonstration loan program

(‘‘Microloans’’) authorized by section

7(m) of the Act, 15 U.S.C. 636(m), and

its development company program

(‘‘504 loans’’) authorized by Title V of

the Small Business Investment Act, 15

U.S.C. 695 to 697f (‘‘Title V’’). These

three programs constitute the business

loan programs of the SBA.

§ 120.2 Descriptions of the business loan

programs.

(a) 7(a) loans. (1) 7(a) loans provide

financing for general business purposes

and may be:

(i) A direct loan by SBA;

(ii) An immediate participation loan

by a Lender and SBA; or

(iii) A guaranteed loan (deferred

participation) by which SBA guarantees

a portion of a loan made by a Lender.

(2) A guaranteed loan is initiated by

a Lender agreeing to make an SBA

guaranteed loan to a small business and

applying to SBA for SBA’s guarantee

under a blanket guarantee agreement

(participation agreement) between SBA

and the Lender. If SBA agrees to

guarantee (authorizes) a portion of the

loan, the Lender funds and services the

loan. If the small business defaults on

the loan, SBA’s guarantee requires SBA

to purchase its portion of the

outstanding balance, upon demand by

the Lender and subject to specific

conditions. Regulations specific to 7(a)

loans are found in subpart B of this part.

(b) Microloans. SBA makes loans and

loan guarantees to non-profit

Intermediaries that make short-term

loans up to $25,000 to eligible small

businesses for general business

purposes, except payment of personal

debts. SBA also makes grants to

Intermediaries for use in providing

management assistance and counseling

to small businesses. Regulations specific

to these loans are found in subpart G of

this part.

(c) 504 loans. Projects involving 504

loans require long-term fixed-asset

financing for small businesses. A

Certified Development Company (CDC)

provides the final portion of this

financing with a 504 loan made from the

proceeds of a Debenture issued by the

CDC, guaranteed 100 percent by SBA

(with the full faith and credit of the

United States), and sold to investors.

The regulations specific to these loans

are found in subpart H of this part.

§ 120.3 Pilot programs.

The Administrator of SBA may from

time to time suspend, modify, or waive

rules for a limited period of time to test

new programs or ideas. The

Administrator shall publish a document

in the Federal Register explaining the

reasons for these actions.

Subpart A—Policies Applying to All

Business Loans

Definitions

§ 120.10 Definitions.

The following terms have the same

meaning wherever they are used in this

part. Defined terms are capitalized

wherever they appear.

Associate. (1) An Associate of a

Lender or CDC is:

(i) An officer, director, key employee,

or holder of 20 percent or more of the

value of the Lender’s or CDC’s stock or

debt instruments, or an agent involved

in the loan process;

(ii) Any entity in which one or more

individuals referred to in paragraphs

(1)(i) of this definition or a Close

Relative of any such individual owns or

controls at least 20 percent.

(2) An Associate of a small business

is:

(i) An officer, director, owner of more

than 20 percent of the equity, or key

employee of the small business;

(ii) Any entity in which one or more

individuals referred to in paragraphs

(2)(i) of this definition owns or controls

at least 20 percent; and

(iii) Any individual or entity in

control of or controlled by the small

business (except a Small Business

Investment Company (‘‘SBIC’’) licensed

by SBA).

(3) For purposes of this definition, the

time during which an Associate

relationship exists commences six

months before the following dates and

continues as long as the certification,

participation agreement, or loan is

outstanding:

(i) For a CDC, the date of certification

by SBA;

(ii) For a Lender, the date of

application for a loan guarantee on

behalf of an applicant; or

(iii) For a small business, the date of

the loan application to SBA, the CDC,

the Intermediary, or the Lender.

Authorization is SBA’s written

agreement providing the terms and

conditions under which SBA will make

or guarantee business loans. It is not a

contract to make a loan.

Borrower is the obligor of an SBA

business loan.

Certified Development Company

(‘‘CDC’’) is an entity authorized by SBA

to deliver 504 financing to small

businesses.

Close Relative is a spouse; a parent; or

a child or sibling, or the spouse of any

such person.

Eligible Passive Company is a small

entity or trust which does not engage in

regular and continuous business

activity, which leases real or personal

property to an Operating Company for

use in the Operating Company’s

business, and which complies with the

conditions set forth in § 120.111.

Intermediary is the entity in the

Microloan program that receives SBA

financial assistance and makes loans to

small businesses in amounts up to

$25,000.
Federal Register / Vol. 61, No. 21 / Wednesday, January 31, 1996 / Rules and Regulations 3239

Lender is an institution that has

executed a participation agreement with

SBA under the guaranteed loan

program.

Loan Instruments are the

Authorization, note, instruments of

hypothecation, and all other agreements

and documents related to a loan.

Operating Company is an eligible

small business actively involved in

conducting business operations now or

about to be located on real property

owned by an Eligible Passive Company,

or using or about to use in its business

operations personal property owned by

an Eligible Passive Company.

Preference is any arrangement giving

a Lender or a CDC a preferred position

compared to SBA relating to the making,

servicing, or liquidation of a business

loan with respect to such things as

repayment, collateral, guarantees,

control, maintenance of a compensating

balance, purchase of a Certificate of

deposit or acceptance of a separate or

companion loan, without SBA’s

consent.

Rural Area is a political subdivision

or unincorporated area in a nonmetropolitan county (as defined by the

Department of Agriculture), or, if in a

metropolitan county, any such

subdivision or area with a resident

population under 20,000 which is

designated by SBA as rural.

Service Provider is an entity that

contracts with a Lender or CDC to

perform management, marketing, legal

or other services.

Subpart A—Policies Applying to All

Business Loans

Eligibility Requirements

§ 120.100 What are the basic eligibility

requirements for all applicants for SBA

business loans?

To be eligible for an SBA business

loan, a small business applicant must:

(a) Be an operating business (except

for loans to Eligible Passive Companies);

(b) Be organized for profit;

(c) Be located in the United States;

(d) Be small under the size

requirements of Part 121 of this chapter

(including affiliates). See subpart H of

this part for the size standards of Part

121 of this chapter which apply only to

504 loans; and

(e) Be able to demonstrate a need for

the desired credit.

§ 120.101 Credit not available elsewhere.

SBA provides business loan

assistance only to applicants for whom

the desired credit is not otherwise

available on reasonable terms from nonFederal sources. SBA requires the

Lender or CDC to certify or otherwise

show that the desired credit is

unavailable to the applicant on

reasonable terms and conditions from

non-Federal sources without SBA

assistance, taking into consideration the

prevailing rates and terms in the

community in or near where the

applicant conducts business, for similar

purposes and periods of time.

Submission of an application to SBA by

a Lender or CDC constitutes certification

by the Lender or CDC that it has

examined the availability of credit to the

applicant, has based its certification

upon that examination, and has

substantiation in its file to support the

certification.

§ 120.102 Funds not available from

alternative sources, including personal

resources of principals.

(a) An applicant for a business loan

must show that the desired funds are

not available from the personal

resources of any owner of 20 percent or

more of the equity of the applicant. SBA

will require the use of personal

resources from any such owner as an

injection to reduce the SBA funded

portion of the total financing package

(i.e., any SBA loans and any other

financing, including loans from any

other source) when that owner’s liquid

assets exceed the amounts specified in

paragraphs (a)(1) through (3) of this

section. When the total financing

package:

(1) Is $250,000 or less, each 20

percent owner of the applicant must

inject any personal liquid assets which

are in excess of two times the total

financing package or $100,000,

whichever is greater;

(2) Is between $250,001 and $500,000,

each 20 percent owner of the applicant

must inject any personal liquid assets

which are in excess of one and one-half

times the total financing package or

$500,000, whichever is greater;

(3) Exceeds $500,000, each 20 percent

owner of the applicant must inject any

personal liquid assets which are in

excess of one times the total financing

package or $750,000, whichever is

greater.

(b) Any liquid assets in excess of the

applicable amount set forth in

paragraph (a) of this section must be

used to reduce the SBA portion of the

total financing package. These funds

must be injected prior to the

disbursement of the proceeds of any

SBA financing.

(c) For purposes of this section, liquid

assets means cash or cash equivalent,

including savings accounts, CDs, stocks,

bonds, or other similar assets. Equity in

real estate holdings and other fixed

assets are not to be considered liquid

assets.

§ 120.103 Are farm enterprises eligible?

Federal financial assistance to

agricultural enterprises is generally

made by the United States Department

of Agriculture (USDA), but may be made

by SBA under the terms of a

Memorandum of Understanding

between SBA and USDA. Farm-related

businesses which are not agricultural

enterprises are eligible businesses under

SBA’s business loan programs.

§ 120.104 Are businesses financed by

SBICs eligible?

SBA may make or guarantee loans to

a business financed by an SBIC if SBA’s

collateral position will be superior to

that of the SBIC. SBA may also make or

guarantee a loan to an otherwise eligible

small business which temporarily is

owned or controlled by an SBIC under

the regulations in part 107 of this

chapter. SBA neither guarantees SBIC

loans nor makes loans jointly with

SBICs.

§ 120.105 Special consideration for

veterans.

SBA will give special consideration to

a small business owned by a veteran or,

if the veteran chooses not to apply, to

a business owned or controlled by one

of the veteran’s dependents. If the

veteran is deceased or permanently

disabled, SBA will give special

consideration to one survivor or

dependent. SBA will process the

application of a business owned or

controlled by a veteran or dependent

promptly, resolve close questions in the

applicant’s favor, and pay particular

attention to maximum loan maturity.

For SBA loans, a veteran is a person

honorably discharged from active

military service.

Ineligible Businesses and Eligible Passive

Companies

§ 120.110 What businesses are ineligible

for SBA business loans?

The following types of businesses are

ineligible:

(a) Non-profit businesses (for-profit

subsidiaries are eligible);

(b) Financial businesses primarily

engaged in the business of lending, such

as banks, finance companies, and factors

(pawn shops, although engaged in

lending, may qualify in some

circumstances);

(c) Passive businesses owned by

developers and landlords that do not

actively use or occupy the assets

acquired or improved with the loan

proceeds (except Eligible Passive

Companies under § 120.111);
3240 Federal Register / Vol. 61, No. 21 / Wednesday, January 31, 1996 / Rules and Regulations

(d) Life insurance companies;

(e) Businesses located in a foreign

country (businesses in the U.S. owned

by aliens may qualify);

(f) Pyramid sale distribution plans;

(g) Businesses deriving more than

one-third of gross annual revenue from

legal gambling activities;

(h) Businesses engaged in any illegal

activity;

(i) Private clubs and businesses which

limit the number of memberships for

reasons other than capacity;

(j) Government-owned entities (except

for businesses owned or controlled by a

Native American tribe);

(k) Businesses principally engaged in

teaching, instructing, counseling or

indoctrinating religion or religious

beliefs, whether in a religious or secular

setting;

(l) Consumer and marketing

cooperatives (producer cooperatives are

eligible);

(m) Loan packagers earning more than

one third of their gross annual revenue

from packaging SBA loans;

(n) Businesses with an Associate who

is incarcerated, on probation, on parole,

or has been indicted for a felony or a

crime of moral turpitude;

(o) Businesses in which the Lender or

CDC, or any of its Associates owns an

equity interest;

(p) Businesses which:

(1) Present live performances of a

prurient sexual nature; or

(2) Derive directly or indirectly more

than de minimis gross revenue through

the sale of products or services, or the

presentation of any depictions or

displays, of a prurient sexual nature;

(q) Unless waived by SBA for good

cause, businesses that have previously

defaulted on a Federal loan or Federally

assisted financing, resulting in the

Federal government or any of its

agencies or Departments sustaining a

loss in any of its programs, and

businesses owned or controlled by an

applicant or any of its Associates which

previously owned, operated, or

controlled a business which defaulted

on a Federal loan (or guaranteed a loan

which was defaulted) and caused the

Federal government or any of its

agencies or Departments to sustain a

loss in any of its programs. For purposes

of this section, a compromise agreement

shall also be considered a loss;

(r) Businesses primarily engaged in

political or lobbying activities; and

(s) Speculative businesses (such as oil

wildcatting).

§ 120.111 What conditions must an

Eligible Passive Company satisfy?

An Eligible Passive Company must

use loan proceeds to acquire or lease,

and/or improve or renovate real or

personal property (including eligible

refinancing) that it leases to an

Operating Company for the conduct of

the Operating Company’s business. Any

ownership structure or legal form may

qualify as an Eligible Passive Company.

(a) Conditions that apply to all legal

forms:

(1) The Operating Company must be

an eligible small business, and the

proposed use of the proceeds must be an

eligible use if the Operating Company

were obtaining the financing directly;

(2) The Eligible Passive Company

(with the exception of a trust) and the

Operating Company each must be small

under the appropriate size standards in

part 121 of this chapter;

(3) The lease between the Eligible

Passive Company and the Operating

Company must be in writing and must

be subordinated to SBA’s mortgage,

trust deed lien, or security interest on

the property. Also, the Eligible Passive

Company (as landlord) must furnish as

collateral for the loan an assignment of

all rents paid under the lease;

(4) The lease between the Eligible

Passive Company of the Operating

Company, including options to renew

exercisable solely by the Operating

Company, must have a remaining term

at least equal to the term of the loan;

(5) The Operating Company must be

a guarantor or a co-borrower (with the

Eligible Passive Company) of the loan

(in a 7(a) loan including working

capital, the Operating Company must be

a co-borrower); and

(6) Each holder of an ownership

interest constituting at least 20 percent

of the Eligible Passive Company and the

Operating Company must guarantee the

loan (the trustee shall execute the

guarantee on behalf of any trust).

(b) Additional conditions that apply

to trusts. The eligibility status of the

trustor will determine trust eligibility.

All donors to the trust will be deemed

to have trustor status for eligibility

purposes. A trust qualifying as an

Eligible Passive Company may engage in

other activities as authorized by its trust

agreement. The trustee must warrant

and certify that the trust will not be

revoked or substantially amended for

the term of the loan without the consent

of SBA. The trustor must guarantee the

loan. For purposes of this section, the

trustee shall certify to SBA that:

(1) The trustee has authority to act;

(2) The trust is not regarded as a

grantor trust for tax purposes;

(3) The trust has the authority to

borrow funds, pledge trust assets, and

lease the property to the Operating

Company;

(4) The trustee has provided accurate,

pertinent language from the trust

agreement confirming the above; and

(5) The trustee has provided and will

continue to provide SBA with a true and

complete list of all trustors and donors.

Uses of Proceeds

§ 120.120 What are eligible uses of

proceeds?

A small business must use an SBA

business loan for sound business

purposes. The uses of proceeds are

prescribed in each loan’s Authorization.

(a) A Borrower may use loan proceeds

from any SBA loan to:

(1) Acquire land (by purchase or

lease);

(2) Improve a site (e.g., grading,

streets, parking lots, landscaping),

including up to 5 percent for

community improvements such as curbs

and sidewalks;

(3) Purchase one or more existing

buildings;

(4) Convert, expand or renovate one or

more existing buildings;

(5) Construct one or more new

buildings; and/or

(6) Acquire (by purchase or lease) and

install fixed assets (for a 504 loan, these

assets must have a useful life of at least

10 years and be at a fixed location,

although short-term financing for

equipment, furniture, and furnishings

may be permitted where essential to and

a minor portion of the 504 Project).

(b) A Borrower may also use 7(a) and

microloan proceeds for:

(1) Inventory;

(2) Supplies;

(3) Raw materials; and

(4) Working capital (if the Operating

Company is a co-Borrower with an

Eligible Passive Company, part of the

loan proceeds may be applied for

working capital if used for that purpose

only by the Operating Company).

(c) A Borrower may use 7(a) loan

proceeds for refinancing certain

outstanding debts.

§ 120.130 Restrictions on uses of

proceeds.

SBA will not authorize nor may a

Borrower use loan proceeds for the

following purposes (including the

replacement of funds used for any such

purpose):

(a) Payments, distributions or loans to

Associates of the applicant (except for

ordinary compensation for services

rendered);

(b) Refinancing a debt owed to a

Small Business Investment Company

(‘‘SBIC’’);

(c) Floor plan financing or other

revolving line credit, except under

§ 120.390;
Federal Register / Vol. 61, No. 21 / Wednesday, January 31, 1996 / Rules and Regulations 3241

(d) Investments in real or personal

property acquired and held primarily

for sale, lease, or investment (except for

a loan to an Eligible Passive Company

or to a small contractor under

§ 120.310);

(e) A purpose which does not benefit

the small business; or

(f) Any use restricted by §§ 120.201

through 120.203 and 120.884 (specific

to 7(a) loans and 504 loans

respectively).

§ 120.131 Leasing part of new

construction or existing building to another

business.

(a) If the SBA business loan involves

the construction of a new building, a

Borrower may lease up to 33% of the

square footage of rentable property (total

square footage of all buildings or

facilities used for business operations)

for a short term to any third party if

reasonable growth projections show that

the Borrower will need additional space

within three years and will use all of the

additional space within ten years. If the

Borrower is an Eligible Passive

Company leasing 100 percent of the

Project space to an Operating Company,

the Operating Company may sublease

up to 33 percent to a third party under

the same conditions.

(b) If the SBA business loan involves

the acquisition, renovation, or

reconstruction of an existing building,

the Borrower (or Operating Company, if

the Borrower is an Eligible Passive

Company) must occupy at least 51

percent of the Rentable Property. The

balance of the Rentable Property may be

leased out to any third party, if the loan

proceeds were not used to remodel or

convert the space to be leased out. (For

504 loans, see also § 120.871.)

Ethical Requirements

§ 120.140 What ethical requirements apply

to participants?

Lenders, Intermediaries, CDCs, and

Associate Development Companies

(‘‘ADCs’’) (in this section, collectively

referred to as ‘‘Participants’’), must act

ethically and exhibit good character.

Ethical indiscretion of an Associate of a

Participant or a member of a CDC will

be attributed to the Participant. A

Participant must promptly notify SBA if

it obtains information concerning the

unethical behavior of an Associate. The

following are examples of such

unethical behavior. A Participant may

not:

(a) Self-deal;

(b) Have a real or apparent conflict of

interest with a small business with

which it is dealing (including any of its

Associates or an Associate’s Close

Relatives) or SBA;

(c) Own an equity interest in a

business that has received or is applying

to receive SBA financing (during the

term of the loan or within 6 months

prior to the loan application);

(d) Be incarcerated, on parole, or on

probation;

(e) Knowingly misrepresent or make a

false statement to SBA;

(f) Engage in conduct reflecting a lack

of business integrity or honesty;

(g) Be a convicted felon, or have an

adverse final civil judgment (in a case

involving fraud, breach of trust, or other

conduct) that would cause the public to

question the Participant’s business

integrity, taking into consideration such

factors as the magnitude, repetition,

harm caused, and remoteness in time of

the activity or activities in question;

(h) Accept funding from any source

that restricts, prioritizes, or conditions

the types of small businesses that the

Participant may assist under an SBA

program or that imposes any conditions

or requirements upon recipients of SBA

assistance inconsistent with SBA’s loan

programs or regulations;

(i) Fail to disclose to SBA all

relationships between the small

business and its Associates (including

Close Relatives of Associates), the

Participant, and/or the lenders financing

the Project of which it is aware or

should be aware;

(j) Fail to disclose to SBA whether the

loan will:

(1) Reduce the exposure of a

Participant or an Associate of a

Participant in a position to sustain a

loss;

(2) Directly or indirectly finance the

purchase of real estate, personal

property or services (including

insurance) from the Participant or an

Associate of the Participant;

(3) Repay or refinance a debt due a

Participant or an Associate of a

Participant; or

(4) Require the small business, or an

Associate (including Close Relatives of

Associates), to invest in the Participant

(except for institutions which require an

investment from all members as a

condition of membership, such as a

Production Credit Association);

(k) Issue a real estate forward

commitment to a builder or developer;

or

(l) Engage in any activity which taints

its objective judgment in evaluating the

loan.

Credit Criteria for SBA Loans

§ 120.150 What are SBA’s lending criteria?

The applicant (including an Operating

Company) must be creditworthy. Loans

must be so sound as to reasonably

assure repayment. SBA will consider:

(a) Character, reputation, and credit

history of the applicant (and the

Operating Company, if applicable), its

Associates, and guarantors;

(b) Experience and depth of

management;

(c) Strength of the business;

(d) Past earnings, projected cash flow,

and future prospects;

(e) Ability to repay the loan with

earnings from the business;

(f) Sufficient invested equity to

operate on a sound financial basis;

(g) Potential for long-term success;

(h) Nature and value of collateral

(although inadequate collateral will not

be the sole reason for denial of a loan

request); and

(i) The effect any affiliates (as defined

in part 121 of this chapter) may have on

the ultimate repayment ability of the

applicant.

§ 120.151 What is the statutory limit for

total loans to a Borrower?

The aggregate amount of the SBA

portions of all loans to a single

Borrower, including the Borrower’s

affiliates as defined in part 121 of this

chapter, may not exceed a guarantee

amount of $750,000, except as otherwise

authorized by statute for a specific loan

program. The amount of any loan

received by an Eligible Passive

Company applies to the loan limit of

both the Eligible Passive Company and

the Operating Company.

§ 120.160 Loan conditions.

The following requirements are

normally required by SBA for all

business loans:

(a) Personal guarantees. Holders of at

least a 20 percent ownership interest

generally must guarantee the loan. SBA,

in its discretion, consulting with the

Participating Lender, may require other

appropriate individuals to guarantee the

loan as well, except SBA will not

require personal guarantees from those

owning less than 5% ownership.

(b) Appraisals. SBA may require

professional appraisals of the

applicant’s and principals’ assets, a

survey, or a feasibility study.

(c) Hazard Insurance. SBA requires

hazard insurance on all collateral.

(d) Taxes. The applicant may not use

any of the proceeds to pay past-due

Federal and state payroll taxes.

Requirements Imposed Under Other Laws

and Orders

§ 120.170 Flood insurance.

Under the Flood Disaster Protection

Act of 1973 (Sec. 205(b) of Pub. L. 93–

234; 87 Stat. 983 (42 U.S.C. 4000 et

seq.)), a loan recipient must obtain flood

insurance if any building (including
3242 Federal Register / Vol. 61, No. 21 / Wednesday, January 31, 1996 / Rules and Regulations

mobile homes), machinery, or

equipment acquired, installed,

improved, constructed, or renovated

with the proceeds of SBA financial

assistance is located in a special flood

hazard area. The requirement applies

also to any inventory (business loan

program), fixtures or furnishings

contained or to be contained in the

building. Mobile homes on a foundation

are buildings. SBA, Lenders, CDCs, and

Intermediaries must notify Borrowers

that flood insurance must be

maintained.

§ 120.171 Compliance with child support

obligations.

Any holder of 50% or more of the

ownership interest in the recipient of an

SBA loan must certify that he or she is

not more than 60 days delinquent on

any obligation to pay child support

arising under:

(a) An administrative order;

(b) A court order;

(c) A repayment agreement between

the holder and a custodial parent; or

(d) A repayment agreement between

the holder and a State agency providing

child support enforcement services.

§ 120.172 Flood-plain and wetlands

management.

(a) All loans must conform to

requirements of Executive Orders

11988, ‘‘Flood Plain Management’’ (3

CFR, 1977 Comp., p. 117) and 11990,

‘‘Protection of Wetlands’’ (3 CFR, 1977

Comp., p. 121). Lenders, Intermediaries,

CDCs, and SBA must comply with

requirements applicable to them.

Applicants must show:

(1) Whether the location for which

financial assistance is proposed is in a

floodplain or wetland;

(2) If it is in a floodplain, that the

assistance is in compliance with local

land use plans; and

(3) That any necessary construction or

use permits will be issued.

(b) Generally, there is an 8-step

decision making process with respect to:

(1) Construction or acquisition of

anything, other than a building;

(2) Repair and restoration equal to

more than 50% of the market value of

a building; or

(3) Replacement of destroyed

structures.

(c) SBA may determine for the

following types of actions, on a case-bycase basis, that the full 8-step process is

not warranted and that only the first

step (determining if a proposed action is

in the base floodplain) need be

completed:

(1) Actions located outside the base

floodplain;

(2) Repairs, other than to buildings,

that are less than 50% of the market

value;

(3) Replacement of building contents,

materials, and equipment;

(4) Hazard mitigation measures;

(5) Working capital loans; or

(6) SBA loan assistance of $1,500,000

or less.

§ 120.173 Lead-based paint.

If loan proceeds are for the

construction or rehabilitation of a

residential structure, lead-based paint

may not be used on any interior surface,

or on any exterior surface that is readily

accessible to children under the age of

seven years.

§ 120.174 Earthquake hazards.

When loan proceeds are used to

construct a new building or an addition

to an existing building, the construction

must conform with the ‘‘National

Earthquake Hazards Reduction Program

(‘‘NEHRP’’) Recommended Provisions

for the Development of Seismic

Regulations for New Buildings’’ (which

can be obtained from the Federal

Emergency Management Agency,

Publications Office, Washington, D.C.)

or a code identified by SBA as being

substantially equivalent.

§ 120.175 Coastal barrier islands.

SBA and Intermediaries may not

make or guarantee any loan within the

Coastal Barrier Resource System.

§ 120.176 Compliance with other laws.

All SBA loans are subject to all

applicable laws, including (without

limitation) the civil rights laws (see

Parts 112, 113, 117 and 136 of this

chapter), prohibiting discrimination on

the grounds of race, color, national

origin, religion, sex, marital status,

disability or age. SBA requests

agreements or evidence to support or

document compliance with these laws,

including reports required by applicable

statutes or the regulations in this

chapter.

Enforceability Despite Rule Changes

§ 120.180 Are rules enforceable if they are

changed later?

Regulations and contractual

provisions in effect at the time of a

transaction govern an SBA loan

financing transaction, notwithstanding

subsequent rule or contract changes.

SBA may conduct an enforcement

action regarding any violation of

provisions of regulations or contracts

applicable at the time, but no longer in

effect or in use.

Loan Applications

120.190 Where does an applicant apply for

a loan?

An applicant for a business loan

should apply to:

(a) A Lender for a guaranteed or

immediate participation loan;

(b) A CDC for a 504 loan;

(c) An Intermediary for a Microloan;

or

(d) SBA for a direct loan.

§ 120.191 The contents of a business loan

application.

For most business loans, SBA requires

that an application for a business loan

contain, among other things, a

description of the history and nature of

the business, the amount and purpose of

the loan, the collateral offered for the

loan, current financial statements,

historical financial statements (or tax

returns if appropriate) for the past three

years, IRS tax verification, and a

business plan, when applicable.

Personal histories and financial

statements will be required from

principals of the applicant (and the

Operating Company, if applicable).

§ 120.192 Approval or denial.

Applicants receive notice of approval

or denial by the Lender, CDC,

Intermediary, or SBA, as appropriate.

Notice of denial will include the

reasons. If a loan is approved, an

Authorization will be issued.

§ 120.193 Reconsideration after denial.

An applicant or recipient of a

business loan may request

reconsideration of a denied loan or loan

modification request within 6 months of

denial. Applicants denied due to a size

determination can appeal that

determination under part 121 of this

chapter. All others must be submitted to

the office that denied the original

request. To prevail, the applicant must

demonstrate that it has overcome all

legitimate reasons for denial. Six

months after denial, a new application

is required. If the reconsideration is

denied, a second and final

reconsideration may be considered by

the Associate Administrator for

Financial Assistance (AA/FA), whose

decision is final.

Computerized SBA Forms

§ 120.194 Use of computer forms.

Any Applicant or Participant may use

computer generated SBA application

forms, closing forms, and other forms

designated by SBA if the forms are exact

reproductions of SBA forms.

Reporting of Fees
Federal Register / Vol. 61, No. 21 / Wednesday, January 31, 1996 / Rules and Regulations 3243

§ 120.195 Disclosure of fees.

An Applicant for a business loan must

identify to SBA the name of each Agent

as defined in part 103 of this chapter

that helped the applicant obtain the

loan, describing the services performed,

and disclosing the amount of each fee

paid or to be paid by the applicant to

the Agent in conjunction with the

performance of those services.

Subpart B—Policies Specific to 7(a)

Loans

Bonding Requirements

§ 120.200 What bonding requirements

exist during construction?

On 7(a) loans which finance

construction, the Borrower must supply

a 100 percent payment and performance

bond and builder’s risk insurance,

unless waived by SBA.

Limitations on Use of Proceeds

§ 120.201 Refinancing unsecured or

undersecured loans.

A Borrower may not use 7(a) loan

proceeds to pay any creditor in a

position to sustain a loss causing a shift

to SBA of all or part of a potential loss

from an existing debt.

§ 120.202 Restrictions on loans for

changes in ownership.

A Borrower may not use 7(a) loan

proceeds to purchase a portion of a

business or a portion of another owner’s

interest. One or more current owners

may use loan proceeds to purchase the

entire interest of another current owner,

or a Borrower can purchase ownership

of an entire business.

Maturities; Interest Rates; Loan and

Guarantee Amounts

§ 120.210 What percentage of a loan may

SBA guarantee?

SBA’s guarantee percentage must not

exceed the applicable percentage

established in section 7(a) of the Act.

The maximum allowable guarantee

percentage on a loan will be determined

by the loan amount. As of October 12,

1995, the percentages are: Loans of

$100,000 or less may receive a

maximum guarantee of 80 percent. All

other loans may receive a maximum

guarantee of 75 percent, not to exceed

$750,000, unless otherwise authorized

by SBA.

§ 120.211 What limits are there on the

amounts of direct loans?

(a) The statutory limit for direct loans

made under the authority of section

7(a)(1)-(19) of the Small Business Act is

$350,000. SBA has established an

administrative limit of $150,000 for

direct loans. The AA/FA may authorize

acceptance of an application up to the

statutory limit.

(b) The statutory limit for direct loans

made under the authority of section

7(a)(20) is $750,000. SBA has

established an administrative limit of

$150,000. The Associate Administrator

for Minority Enterprise Development

may authorize the acceptance of an

application that exceeds the

administrative limit.

(c) The statutory limit on SBA’s

portion of an immediate participation

loan is $350,000. The administrative

limit is the lesser of 75 percent of the

loan or $150,000. The AA/FA may

authorize exceptions to the

administrative limit up to $350,000.

§ 120.212 What limits are there on loan

maturities?

The term of a loan shall be:

(a) The shortest appropriate term,

depending upon the Borrower’s ability

to repay;

(b) Ten years or less, unless it

finances or refinances real estate or

equipment with a useful life exceeding

ten years; and

(c) A maximum of 25 years, including

extensions. (A portion of a loan used to

acquire or improve real property may

have a term of 25 years plus an

additional period needed to complete

the construction or improvements.)

§ 120.213 What fixed interest rates may a

Lender charge?

(a) Fixed Rates for Guaranteed Loans.

A loan may have a reasonable fixed

interest rate. SBA periodically publishes

the maximum allowable rate in the

Federal Register.

(b) Direct loans. A statutory formula

based on the cost of money to the

Federal government determines the

interest rate on direct loans. SBA

publishes the rate periodically in the

Federal Register.

§ 120.214 What conditions apply for

variable interest rates?

A Lender may use a variable rate of

interest, upon SBA’s approval. SBA’s

maximum allowable rates apply only to

the initial rate on the date SBA received

the loan application. SBA shall approve

the use of a variable interest rate under

the following conditions:

(a) Frequency. The first change may

occur on the first calendar day of the

month following initial disbursement,

using the base rate (see paragraph (c) of

this section) in effect on the first

business day of the month. After that,

changes may occur no more often than

monthly.

(b) Range of fluctuation. The amount

of fluctuation shall be equal to the

movement in the base rate. The

difference between the initial rate and

the ceiling rate may be no greater than

the difference between the initial rate

and the floor rate.

(c) Base rate. The base rate shall be

the prime rate in effect on the first

business day of the month, printed in a

national financial newspaper published

each business day, or the SBA Optional

Peg Rate which SBA publishes quarterly

in the Federal Register.

(d) Maturities under 7 years. For loans

with maturities under seven years, the

maximum interest rate shall not exceed

two and one-quarter (2 1/4 ) percentage

points over the base rate.

(e) Maturities of 7 years or more. For

loans with maturities of seven or more

years, the maximum interest rate shall

not exceed two and three-quarters (2 3/

4 ) percentage points over the base rate.

(f) Amortization. Initial amortization

of principal and interest may be

recomputed and reassessed as interest

rates fluctuate, as directed by SBA. With

prior approval of SBA, the Lender may

use certain other amortization methods,

except that SBA does not allow balloon

payments.

§ 120.215 What interest rates apply to

smaller loans?

For a loan over $25,000 but not

exceeding $50,000, the interest rate may

be one percent more than the maximum

interest rate described above. For a

variable rate loan of $25,000 or less, the

maximum interest rate described above

may be increased by two percentage

points.

Fees for Guaranteed Loans

§ 120.220 Fees that Lender pays SBA.

(a) The Lender pays a guarantee fee to

SBA for each loan as follows:

Guaranteed portion of loan Fee measured as percentage of

guaranteed portion When payable

Lender may get

fee from borrower

When SBA refunds fee from borrower

12 Months or less .......................... 25% ............................................. With Guarantee

Application.

When SBA Approves Loan.If Application Withdrawn or Denied.1
3244 Federal Register / Vol. 61, No. 21 / Wednesday, January 31, 1996 / Rules and Regulations

Guaranteed portion of loan Fee measured as percentage of

guaranteed portion When payable

Lender may get

fee from borrower

When SBA refunds fee from borrower

More Than 12 months and Total

Guaranteed Portion Is $80,000

or Less.

2.0% of Guaranteed Portion ....... Within 90 days

of SBA Approval.

After First Disbursement.If Loan Cancelled and Never Disbursed.

More Than 12 Months and Amount

of Guaranteed Portion of Loan

That Is $250,000 or Less.

3% ............................................... Within 90 Days

of SBA Approval.

After First Disbursement.If Loan Cancelled and Never Disbursed.

More Than 12 Months and Amount

of Guaranteed Portion of Loan

Between $250,000 and

$500,000.

3.0% of 1st $250,000 plus 3.5%

of balance.

Within 90 Days

of SBA Approval.

After First Disbursement.If Loan Cancelled and Never Disbursed.

More Than 12 Months and Amount

of Guaranteed Portion of Loan

Exceeding $500,000.

3.0% of 1st $250,000 plus 3.5%

of next $250,000 plus 3.875%

of the Amount Exceeding

$500,000.

Within 90 Days

of SBA Approval.

After First Disbursement.If Loan Cancelled and Never Disbursed.

1Also, if SBA substantially changes the Lender’s loan terms and approves the loan, but the modified terms are unacceptable to the Borrower

or Lender. (The Lender must request refund in writing within 30 calendar days of the approval).

(b) If the guarantee fee is not paid,

SBA may terminate the guarantee. The

Borrower may use working capital loan

proceeds to reimburse the Lender for the

guarantee fee. Acceptance of the

guarantee fee by SBA shall not waive

any right of SBA arising from the

Lender’s misconduct or violation of any

provision of this part, the guarantee

agreement, the Authorization, or other

loan documents.

(c) The Lender shall also pay SBA an

annual service fee equal to 0.5 percent

of the outstanding balance of the

guaranteed portion of each loan. The

service fee cannot be charged to the

Borrower. SBA may institute a late fee

charge for delinquent payments of the

annual service fee to cover

administrative costs associated with

collecting delinquent fees.

§ 120.221 Fees which the Lender may

collect from a loan applicant.

(a) Service and packaging fees. The

Lender may charge an applicant

reasonable fees (customary for similar

Lenders in the geographic area where

the loan is being made) for packaging

and other services. The Lender must

advise the applicant in writing that the

applicant is not required to obtain or

pay for unwanted services. The

applicant is responsible for deciding

whether fees are reasonable. SBA may

review these fees at any time. Lender

must refund any such fee considered

unreasonable by SBA.

(b) Extraordinary servicing. Subject to

prior written SBA approval, if all or part

of a loan will have extraordinary

servicing needs, the Lender may charge

the applicant a service fee not to exceed

2 percent per year on the outstanding

balance of the part requiring special

servicing.

(c) Out-of-pocket expenses. The

Lender may collect from the applicant

necessary out-of-pocket expenses such

as filing or recording fees.

(d) Late payment fee. The Lender may

charge the Borrower a late payment fee

not to exceed 5 percent of the regular

loan payment.

(e) No prepayment fee. The Lender

may not charge a fee for full or partial

prepayment of a loan.

§ 120.222 Fees which the Lender or

Associate may not collect from the

Borrower or share with third parties.

The Lender or its Associate may not:

(a) Require the applicant or Borrower

to pay the Lender, an Associate, or any

party designated by either, any fees or

charges for goods or services, including

insurance, as a condition for obtaining

an SBA guaranteed loan (unless

permitted by this part);

(b) Charge an applicant any

commitment, bonus, broker,

commission, referral or similar fee;

(c) Charge points or add-on interest;

(d) Share any premium received from

the sale of an SBA guaranteed loan in

the secondary market with a Service

Provider, packager, or other loan-referral

source; or

(e) Charge the Borrower for legal

services, unless they are hourly charges

for requested services actually rendered.

Subpart C—Special Purpose Loans

§ 120.300 Statutory authority.

Congress has authorized several

special purpose programs in various

subsections of section 7(a) of the Act.

Generally, 7(a) loan policies, eligibility

requirements and credit criteria

enumerated in Subpart B of this part

apply to these programs. The sections of

this subpart prescribe the special

conditions applying to each special

purpose program. As with other

business loans, special purpose loans

are available only to the extent funded

by annual appropriations.

Disabled Assistance Loan Program (DAL)

§ 120.310 What assistance is available for

the disabled?

Section 7(a)(10) of the Act authorizes

SBA to guarantee or make direct loans

to the disabled. SBA distinguishes two

kinds of assistance:

(a) DAL–1. DAL–1 Financial

Assistance is available to non-profit

public or private organizations for

disabled individuals that employ such

individuals; or

(b) DAL–2. DAL–2 Financial

Assistance is available to:

(1) Small businesses wholly owned by

disabled individuals; and

(2) Disabled individuals to establish,

acquire, or operate a small business.

§ 120.311 Definitions.

(a) Organization for the disabled

means one which:

(1) Is organized under federal or state

law to operate in the interest of disabled

individuals;

(2) Is non-profit;

(3) Employs disabled individuals for

seventy-five percent of the time needed

to produce commodities or services for

sale; and

(4) Complies with occupational and

safety standards prescribed by the

Department of Labor.

(b) Disabled individual means a

person who has a permanent physical,

mental or emotional impairment, defect,

ailment, disease or disability which

limits the type of employment for which

the person would otherwise be

qualified.

§ 120.312 DAL–1 use of proceeds and

other program conditions.

(a) DAL–1 applicants must submit

appropriate documents to establish

program eligibility.
Federal Register / Vol. 61, No. 21 / Wednesday, January 31, 1996 / Rules and Regulations 3245

(b) Generally, applicants may use loan

proceeds for any 7(a) loan purposes.

Loan proceeds may not be used:

(1) To purchase or construct facilities

if construction grants and mortgage

assistance are available from another

Federal source; or

(2) For supportive services (expenses

incurred by a DAL–1 organization to

subsidize wages of low producers,

health and rehabilitation services,

management, training, education, and

housing of disabled workers).

(c) SBA does not consider a DAL–1

organization to have a conflict of

interest if one or more of its Associates

is an Associate of the Lender.

§ 120.313 DAL–2 use of proceeds and

other program conditions.

(a) The DAL–2 loan proceeds may be

used for any 7(a) loan purposes.

(b) An applicant may use DAL–2 loan

proceeds to acquire an eligible small

business without complying with the

change of ownership conditions in

§ 120.202.

(c) A DAL–2 applicant must submit

evidence from a physician, psychiatrist,

or other qualified professional as to the

permanent nature of the disability and

the limitation it places on the applicant.

§ 120.314 Resolving doubts about

creditworthiness.

For the purpose of the DAL Program,

SBA shall resolve doubts concerning the

creditworthiness of an applicant in

favor of the applicant. However, the

applicant must present satisfactory

evidence of repayment ability. Personal

guarantees of Associates are not

required for purposes of DAL–1

financial assistance.

§ 120.315 Interest rate and loan limit.

The interest rate on direct DAL loans

is three percent. There is an

administrative limit of $150,000 on a

direct DAL loan.

Businesses Owned by Low Income

Individuals

§ 120.320 Policy.

Section 7(a)(11) of the Act authorizes

SBA to guarantee or make direct loans

to establish, preserve or strengthen

small business concerns:

(a) Located in an area having high

unemployment according to the

Department of Labor;

(b) Located in an area in which a high

percentage of individuals have a low

income inadequate to satisfy basic

family needs; and

(c) More than 50 percent owned by

low income individuals.

Energy Conservation

§ 120.330 Who is eligible for an energy

conservation loan?

SBA may make or guarantee loans to

assist a small business to design,

engineer, manufacture, distribute,

market, install, or service energy devices

or techniques designed to conserve the

Nation’s energy resources.

§ 120.331 What devices or techniques are

eligible for a loan?

Eligible energy conservation devices

or techniques include:

(a) Solar thermal equipment;

(b) Photovoltaic cells and related

equipment;

(c) A product or service which

increases the energy efficiency of

existing equipment, methods of

operation or systems which use fossil

fuels, and which is on the Energy

Conservation Measures list of the

Secretary of Energy;

(d) Equipment producing energy from

wood, biological waste, grain or other

biomass energy sources;

(e) Equipment for cogeneration of

energy, district heating or production of

energy from industrial waste;

(f) Hydroelectric power equipment;

(g) Wind energy conversion

equipment; and

(h) Engineering, architectural,

consulting, or other professional

services necessary or appropriate for

any of the devices or techniques in

paragraphs (a) through (g) of this

section.

§ 120.332 What are the eligible uses of

proceeds?

(a) Acquire property. The Borrower

may use the loan proceeds to acquire

land necessary for imminent plant

construction, buildings, machinery,

equipment, furniture, fixtures, facilities,

supplies, and material needed to

accomplish any of the eligible program

purposes in § 120.330.

(b) Research and development. Up to

30% of loan proceeds may be used for

research and development:

(1) Of an existing product or service;

or

(2) A new product or service.

(c) Working capital. The Borrower

may use proceeds for working capital

for entering or expanding in the energy

conservation market.

§ 120.333 Are there any special credit

criteria?

In addition to regular credit

evaluation criteria, SBA shall weigh the

greater risk associated with energy

projects. SBA shall consider such

factors as quality of the product or

service, technical qualifications of the

applicant’s management, sales

projections, and financial status.

Export Working Capital Program (EWCP)

§ 120.340 What is the Export Working

Capital Program?

Under the EWCP, SBA guarantees

short-term working capital loans made

by participating lenders to exporters

(section 7(a)(14) of the Act). Loan

maturities may be for up to three years

with annual renewals. Proceeds can be

used only to finance export transactions.

Loans can be for single or multiple

export transactions. An export

transaction is the production and

payment associated with a sale of goods

or services to a foreign buyer.

§ 120.341 Who is eligible?

In addition to the eligibility criteria

applicable to all 7(a) loans, an applicant

must be in business for one full year at

the time of application, but not

necessarily in the exporting business.

SBA may waive this requirement if the

applicant has sufficient export trade

experience or other managerial

experience.

§ 120.342 What are eligible uses of

proceeds?

Loan proceeds may be used:

(a) To acquire inventory;

(b) To pay the manufacturing costs of

goods for export;

(c) To purchase goods or services for

export;

(d) To support standby letters of

credit;

(e) For pre-shipment working capital;

and

(f) For post-shipment foreign accounts

receivable financing.

§ 120.343 Collateral.

A Borrower must give SBA a first

security interest sufficient to cover 100

percent of the EWCP loan amount (such

as insured accounts receivable or letters

of credit). Collateral must be located in

the United States, its territories or

possessions.

§ 120.344 Unique requirements of the

EWCP.

(a) An applicant must submit cash

flow projections to support the need for

the loan and the ability to repay. After

the loan is made, the loan recipient

must submit continual progress reports.

(b) SBA does not limit the amount of

extraordinary servicing fees, as

referenced in § 120.221(b), under the

EWCP.

(c) SBA does not prescribe the interest

rates for the EWCP, but will monitor

these rates for reasonableness.

International Trade Loans
3246 Federal Register / Vol. 61, No. 21 / Wednesday, January 31, 1996 / Rules and Regulations

§ 120.345 Policy.

Section 7(a)(16) of the Act authorizes

SBA to guarantee loans to small

businesses that are:

(a) Engaged or preparing to engage in

international trade; or

(b) Adversely affected by import

competition.

§ 120.346 Eligibility.

(a) An applicant must establish that:

(1) The loan proceeds will

significantly expand an existing export

market or develop new export markets;

or

(2) The applicant business is

adversely affected by import

competition; and

(3) Upgrading facilities or equipment

will improve the applicant’s

competitive position.

(b) The applicant must have a

business plan reasonably supporting its

projected export sales.

§ 120.347 Use of proceeds.

The Borrower may use loan proceeds

to acquire, construct, renovate,

modernize, improve, or expand facilities

and equipment to be used in the United

States to produce goods or services

involved in international trade, and to

develop and penetrate foreign markets.

§ 120.348 Amount of guarantee.

SBA can guarantee up to $1,250,000

for a combination of fixed-asset

financing and working capital, supplies

and EWCP assistance. The fixed-asset

portion of the loan cannot exceed

$1,000,000 and the non-fixed-asset

portion cannot exceed $750,000.

Qualified Employee Trusts (ESOP)

§ 120.350 Policy.

Section 7(a)(15) of the Act authorizes

SBA to guarantee a loan to a qualified

employee trust (‘‘ESOP’’) to:

(a) Help finance the growth of its

employer’s small business; or

(b) Purchase ownership or voting

control of the employer.

§ 120.351 Definitions.

All terms specific to ESOPs have the

same definition for purposes of this

section as in the Internal Revenue

Service (IRS) Code (title 26 of the

United States Code) or regulations (26

CFR chapter I).

§ 120.352 Use of proceeds.

Loan proceeds may be used for two

purposes.

(a) Qualified employer securities. A

qualified employee trust may relend

loan proceeds to the employer by

purchasing qualified employer

securities. The small business concern

may use these funds for any general 7(a)

purpose.

(b) Control of employer. A qualified

employee trust may use loan proceeds

to purchase a controlling interest (51

percent) in the employer. Ownership

and control must vest in the trust by the

time the loan is repaid.

§ 120.353 Eligibility.

SBA may assist a qualified employee

trust (or equivalent trust) that meets the

requirements and conditions for an

ESOP prescribed in all applicable IRS,

Treasury and Department of Labor

(DOL) regulations. In addition, the

following conditions apply:

(a) The small business must provide

the funds needed by the trust to repay

the loan; and

(b) The small business must provide

adequate collateral.

§ 120.354 Creditworthiness.

In determining repayment ability,

SBA shall not consider the personal

assets of the employee-owners of the

trust. SBA shall consider the earnings

history and projected future earnings of

the employer small business. SBA may

consider the business and management

experience of the employee-owners.

Veterans Loan Program

§ 120.360 Which veterans are eligible?

SBA may guarantee or make direct

loans to a small business 51 percent

owned by one or more of the following

eligible veterans:

(a) Vietnam-era veterans who served

for a period of more than 180 days

between August 5, 1964, and May 7,

1975, and were discharged other than

dishonorably;

(b) Disabled veterans of any era with

a minimum compensable disability of

30 percent; or

(c) A veteran of any era who was

discharged for disability.

§ 120.361 Other conditions of eligibility.

(a) Management and daily operations

of the business must be directed by one

or more of the veteran owners whose

veteran status was used to qualify for

the loan.

(b) This direct loan program is

available only if private sector financing

and guaranteed loans are not available.

(c) A veteran may qualify only once

for this program on a direct loan basis.

Pollution Control Program

§ 120.370 Policy.

Section 7(a)(12) of the Act authorizes

SBA to guarantee loans up to $1,000,000

to an eligible small business to plan,

design or install a pollution control

facility. An applicant must meet the

eligibility requirements for 7(a) loans.

Loans to Participants in the 8(a) Program

§ 120.375 Policy.

Section 7(a)(20) of the Act authorizes

SBA to provide direct (unilaterally or

together with Lenders) or guaranteed

loans to firms participating in the 8(a)

Program.

§ 120.376 Special requirements.

The following special conditions

apply (otherwise, 7(a) loan eligibility

criteria apply):

(a) The Associate Administrator of

Minority Enterprise Development

(‘‘MED’’) may waive the direct loan

administrative ceiling of $150,000, and

raise it to $750,000.

(b) The SBA portion of a guaranteed

loan must not exceed $750,000.

(c) The interest rate on a guaranteed

loan shall be the same as on 7(a)

guaranteed business loans. The interest

rate on a direct loan shall be one percent

less than on a regular direct loan.

(d) For a direct loan or SBA’s portion

of an immediate participation loan, SBA

shall subordinate its security interest on

all collateral to other debt of the

applicant.

§ 120.377 Use of proceeds.

The loan proceeds shall not be used

for debt refinancing. Only a

manufacturing concern may use loan

proceeds for working capital.

Defense Economic Transition Assistance

§ 120.380 Program.

Section 7(a)(21) of the Act authorizes

SBA to guarantee loans to help eligible

small businesses transition from defense

to civilian markets, or eligible

individuals adversely impacted by base

closures or defense cutbacks to acquire

or open and operate a small business.

§ 120.381 Eligibility.

(a) Eligible small businesses. A small

business is eligible if it has been

detrimentally impacted by the closure

(or substantial reduction) of a

Department of Defense installation, or

the termination (or substantial

reduction) of a Department of Defense

Program on which the small business

was a prime contractor, subcontractor,

or supplier at any tier.

(b) Eligible individual. An eligible

individual, for purposes of this program,

includes the following persons

involuntarily separated from their

position or voluntarily terminated under

a program offering inducements to

encourage early retirement:
Federal Register / Vol. 61, No. 21 / Wednesday, January 31, 1996 / Rules and Regulations 3247

(1) A member of the Armed Forces of

the United States (honorably

discharged);

(2) A civilian employee of the

Department of Defense; or

(3) An employee of a prime

contractor, sub-contractor, or supplier at

any tier of a Department of Defense

program.

(c) Defense loan and technical

assistance (DELTA). The DELTA

program provides financial and

technical assistance to defense

dependent small businesses which have

been adversely affected by defense

reductions. The goal of the program is

to assist these businesses to diversify

into the commercial market while

remaining part of the defense industrial

base. Complete information on

eligibility and other rules is available

from each SBA district office.

§ 120.382 Repayment ability.

SBA shall resolve reasonable doubts

concerning the small business’ proposed

business plan for transition to nondefense-related markets in favor of the

loan applicant in determining the sound

value of the proposed loan.

§ 120.383 Restrictions on loan processing.

Since greater risk may be associated

with a loan to an applicant under this

program, a Certified Lender or Preferred

Lender shall not make a defense

economic assistance loan under the PLP

or CLP programs.

CapLines Program

§ 120.390 Revolving credit.

(a) CapLines finances eligible small

businesses’ short-term, revolving and

non-revolving working-capital needs.

SBA regulations governing the 7(a) loan

program govern business loans made

under this program. Under CapLines,

SBA generally can guarantee up to

$750,000.

(b) CapLines proceeds can be used to

finance the cyclical, recurring, or other

identifiable short-term operating capital

needs of small businesses. Proceeds can

be used to create current assets or used

to provide financing against the current

assets that already exist.

Builders Loan Program

§ 120.391 What is the Builders Loan

Program?

Under section 7(a)(9) of the Act, SBA

may make or guarantee loans to finance

small general contractors to construct or

rehabilitate residential or commercial

property for resale. This program

provides an exception under specified

conditions to the general rule against

financing investment property.

‘‘Construct’’ and ‘‘rehabilitate’’ mean

only work done on-site to the structure,

utility connections and landscaping.

§ 120.392 Who may apply?

A construction contractor or homebuilder with a past history of profitable

construction or rehabilitation projects of

comparable type and size may apply.

An applicant may subcontract the work.

Subcontracts in excess of $25,000 may

require 100 percent payment and

performance bonds.

§ 120.393 Are there special application

requirements?

(a) An applicant must submit

documentation from:

(1) A mortgage lender indicating that

permanent mortgage money is available

to qualified purchasers to buy such

properties;

(2) A real estate broker indicating that

a market exists for the proposed

building and that it will be compatible

with its neighborhood; and

(3) An architect, appraiser or engineer

agreeing to make inspections and

certifications to support interim

disbursements.

(b) The Borrower may substitute a

letter from a qualified Lender for one or

more of the letters.

§ 120.394 What are the eligible uses of

proceeds?

A Borrower must use the loan

proceeds solely to acquire, construct or

substantially rehabilitate an individual

residential or commercial building for

sale. ‘‘Substantial’’ means rehabilitation

expenses of more than one-third of the

purchase price or fair market value at

the time of the application. A Borrower

may use up to 20 percent of the

proceeds to acquire land, and up to 5

percent for community improvements

such as curbs and sidewalks.

§ 120.395 What is SBA’s collateral

position?

SBA will require a lien on the

building which must be in no less than

a second position.

§ 120.396 What is the term of the loan?

The loan must not exceed sixty (60)

months plus the estimated time to

complete construction or rehabilitation.

§ 120.397 Are there any special

restrictions?

The borrower must not use loan

proceeds to purchase vacant land for

possible future construction or to

operate or hold rental property for

future rehabilitation. SBA may allow

rental of the property only if the rental

will improve the ability to sell the

property. The sale must be a legitimate

change of ownership.

Subpart D—Lenders

§ 120.400 Loan Guarantee Agreements.

SBA may enter into a Loan Guarantee

Agreement with a Lender to make

deferred participation (guaranteed)

loans. Such an agreement does not

obligate SBA to participate in any

specific proposed loan that a Lender

may submit. The existence of a Loan

Guarantee Agreement does not limit

SBA’s rights to deny a specific loan or

establish general policies. See also

§§ 120.441(b) and 120.451(d) concerning

Supplemental Guarantee Agreements.

Participation Criteria

§ 120.410 Requirements for all

participating Lenders.

A Lender must:

(a) Have a continuing ability to

evaluate, process, close, disburse,

service and liquidate small business

loans;

(b) Be open to the public for the

making of such loans (not be a financing

subsidiary, engaged primarily in

financing the operations of an affiliate);

(c) Have continuing good character

and reputation, and otherwise meet and

maintain the ethical requirements of

§ 120.140; and

(d) Be supervised and examined by a

State or Federal regulatory authority,

satisfactory to SBA.

§ 120.411 Preferences.

An agreement to participate under the

Act may not establish any Preferences in

favor of the Lender.

§ 120.412 Other services Lenders may

provide Borrowers.

Subject to § 120.140 Lenders, their

Associates or the designees of either

may provide services to and contract for

goods with a Borrower only after full

disbursement of the loan to the small

business or to an account not controlled

by the Lender, its Associate, or the

designee. A Lender, an Associate, or a

designee providing such services must

do so under a written contract with the

small business, based on time and

hourly charges, and must maintain time

and billing records for examination by

SBA. Fees cannot exceed those charged

by established professional consultants

providing similar services. See also

§ 120.195.

§ 120.413 Advertisement of relationship

with SBA.

A Lender may refer in its advertising

to its participation with SBA. The

advertising may not:

(a) State or imply that the Lender, or

any of its Borrowers, has or will receive

preferential treatment from SBA;
3248 Federal Register / Vol. 61, No. 21 / Wednesday, January 31, 1996 / Rules and Regulations

(b) Be false or misleading; or

(c) Make use of SBA’s seal.

Pledging Notes or Transferring

Unguaranteed Portion

§ 120.420 Financings by Nondepository

Lenders.

(a) A Small Business Lending

Company regulated by SBA or a

Business and Industrial Development

Company (‘‘Nondepository Lender’’)

may pledge the notes evidencing SBA

guaranteed loans or sell the

unguaranteed portions of such loans if

SBA, notwithstanding the provisions of

§ 120.453(c), in its sole discretion, gives

its prior written consent. The Lender

must be secure financially and have a

history of compliance with SBA’s

regulations and any other applicable

state or Federal statutory and regulatory

requirements.

(b) The Nondepository Lender, SBA,

and any third party involved in the

transaction, as determined by SBA in its

sole discretion, must enter into a written

agreement satisfactory to SBA

acknowledging SBA’s interest as

guarantor of the subject loans and

accepting that all relevant third parties

agree to recognize and uphold those

interests under the Act, this part, and

the contractual provisions of SBA’s

Loan Guarantee Agreement. In any such

agreement, the parties must agree to the

following conditions:

(1) The Nondepository Lender, SBA,

or a third party custodian agreeable to

SBA, will hold all pertinent Loan

Instruments, and the Nondepository

Lender will continue to service the

loans after the pledge or transfer is

made; and

(2) The Nondepository Lender must

retain an economic risk in and bear the

ultimate risk of loss on the

unguaranteed portions. This must be

demonstrated to SBA’s satisfaction by

establishing a sufficient reserve fund at

the time of sale of the unguaranteed

portions and, in the case of pledging

notes, by retaining all of the economic

interest in the unguaranteed portion of

any loan which a note evidences.

(c) The Nondepository Lender may

not use SBA guaranteed loans or the

collateral supporting such loans as

collateral for any borrowing not related

to financing of the guaranteed or

unguaranteed portion of SBA loans.

Miscellaneous Provisions

§ 120.430 SBA access to Lender files.

A Lender must allow SBA’s

authorized representatives, during

normal business hours, access to its files

to review, inspect and copy all records

and documents relating to SBA

guaranteed loans.

§ 120.431 Suspension or revocation of

eligibility to participate.

SBA may suspend or revoke the

eligibility of a Lender to participate in

the 7(a) program because of a violation

of SBA regulations, a breach of any

agreement with SBA, a change of

circumstance resulting in the Lender’s

inability to meet operational

requirements, or a failure to engage in

prudent lending practices. Proceedings

for such purposes will be conducted in

accordance with the provisions of part

134 of this chapter. A suspension or

revocation will not invalidate a

guarantee previously provided by SBA.

Certified Lenders Program (CLP)

§ 120.440 What is the Certified Lenders

Program?

Under the Certified Lenders Program

(CLP), designated Lenders process,

close, service, and may liquidate, SBA

guaranteed loans. SBA gives priority to

applications and servicing actions

submitted by Lenders under this

program, and attempts to respond

within three days of submission to SBA.

All other rules in this part 120 relating

to the operations of Lenders apply to

CLP Lenders.

§ 120.441 How does a Lender become a

CLP Lender?

(a) An SBA field office may nominate

a Lender or a Lender may request a field

office to consider it for CLP status. SBA

district directors may approve and

renew a Lender’s CLP status. The

district director will consider whether

the Lender:

(1) Has the ability to process, close,

service and liquidate loans;

(2) Has a satisfactory performance

history with SBA, including the

submission of complete and accurate

loan guarantee application packages;

(3) Has an acceptable SBA purchase

rate; and

(4) Has shown the ability to work well

with the local SBA office.

(b) If the district director does not

approve a request for CLP status, the

Lender may appeal to the AA/FA,

whose decision will be final. If SBA

grants CLP status, it applies only in the

field office that processed the CLP

designation. A CLP Lender must execute

a Supplemental Guarantee Agreement

that will specify a term not to exceed

two years.

§ 120.442 Suspension or revocation of

CLP status.

The AA/FA may suspend or revoke

CLP status upon written notice

providing the reasons at least 10

business days prior to the effective date

of the suspension or revocation. Reasons

for suspension or revocation may

include a loan performance record

unacceptable to SBA, failure to make

the required number of loans under the

expedited procedures, or violations of

applicable statutes, regulations or

published SBA policies and procedures.

A CLP Lender may appeal the

suspension or revocation made under

this section under procedures found in

part 134 of this chapter. The action of

the AA/FA remains in effect pending

resolution of the appeal.

Preferred Lenders Program (PLP)

§ 120.450 What is the Preferred Lenders

Program?

Under the Preferred Lenders Program

(PLP), designated Lenders process,

close, service, and liquidate SBA

guaranteed loans with reduced

requirements for documentation to and

prior approval by SBA.

§ 120.451 How does a Lender become a

PLP Lender?

(a) An SBA field office serving the

area in which a Lender’s office is

located can nominate the Lender, or a

Lender can request a field office to

consider it for PLP status. The SBA field

office will forward its recommendation

to an SBA centralized loan processing

center which will submit its

recommendation and supporting

documentation to the AA/FA for final

decision.

(b) In making its decision, SBA

considers whether the Lender:

(1) Has the required ability to process,

close, service and liquidate loans;

(2) Has the ability to develop and

analyze complete loan packages; and

(3) Has a satisfactory performance

history with SBA.

(c) If the Lender is approved, the AA/

FA will designate the area in which it

can make PLP loans.

(d) Before it can operate as a PLP

Lender, the approved Lender must

execute a Supplemental Guarantee

Agreement, which will specify a term

not to exceed two years.

(e) When a PLP’s Supplemental

Guarantee Agreement expires, SBA may

recertify it as a PLP Lender for an

additional term not to exceed two years.

Prior to recertification, SBA will review

a PLP Lender’s loans, policies and

procedures. The recertification decision

of the AA/FA is final.

(f) A PLP Lender may request an

expansion of the territory in which it

can process PLP loans by submitting its

request to a loan processing center. The

center will obtain the recommendation

of each SBA office in the area into

which the PLP Lender would like to

expand its PLP operations. The center
Federal Register / Vol. 61, No. 21 / Wednesday, January 31, 1996 / Rules and Regulations 3249

will forward the recommendations to

the AA/FA for final decision. If a PLP

Lender is not a CLP Lender in a territory

into which it seeks to expand its PLP

status, it automatically obtains CLP

status in that territory when it is granted

PLP status for the territory.

§ 120.452 What are the requirements of

PLP loan processing?

(a) Subparts A and B of this part

govern the making of PLP loans, except

for the following:

(1) Certain types of businesses, loans,

and loan programs are not eligible for

PLP, as detailed in published SBA

policy and procedures.

(2) A Lender may not make a PLP

business loan which reduces its existing

credit exposure for any Borrower,

except in cases where an interim loan(s)

has been made for other than real estate

construction purposes to the Borrower

which was approved by the Lender

within 90 days of receipt of the issuance

fo a subsequent PLP loan number.

(3) SBA will not guarantee more than

the specified statutory percentage of any

PLP loan.

(b) A PLP Lender notifies SBA of its

approval of a PLP loan by submitting to

SBA’s loan processing center

appropriate documentation signed by

two of the PLP’s authorized

representatives. SBA will attach the

SBA guarantee and notify the PLP

Lender of the SBA loan number (if it

does not identify a problem with

eligibility, and funds are available).

(c) The PLP Lender is responsible for

all PLP loan decisions regarding

eligibility (including size) and

creditworthiness. The PLP Lender is

also responsible for confirming that all

PLP loan closing decisions are correct,

and that it has complied with all

requirements of law and SBA

regulations.

§ 120.453 What are the requirements of a

PLP Lender in servicing and liquidating

SBA guaranteed loans?

The PLP Lender must service and

liquidate its SBA guaranteed loan

portfolio (including its non-PLP loans)

using generally accepted commercial

banking standards employed by prudent

lenders. The PLP Lender must liquidate

any defaulted SBA guaranteed loan in

its portfolio unless SBA advises in

writing that SBA will liquidate the loan.

The PLP Lender must submit a

liquidation plan to SBA prior to

commencing liquidation action. The

PLP Lender may take any necessary

servicing action, or liquidation action

consistent with a plan, for any SBA

guaranteed loan in its portfolio, except

it may not:

(a) Take any action that confers a

Preference on the Lender;

(b) Accept a compromise settlement

without prior written SBA consent; and

(c) Sell or pledge more than 90

percent of a PLP loan.

§ 120.454 PLP performance review.

SBA may review the performance of

a PLP Lender. SBA may charge the PLP

Lender a fee to cover the costs of this

review.

§ 120.455 Suspension or revocation of

PLP status.

The AA/FA may suspend or revoke

PLP status upon written notice

providing the reasons at least 10

business days prior to the effective date

of the suspension or revocation. Reasons

for suspension or revocation may

include loan performance unacceptable

to SBA, failure to make the required

number of loans under the expedited

procedures, or violations of applicable

statutes, regulations or published SBA

policies and procedures. A PLP Lender

may appeal the suspension or

revocation made under this section

under procedures found in part 134 of

this chapter. The action of the AA/FA

remains in effect pending resolution of

the appeal.

Small Business Lending Companies (SBLC)

§ 120.470 What is an SBLC?

A Small Business Lending Company

(SBLC) is a nondepository lending

institution licensed by SBA. SBA

supervises, examines, and regulates

SBLCs. An SBLC is subject to all

applicable SBA regulations, including

those governing Lenders. SBA has

imposed a moritorium on licensing new

SBLC’s since January, 1982.

(a) An SBLC may only make:

(1) Loans under section 7(a) (except

section 7(a)(13)) of the Act in

participation with SBA; and/or

(2) SBA guaranteed loans to microLenders in the SBA Microloan program

(see subpart G of this part). Such loans

are subject to the same conditions as

guaranteed loans made to SBAdesignated microlenders by SBA

participating Lenders.

(b) In addition to complying with

§§ 120.400 through 120.413, an SBLC

must meet the following requirements:

(1) Business structure. It must be a

corporation (profit or non-profit).

(2) Written agreement. It must sign a

written agreement with SBA.

(3) Capital structure. It must have

unencumbered paid-in capital and paidin surplus of at least $1,000,000, or ten

percent of the aggregate of its share of

all outstanding loans, whichever is

more.

(4) Capital impairment. It must avoid

capital impairment at all times.

Impairment exists if the retained

earnings deficit of an SBLC exceeds 50

percent of combined paid-in capital and

paid-in-surplus, excluding treasury

stock. An SBLC must give SBA prompt

written notice of any capital impairment

within 30 calendar days of the monthend financial report that first reflects the

impairment. Until the impairment is

cured, an SBLC may not present any

loans to SBA for guarantee.

(5) Issuance of securities. Without

prior written SBA approval, it must not

issue any securities (including stock

options and debt securities) except stock

dividends and common stock issued for

cash or direct obligations of, or

obligations fully guaranteed as to

principal and interest by, the United

States.

(6) Voluntary capital reduction.

Without prior written SBA approval, it

must not voluntarily reduce its capital,

or purchase and hold more than 2

percent of any class or combination of

classes of its stock.

(7) Reserves for losses. It must

maintain a reserve in the amount of

anticipated losses on loans and

receivables.

(8) Internal control. It must adopt a

plan designed to safeguard its funds and

other assets, to assure the reliability of

its personnel, and to maintain the

accuracy of its financial data.

(9) Dual control. It must maintain

dual control over disbursement of funds

and withdrawal of securities. An SBLC

may disburse funds only by checks or

wire transfers authorized by signatures

of two or more officers covered by the

SBLC’s fidelity bond, except that checks

in an amount of $1,000 or less may be

signed by one bonded officer. There

must be two or more bonded officers, or

one bonded officer and a bonded

employee to open safe deposit boxes or

withdraw securities from safekeeping.

The SBLC shall furnish to each

depository bank, custodian, or entity

providing safe deposit boxes a certified

copy of the resolution implementing

these control procedures.

(10) Fidelity insurance. It must

maintain a Brokers Blanket Bond,

Standard Form 14, or Finance

Companies Blanket Bond, Standard

Form 15, or such other form of coverage

as SBA may approve, in a minimum

amount of $500,000 executed by a

surety holding a certificate of authority

from the Secretary of the Treasury

pursuant to 31 U.S.C. 9304–9308.

(11) Common control. It must not

control, be controlled by, or be under

common control with, another SBLC.

Without prior written SBA approval, an
3250 Federal Register / Vol. 61, No. 21 / Wednesday, January 31, 1996 / Rules and Regulations

Associate of one SBLC shall not be an

Associate of another SBLC or of any

entity which directly or indirectly

controls or is under common control

with another SBLC.

(12) Management. An SBLC must

employ full time professional

management.

(13) Borrowed funds. Without SBA’s

prior written approval, it must not be

capitalized with borrowed funds.

Shareholders owning 10 percent or

more of any class of its stock shall not

use borrowed funds to purchase the

stock unless the net worth of the

shareholders is at least twice the

amount borrowed or unless the

shareholders receive SBA’s prior written

approval for a lower ratio.

§ 120.471 Records.

Each SBLC must comply with the

following requirements concerning

records:

(a) Maintenance of Records. It must

maintain accurate and current financial

records, including books of account,

minutes of stockholder, directors, and

executive committee meetings, and all

documents and supporting materials

relating to the SBLC’s transactions at its

principal business office. Securities

held by a custodian pursuant to a

written agreement shall be exempt from

this requirement.

(b) Preservation of records. (1) It must

preserve in a manner permitting

immediate retrieval the following

documentation for the financial

statements required by § 120.472 (and of

the accompanying certified public

accountant’s opinion), for the following

specified periods:

(i) Preserve permanently:

(A) All general and subsidiary ledgers

(or other records) reflecting asset,

liability, capital stock and surplus,

income, and expense accounts;

(B) All general and special journals

(or other records forming the basis for

entries in such ledgers); and

(C) The corporate charter, bylaws,

application for determination of

eligibility to participate with SBA, and

all minutes books, capital stock

certificates or stubs, stock ledgers, and

stock transfer registers;

(ii) Preserve for at least 6 years

following final disposition of the related

loan:

(A) All applications for financing;

(B) Lending, participation, and escrow

agreements;

(C) Financing instruments; and

(D) All other documents and

supporting material relating to such

loans, including correspondence.

(2) Records and other documents

referred to in this section may be

preserved electronically if the original is

available for retrieval within a

reasonable period.

§ 120.472 Reports to SBA.

An SBLC must submit the following

to the AA/FA:

(a) An audited financial statement

prepared by a certified public

accountant within three months after

the close of each fiscal year, and interim

financial reports when requested by

SBA;

(b) A report of any legal or

administrative proceeding, by or against

the SBLC, or against an officer, director,

or employee of the SBLC for an alleged

breach of official duty, within 10 days

after initiating or learning of the

proceeding, as well as notification of the

terms of any settlement or final

judgment (in addition to any reporting

under applicable SBA Forms);

(c) Copies of any report furnished to

its stockholders (including any

prospectus, letter, or other publication

concerning the financial operations of

the SBLC);

(d) A summary of any changes in the

SBLC’s organization or financing, such

as:

(1) Any change in its name, address

or telephone number;

(2) Any change in its charter, bylaws,

or its officers or directors (to be

accompanied by a statement of personal

history on an approved SBA form);

(3) Any changes in capitalization

(including those identified in

§ 120.470);

(4) Any changes affecting the

eligibility of the SBLC to continue to

participate as an SBLC; and

(5) Notice of a pledge of stock within

30 calendar days of the transaction if 10

percent or more of the stock is pledged

by any person (or group of persons

acting in concert) as collateral for

indebtedness, and such pledge does not

involve a transfer for which prior

written approval of SBA is required

under § 120.473;

(e) Such other reports as SBA may

require from time to time by written

directive.

§ 120.473 Change of ownership or control.

(a) Any change of ownership or

control without prior written approval

of SBA is prohibited. An SBLC must

request approval of any such change

from the AA/FA. Pending the approval,

the SBLC may not register the proposed

new owners on its transfer books nor

permit them to participate in any

manner in the conduct of the SBLC’s

affairs. Change of ownership or control

includes:

(1) Any transfer of 10 percent or more

of any class of the SBLC’s stock, and any

agreement providing for such transfer;

(2) Any transfer that could result in

the beneficial ownership by any person

or group of persons acting in concert of

10 percent or more of any class of its

stock, and any agreement providing for

such transfer;

(3) Any merger, consolidation, or

reorganization; or

(4) Any other transaction or

agreement that transfers control of the

SBLC.

(b) If transfer of ownership or control

is subject to the approval of any State

or Federal chartering, licensing, or other

regulatory authority, copies of any

documents filed with such authority

must, at the same time, be transmitted

to the AA/FA.

§ 120.474 Prohibited financing.

An SBLC may not make a loan to a

small business that has received

financing (or a commitment for

financing) from an SBIC that is an

Associate of the SBLC.

§ 120.475 Audits.

Every SBLC is subject to periodic

audits by SBA’s Office of Inspector

General, Auditing Division, and the cost

of such audits will be assessed against

the SBLC, except for the first audit. Fees

are structured based on the SBLC’s

assets as of the date of the latest audited

financial statement submitted to SBA

before the audit. The fee schedule is set

forth in SBA’s Standard Operating

Procedures manual.

§ 120.476 Suspension or revocation.

SBA may revoke or suspend an SBLC

for a violation of law, these regulations,

or any agreement with SBA. An appeal

can be made following the procedures

set forth in part 134 of this chapter.

Subpart E—Loan Administration

§ 120.500 General.

This subpart outlines the general loan

administration policies applicable to

loan servicing and liquidation.

Servicing

§ 120.510 Servicing direct and immediate

participation loans.

SBA services the direct loans that it

makes. Generally, the Lender services

immediate participation loans that it

makes and in which SBA participates.

§ 120.511 Servicing guaranteed loans.

The Lender services guaranteed loans,

holds the Loan Instruments and receives

the Borrower’s payments of principal

and interest.
Federal Register / Vol. 61, No. 21 / Wednesday, January 31, 1996 / Rules and Regulations 3251

§ 120.512 Who services the loan after SBA

honors its guarantee?

Generally, after SBA honors its

guarantee, the Lender must continue to

hold the Loan Instruments and service

and liquidate the loan. The Lender must

execute a Certificate of Interest showing

SBA’s percentage of the loan, and must

submit a liquidation plan to SBA for

each loan to be liquidated. If SBA elects

to service or liquidate the loan, the

Lender must assign the Loan

Instruments to SBA.

§ 120.513 What servicing actions require

the prior written consent of SBA?

Except as otherwise provided in a

Supplemental Guarantee Agreement

with the Lender, SBA must give its prior

written consent before the Lender takes

any of the following actions:

(a) Alters substantially the terms or

conditions of any Loan Instrument (for

example, any increase in the principal

amount or change in the interest rate, or

action conferring a Preference on the

Lender);

(b) Releases collateral having a

cumulative value in excess of 20 percent

of the original loan amount;

(c) Accelerates the maturity of the

note;

(d) Sues upon any Loan Instrument;

(e) Compromises or waives any claim

against any Borrower, guarantor, obligor

or standby creditor arising out of any

Loan Instrument; or

(f) Increases the amount of any prior

lien held by the Lender on the collateral

securing the loan.

SBA’S Purchase of a Guaranteed Portion

§ 120.520 When does SBA honor its

guarantee?

(a) SBA, in its sole discretion, may

purchase a guaranteed portion of a loan

at any time. A Lender may demand in

writing that SBA honor its guarantee if

the Borrower is in default on any

installment for more than 60 calendar

days (or less if SBA agrees) and the

default has not been cured. If a

Borrower cures a default before a Lender

requests purchase by SBA, the Lender’s

right to request purchase on that default

lapses.

(b) Purchase by SBA of the guaranteed

portion does not waive any of SBA’s

rights to recover money paid on the

guarantee, based upon the Lender’s

negligence, misconduct, or violation of

this part, including those actions listed

in § 120.524(a), the Loan Guarantee

Agreement or the Loan Instruments.

§ 120.521 What interest rate applies after

SBA purchases its guaranteed portion?

When SBA purchases the guaranteed

portion of a fixed interest rate loan, the

rate of interest remains as stated in the

note. On loans with a fluctuating

interest rate, the interest rate that the

Borrower owes will be at the rate in

effect at the time of the earliest uncured

payment default, or the rate in effect at

the time of purchase (where no default

has occurred).

§ 120.522 How much accrued interest does

SBA pay to the Lender or Registered Holder

when SBA purchases the guaranteed

portion?

(a) Rate of interest. If SBA purchases

the guaranteed portion from a Lender or

from a Registered Holder (if sold in the

Secondary Market), it will pay accrued

interest at:

(1) The rate in the note if it is a fixed

rate loan; or

(2) The rate in effect on the date of the

earliest uncured payment default, or of

SBA’s purchase (if there has been no

default).

(b) Payment to Lender. If the Lender

submits a complete purchase request to

SBA within 120 days of the earliest

uncured payment default, SBA will pay

accrued interest to the Lender from the

last interest paid-to-date up to the date

of payment. If the Lender requests SBA

to purchase after 120 days from the date

of the earliest uncured payment default

date, SBA will pay only 120 days of

interest. For LowDoc loans, the interest

paid to the Lender will be governed by

the Supplemental Guarantee Agreement.

(c) Payment to Registered Holder.

SBA will pay a Registered Holder all

accrued interest up to the date of

payment.

(d) Extension of the 120 day period.

Before the 120 days expire, the SBA

field office may extend the period if the

Lender and SBA agree that the Borrower

can cure the default within a reasonable

and definite period of time or that the

benefits from doing so otherwise will

exceed the costs of SBA paying

additional interest. If the 120 days have

passed, only the AA/FA or designee can

extend the period.

§ 120.523 What is the ‘‘earliest uncured

payment default’’?

The earliest uncured payment default

is the date of the earliest failure by a

Borrower to pay a regular installment of

principal and/or interest when due.

Payments made by the Borrower before

a Lender makes its request to SBA to

purchase are applied to the earliest

uncured payment default. If the

installment is paid in full, the earliest

uncured payment default date will

advance to the next unpaid installment

date. If a Borrower makes any payment

after the Lender makes its request to

SBA to purchase, the earliest uncured

payment default date does not change

because the Lender has already

exercised its right to request purchase.

§ 120.524 When is SBA released from

liability on its guarantee?

(a) SBA is released from liability on

a loan guarantee (in whole or in part,

within SBA’s exclusive discretion), if

any of the events below occur:

(1) The Lender has failed to comply

materially with any of the provisions of

these regulations, the Loan Guarantee

Agreement, or the Authorization;

(2) The Lender has failed to make,

close, service, or liquidate a loan in a

prudent manner;

(3) The Lender’s improper action or

inaction has placed SBA at risk;

(4) The Lender has failed to disclose

a material fact to SBA regarding a

guaranteed loan in a timely manner;

(5) The Lender has misrepresented a

material fact to SBA regarding a

guaranteed loan;

(6) SBA has received a written request

from the Lender to terminate the

guarantee;

(7) The Lender has not paid the

guarantee fee within the period required

under SBA rules and regulations;

(8) The Lender has failed to request

that SBA purchase a guarantee within

120 days after maturity of the loan;

(9) The Lender has failed to use

required SBA forms or exact electronic

copies; or

(10) The Borrower has paid the loan

in full.

(b) If SBA determines, after

purchasing its guaranteed portion of a

loan, that any of the events set forth in

paragraph (a) of this section occurred in

connection with that loan, SBA is

entitled to recover any money paid on

the guarantee plus interest from the

Lender responsible for those events.

(c) If the Lender’s loan documentation

indicates that one or more of the events

in paragraph (a) of this section may have

occurred, SBA may undertake such

investigation as it deems necessary to

determine whether to honor or deny the

guarantee, and may withhold a decision

on whether to honor the guarantee until

the completion of such investigation.

(d) Any information provided to SBA

prior to Lender’s request for SBA to

honor its guarantee shall not prejudice

SBA’s right to deny liability for a

guarantee if one or more of the events

listed in paragraph (a) of this section

occur.

(e) Unless SBA provides written

notice to the contrary, the Lender

remains responsible for all loan

servicing ad liquidation actions until

SBA honors its guarantee in full.
3252 Federal Register / Vol. 61, No. 21 / Wednesday, January 31, 1996 / Rules and Regulations

Deferment, Extension of Maturity and Loan

Moratorium

§ 120.530 Deferment of payment.

SBA may agree to defer payments on

a business loan for a stated period of

time, and use such other methods as it

considers necessary and appropriate to

help in the successful operation of the

Borrower. This policy applies to all

business loan programs, including 504

loans.

§ 120.531 Extension of maturity.

SBA may agree to extend the maturity

of a loan for up to 10 years beyond its

original maturity if the extension will

aid in the orderly repayment of the loan.

§ 120.532 What is a loan Moratorium?

SBA may assume a Borrower’s

obligation to repay principal and

interest on a loan by agreeing to make

the payments to the Lender on behalf of

the Borrower under terms and

conditions set by SBA. This relief is

called a ‘‘Moratorium.’’ Complete

information concerning this program

may be obtained from local SBA offices.

Liquidation of Collateral

§ 120.540 What are SBA’s policies

concerning liquidation of collateral?

(a) Liquidation policy. SBA or the

Lender may liquidate collateral securing

a loan if the loan is in default or there

is no reasonable prospect that the loan

can be repaid within a reasonable

period.

(b) Sale and conversion of loans.

Without the consent of the Borrower,

SBA may:

(1) Sell a direct loan;

(2) Convert a guaranteed or immediate

participation loan to a direct loan; or

(3) Convert an immediate

participation loan to a guaranteed loan

or a loan owned solely by the Lender.

(c) Disposal of collateral and assets

acquired through foreclosure or

conveyance. SBA or the Lender may sell

real and personal property (including

contracts and claims) pledged to secure

a loan that is in default in accordance

with the provisions of the related

security instrument (see § 120.550 for

Homestead Protection for Farmers).

(1) Competitive bids or negotiated

sales. Generally, SBA will offer loan

collateral and acquired assets for public

sale through competitive bids at

auctions or sealed bid sales. The Lender

may use negotiated sales if consistent

with its usual practice for similar nonSBA assets.

(2) Lease of acquired property.

Normally, neither SBA nor a Lender

will rent or lease acquired property or

grant options to purchase. SBA and the

Lender will consider proposals for a

lease if it appears a property cannot be

sold advantageously and the lease may

be terminated on reasonable notice

upon receipt of a favorable purchase

offer.

(d) Recoveries and security interests

shared. SBA and the Lender will share

pro rata (in accordance with their

respective interests in a loan) all loan

payments or recoveries, all reasonable

expenses (including advances for the

care, preservation, and maintenance of

collateral securing the loan and the

payment of senior lienholders), and any

security interest or guarantee (excluding

SBA’s guarantee) which the Lender or

SBA may hold or receive in connection

with a loan.

(e) Guarantors. Guarantors of

financial assistance have no rights of

contribution against SBA on an SBA

guaranteed or direct loan. SBA is not

deemed to be a co-guarantor with any

other guarantors.

Homestead Protection for Farmers

§ 120.550 What is homestead protection

for farmers?

SBA may lease to a farmer-Borrower

the farm residence occupied by the

Borrower and a reasonable amount of

adjoining property (no more than 10

acres and seven farm buildings), if they

were acquired by SBA as a result of a

defaulted farm loan made or guaranteed

by SBA (see the Consolidated Farm and

Rural Development Act, 7 U.S.C. 1921,

for qualifying loan purposes).

§ 120.551 Who is eligible for homestead

protection?

SBA must notify the Borrower in

possession of the availability of these

homestead protection rights within 30

days after SBA acquires the property. A

farmer-Borrower must:

(a) Apply for the homestead

occupancy to the SBA field office which

serviced the loan within 90 days after

SBA acquires the property;

(b) Provide evidence that the farm

produces farm income reasonable for

the area and economic conditions;

(c) Show that at least 60 percent of the

Borrower and spouse’s gross annual

income came from farm or ranch

operations in at least any two out of the

last six calendar years;

(d) Have resided on the property

during the previous six years; and

(e) Be personally liable for the debt.

§ 120.552 Lease.

If approved, the applicant must

personally occupy the residence during

the term of the lease and pay a

reasonable rent to SBA. The lease will

be for a period of at least 3 years, but

no more than 5 years. A lease of less

than 5 years may be renewed, but not

beyond 5 years from the original lease

date. During or at the end of the lease

period, the lessee has a right of first

refusal to reacquire the homestead

property under terms and conditions no

less favorable than those offered to any

other purchaser.

§ 120.553 Appeal.

If the application is denied, the

Borrower may appeal the decision to the

AA/FA. Until the conclusion of any

appeal, the Borrower may retain

possession of the homestead property.

§ 120.554 Conflict of laws.

In the event of a conflict between the

homestead provisions at §§ 120.550

through 120.553 of this part, and any

state law relating to the right of a

Borrower to designate for separate sale

or to redeem part or all of the real

property securing a loan foreclosed by

the Lender, state law shall prevail.

Subpart F—Secondary Market

Fiscal and Transfer Agent (FTA)

§ 120.600 Definitions.

(a) Certificate is the document the

FTA issues representing a beneficial

fractional interest in a Pool (Pool

Certificate), or an undivided interest in

the entire guaranteed portion of an

individual 7(a) guaranteed loan

(Individual Certificate).

(b) Current means that no repayment

from a Borrower to a Lender is over 29

days late measured from the due date of

the payment on the records of the FTA’s

central registry (Pools) or the entity

servicing the loan (individual

guaranteed portion).

(c) FTA is the SBA’s fiscal and

transfer agent.

(d) Note Rate is the interest rate on

the Borrower’s note.

(e) Net Rate is the interest rate on an

individual guaranteed portion of a loan

in a Pool.

(f) Pool is an aggregation of SBA

guaranteed portions of loans made by

Lenders.

(g) Pool Assembler is a financial

institution that:

(1) Organizes and packages a Pool by

acquiring the SBA guaranteed portions

of loans from Lenders;

(2) Resells fractional interests in the

Pool to Registered Holders; and

(3) Directs the FTA to issue

Certificates.

(h) Pool Rate is the interest rate on a

Pool Certificate.

(i) Registered Holder is the Certificate

owner listed in FTA’s records.

(j) SBA’s Secondary Market Program

Guide is an issuance from SBA which
Federal Register / Vol. 61, No. 21 / Wednesday, January 31, 1996 / Rules and Regulations 3253

describes the characteristics of

Secondary Market transactions.

§ 120.601 SBA Secondary Market.

The SBA secondary market

(‘‘Secondary Market’’) consists of the

sale of Certificates, representing either

the entire guaranteed portion of an

individual 7(a) guaranteed loan or an

undivided interest in a Pool consisting

of the SBA guaranteed portions of a

number of 7(a) guaranteed loans. By the

terms of such Certificate, SBA

guarantees a Registered Holder timely

payment of principal and interest from

the loan or loans underlying the

Certificate. Transactions involving

interests in Pools or the sale of

individual guaranteed portions of loans

are governed by the contracts entered

into by the parties, SBA’s Secondary

Market Program Guide, and this subpart.

See sections 5 (f), (g), and (h) of the

Small Business Act (15 U.S.C. 634 (f),

(g) and (h)).

Certificates

§ 120.610 Form and terms of Certificates.

(a) General form and content. Each

Certificate must be registered with the

FTA. SBA must approve the terms of the

Certificate.

(b) Face amount of Pool Certificate.

The face amount of a Pool Certificate

cannot be less than a minimum amount

as specified in the Program Guide, and

the dollar amount of Certificates must

be in increments which SBA will

specify in the Program Guide (except for

one Certificate in each Pool). SBA may

change these requirements based upon

an analysis of market conditions and

program experience, and will publish

any such change in the Federal

Register.

(c) Basis of payment for Pool

Certificates. Principal installments and

interest payments are based on the

unpaid principal balance of the portion

of the Pool represented by a Pool

Certificate. All prepayments on loans in

the Pool must be passed through to the

appropriate Registered Holders with the

regularly scheduled payments to such

Holders.

(d) Basis of payment for Individual

Certificates. Principal installments and

interest payments are based on the

unpaid principal balance of the SBA

guaranteed portion of the loan

supporting an Individual Certificate.

The Certificate must provide for a pass

through to the Registered Holder of

payments which the FTA receives from

a Lender or any entity servicing the

loan, less applicable fees.

(e) Interest rate on Pool Certificate.

The interest rate on a Pool Certificate

must be equal to the lowest Net Rate on

any individual guaranteed portion of a

loan in the Pool.

§ 120.611 Pools backing Pool Certificates.

(a) Pool characteristics. As set forth in

the Program Guide, each Pool must

have:

(1) A minimum number of guaranteed

portions of loans;

(2) A minimum aggregate principal

balance of the guaranteed portions;

(3) A maximum percentage of the Pool

which an individual guaranteed portion

may constitute;

(4) A maximum allowable difference

between the highest and lowest note

interest rates;

(5) A maximum allowable difference

between the remaining terms to

maturity of the loans in the Pool; and

(6) A minimum weighted average

maturity at Pool formation.

(b) Adjustment of Pool characteristics.

SBA may adjust the Pool characteristics

periodically based upon program

experience and market conditions.

§ 120.612 Loans eligible to back

Certificates.

(a) Pool Certificates are backed by the

SBA guaranteed portions of loans

comprising the Pool. An Individual

Certificate is backed by the SBA

guaranteed portion of a single loan. Any

such loan must:

(1) Be current as of the date the Pool

is formed or the individual guaranteed

portion of a loan is initially sold in the

Secondary Market;

(2) Be guaranteed under the Act; and

(3) Meet such other standards as SBA

may determine to be necessary for the

successful operation of the Secondary

Market program.

(b) The loans that back a Pool must

meet the SBA requirements in effect at

the time the Pool is formed.

§ 120.613 Secondary Participation

Guarantee Agreement.

When a Lender wants to sell the

guaranteed portion of a loan, it enters

into a Secondary Participation

Guarantee Agreement (‘‘SPGA’’) with

SBA and the prospective purchaser. The

terms of sale between the Lender and

the purchaser cannot require the Lender

or SBA to repurchase the guaranteed

portion of the loan except in accordance

with the terms of the SPGA. Before

execution of the SPGA, the Lender

must:

(a) Submit to FTA a copy of the

proposed SPGA, the note, and such

other documents as SBA may require;

(b) Disburse to the Borrower the full

amount of the loan; and

(c) Pay SBA all guarantee fees relevant

to the loan in full.

The SBA Guarantee of a Certificate

§ 120.620 SBA guarantee of a Pool

Certificate.

(a) Extent of Guarantee. SBA

guarantees to a Registered Holder the

timely payment of principal and interest

installments and any prepayment or

other recovery of principal to which the

Registered Holder is entitled. If the

Borrower of a loan in a Pool backing the

Certificates does not make a required

installment payment, SBA, through the

FTA, will make advances to maintain

the schedule of interest and principal

payments to the Registered Holders.

(b) SBA guarantee backed by full faith

and credit. SBA’s guarantee of the Pool

Certificate is backed by the full faith and

credit of the United States.

§ 120.621 SBA guarantee of an Individual

Certificate.

(a) Extent of SBA guarantee. With

respect to Individual Certificates, SBA

guarantees to purchase from the

Registered Holder the guaranteed

portion of the loan for an amount equal

to the unpaid principal and accrued

interest due as of the date of SBA’s

purchase, less deductions for applicable

fees. Unlike the SBA guarantee with

respect to pooled loans, SBA does not

guarantee timely payment on Individual

Certificates.

(b) What triggers the SBA guarantee.

SBA’s guarantee to the Registered

Holder may be called upon when:

(1) The Borrower remains in uncured

default for 60 days on payments of

principal or interest due on the note;

(2) The Lender fails to send to the

FTA on a timely basis payments it

received from the Borrower; or

(3) The FTA fails to send to the

Registered Holder on a timely basis any

payments it has received from the

Lender.

(c) Full faith and credit. SBA’s

guarantee to the Registered Holder is

backed by the full faith and credit of the

United States.

Pool Assemblers

§ 120.630 Qualifications to be a Pool

Assembler.

(a) Application to become Pool

Assembler. The application to become a

Pool Assembler is available from the

AA/FA. In order to qualify as a Pool

Assembler, an entity must send the

application to the AA/FA, with an

application fee, and certify that it:

(1) Is regulated by the appropriate

agency as defined in section 3(a)(34)(G)

of the Securities Exchange Act of 1934

(15 U.S.C. 78c(a)(34)(G));

(2) Meets all financial and other

applicable requirements of its regulatory
3254 Federal Register / Vol. 61, No. 21 / Wednesday, January 31, 1996 / Rules and Regulations

authority and the Government

Securities Act of 1986, as amended

(Pub. L. 99–571, 100 Stat. 3208);

(3) Has the financial capability to

assemble acceptable and eligible

guaranteed loan portions in sufficient

quantity to support the issuance of Pool

Certificates; and

(4) Is in good standing with SBA (as

the AA/FA determines), the Office of

the Comptroller of the Currency

(‘‘OCC’’) if it is a national bank, the

Federal Deposit Insurance Corporation

if it is a bank not regulated by the OCC,

or the National Association of Securities

Dealers if it is a member.

(b) Approval by SBA. An entity may

not submit Pool applications to the FTA

until SBA has approved the application

to become a Pool Assembler.

(c) Conduct of business by Pool

Assembler. An entity continues to

qualify as a Pool Assembler so long as

it:

(1) Meets the eligibility standards in

paragraph (a) of this section;

(2) Conducts its business in

accordance with SBA regulations and

accepted securities or banking industry

practices, ethics, and standards; and

(3) Maintains its books and records in

accordance with generally accepted

accounting principles or in accordance

with the guidelines of the regulatory

body governing its activities.

§ 120.631 Suspension or termination of

Pool Assembler.

(a) Suspension or termination. The

AA/FA may suspend a Pool Assembler

from operating in the Secondary Market

for up to 18 months or terminate its

status as a Pool Assembler, if the Pool

Assembler (and/or its Associates):

(1) Does not comply with any of the

requirements in § 120.630 (a) and (c);

(2) Has been indicted or otherwise

formally charged with, or convicted of,

a misdemeanor or felony;

(3) Has received an adverse civil

judgment that it has committed a breach

of trust or a violation of a law or

regulation protecting the integrity of

business transactions or relationships;

(4) Has not formed a Pool for at least

three years; or

(5) Is under investigation by its

regulating authority for activities which

may affect its fitness to participate in

the Secondary Market.

(b) Suspension procedures. The AA/

FA shall notify a Pool Assembler by

certified mail, return receipt requested,

of the decision to suspend and the

reasons therefore at least 10 business

days prior to the effective date of the

suspension. The Pool Assembler may

appeal the suspension made under this

section pursuant to the procedures set

forth in part 134 of this chapter. The

action of the AA/FA shall remain in

effect pending resolution of the appeal.

(c) Notice of termination. In order to

terminate a Pool Assembler, the AA/FA

must issue an order to show cause why

the SBA should not terminate the Pool

Assembler’s participation in the

Secondary Market. The Pool Assembler

may appeal the termination made under

this section pursuant to procedures set

forth in part 134 of this chapter. The

action of the AA/FA shall remain in

effect pending resolution of the appeal.

Miscellaneous Provisions

§ 120.640 Administration of the Pool and

Individual Certificates.

(a) FTA responsibility. The FTA has

the responsibility to administer each

Pool or Individual Certificate. It shall

maintain a registry of Registered

Holders and other information as SBA

requires.

(b) Self-liquidating. Each Pool or

individual guaranteed portion of a loan

in the Secondary Market is selfliquidating because of Borrower

payments or prepayments, redemption

by SBA, and/or payments by SBA or the

Lender after default by the Borrower.

Substitution of the guaranteed portions

of existing loans for defaulted loans is

not permitted.

(c) SBA’s right to subrogation. If SBA

pays a claim under a guarantee with

respect to a Certificate issued under this

subpart, it must be subrogated fully to

the rights satisfied by such payment.

(d) SBA ownership rights not limited.

No Federal, State or local law can

preclude or limit the exercise by SBA of

its ownership rights in the portions of

loans constituting the Pool against

which the Certificates are issued.

§ 120.641 Disclosure to purchasers.

(a) Information to purchaser. Prior to

any sale, the Pool Assembler, Registered

Holder of an Individual Certificate, or

any subsequent seller must disclose to

the purchaser, verbally or in writing,

information on the terms, conditions,

and yield as described in the SBA

Secondary Market Program Guide.

(b) Information on transfer document.

The seller must provide the same

information described in paragraph (a)

of this section in writing on the transfer

document when the seller submits it to

the FTA. After the sale of an Individual

Certificate, the FTA will provide the

disclosure information in writing to the

purchaser.

(c) Information in prospectus. If the

Registered Holder is a trust, investment

Pool, mutual fund or other security, it

must disclose the information in

paragraph (a) of this section to investors

through a prospectus and other

promotional material if an Individual

Certificate or Pool Certificate is placed

into or used as the backing for the

investment vehicle.

§ 120.642 Requirements before the FTA

issues Pool Certificates.

Before the FTA issues any Pool

Certificate, the Pool Assembler must

deliver to it the following documents:

(a) A properly completed Pool

application form;

(b) Either:

(1) Individual Certificates evidencing

the guaranteed portions comprising the

Pool; or

(2) An executed SPGA and related

documentation for the loans whose

guaranteed portions are to be part of the

Pool; and

(c) Any other documentation which

SBA may require.

§ 120.643 Requirements before the FTA

issues Individual Certificates.

(a) FTA issuance of initial Certificate.

Before the FTA can issue the Individual

Certificate for a guaranteed portion of a

loan, the original seller must provide

the following documents to the FTA:

(1) An executed SPGA;

(2) A copy of the note representing the

guaranteed loan; and

(3) Any other documentation which

SBA may require.

(b) Review of documentation. SBA

may review or require the FTA to

review any documentation before the

FTA issues a Certificate.

§ 120.644 Transfers of Certificates.

(a) General rule. Certificates are

transferable. Transfers in the Secondary

Market must comply with Article 8 of

the Uniform Commercial Code of the

State of New York. The seller must use

the detached form of assignment (SBA

Form 1088), unless the seller and

purchaser choose to use another form

which the SBA approves. The FTA may

refuse to issue a Certificate until it is

satisfied that the documents of transfer

are complete.

(b) Transfer on FTA records. In order

for the transfer of a Certificate to be

effective the FTA must reflect it on its

records.

(c) Contents of letter of transmittal

accompanying the transfer of

Certificates. (1) A letter of transmittal

must accompany each Certificate which

a Registered Holder submits to the FTA

for transfer. The Registered Holder must

supply the following information in the

letter:

(i) Pool number, if applicable;

(ii) Certificate number;

(iii) Name of purchaser of Certificate;
Federal Register / Vol. 61, No. 21 / Wednesday, January 31, 1996 / Rules and Regulations 3255

(iv) Address and tax identification

number of the purchaser;

(v) Name and telephone number of

the person handling or facilitating the

transfer;

(vi) Instructions for the delivery of the

new Certificate.

(2) The Registered Holder must also

send the fee which the FTA charges for

this service. The FTA will supply fee

information to the Registered Holder.

(d) Lender cannot purchase

guaranteed portion of loan it made. The

Lender (or its Associate) that made a

7(a) guaranteed loan cannot purchase

the guaranteed portion of that loan in

the Secondary Market. If a Lender does

purchase the guaranteed portion of one

of its own loans, it shall not have the

unconditional guarantee of SBA.

§ 120.645 Redemption of Certificates.

(a) Redemption of Individual

Certificate. The prepayment of the

underlying loan or a default on such

loan will trigger the redemption of the

Certificate by FTA/SBA in accordance

with the procedures prescribed in the

SPGA.

(b) Redemption of Pool Certificate.

The FTA and SBA may redeem a Pool

Certificate because of prepayment or

default of all loans in a Pool.

§ 120.650 Registration duties of FTA in

Secondary Market.

The FTA registers all Certificates.

This means it issues, transfers title to,

and redeems them. All financial

transactions relating to a guaranteed

portion of a loan flow through the FTA.

In fulfilling its obligation to keep the

central registry current, the FTA may,

with SBA’s approval, obtain any

necessary information from the parties

involved in the Secondary Market.

§ 120.651 Claim to FTA by Registered

Holder to replace Certificate.

(a) To replace a Certificate because of

loss, theft, destruction, mutilation, or

defacement, the Registered Holder must:

(1) Give the FTA information about

the Certificate and the facts relating to

the claim;

(2) File an indemnity bond acceptable

to SBA and the FTA with a surety to

protect the interests of SBA and the

FTA;

(3) Pay the FTA its fee to replace a

Certificate; and

(4) Use an affidavit of loss (form

available from the FTA) to report:

(i) The name and address of the

Registered Holder (and the name and

capacity of any representative actually

filing the claim);

(ii) The Certificate by Pool number, if

applicable;

(iii) The Certificate number;

(iv) The original principal amount;

(v) The name in which the Certificate

was registered;

(vi) Any assignment, endorsement or

other writing on the Certificate; and

(vii) A statement of the circumstances

of the theft or loss.

(b) When the FTA receives notice of

the theft or loss, it will stop any transfer

of the Certificate. The Registered Holder

must send to the FTA all available

portions of a mutilated or defaced

Certificate. When the Registered Holder

completes these steps, the FTA will

replace the Certificate.

§ 120.652 FTA fees.

The FTA may charge reasonable

servicing fees, transfer fees, and other

fees as the SBA and FTA may negotiate

under contract.

Suspension or Revocation of

Participant in Secondary Market

§ 120.660 Suspension or revocation.

(a) Suspension or revocation of

Lender, broker, dealer, or Registered

Holder for violation of Secondary

Market rules and regulations. The AA/

FA may suspend or revoke the privilege

of a Lender, broker, dealer, or Registered

Holder to sell, purchase, broker, or deal

in loans or Certificates for:

(1) Committing a serious violation, in

SBA’s discretion, of:

(i) The regulations governing the

Secondary Market; or

(ii) Any provisions in the contracts

entered into by the parties, including

SBA Forms 1085, 1086, 1088 and 1454;

or

(2) Knowingly submitting false or

fraudulent information to the SBA or

FTA.

(b) Additional rules for suspension or

revocation of broker or dealer. In

addition to acting under paragraph (a) of

this section, the AA/FA may suspend or

revoke the privilege of any broker or

dealer to sell or otherwise deal in

Certificates in the Secondary Market if:

(1) Its supervisory agency has revoked

or suspended the broker or dealer from

engaging in the securities business, or is

investigating the firm or broker for a

practice which SBA considers, in its

sole discretion, to be relevant to the

broker’s or dealer’s fitness to participate

in the Secondary Market;

(2) The broker or dealer has been

indicted or otherwise formally charged

with a misdemeanor or felony which

bears on its fitness to participate in the

Secondary Market; or

(3) A civil judgment is entered

holding that the broker or dealer has

committed a breach of trust or a

violation of any law or regulation

protecting the integrity of business

transactions or relationships.

(c) Notice to suspend or revoke. The

AA/FA shall notify the affected party in

writing, providing the reasons therefore,

at least 10 business days prior to the

effective date of the suspension or

revocation. The affected party may

appeal the suspension or revocation

made under this section pursuant to the

procedures set forth in part 134 of this

chapter. The action of the AA/FA will

remain in effect pending resolution of

the appeal. Revocation will last a

minimum of five years.

Subpart G—Microloan Demonstration

Program

§ 120.700 What is the Microloan Program?

The Microloan Demonstration

Program assists women, low income

individuals, minority entrepreneurs,

and other small businesses which need

small amounts of financial assistance.

Under this program, SBA makes direct

and guaranteed loans to Intermediaries

(as defined below) who use the proceeds

to make loans to eligible borrowers. SBA

may also make grants under the program

to Intermediaries and other qualified

nonprofit entities to be used for

marketing, management, and technical

assistance to the program’s target

population.

§ 120.701 Definitions.

(a) Deposit account is a demand, time,

savings, passbook, or similar account

maintained with an insured depository

institution (not including an account

evidenced by a Certificate of Deposit).

(b) Economically Distressed Area is a

county or equivalent division of local

government of a state in which,

according to the most recent available

data from the United States Bureau of

the Census, 40 percent or more of the

residents have an annual income that is

at or below the poverty level.

(c) Grant is a Federal award of money,

or property in lieu of money (including

cooperative agreements) to an eligible

grantee that must account for its use.

The term does not include the provision

of technical assistance, revenue sharing,

loans, loan guarantees, interest

subsidies, insurance, direct

appropriations, or any fellowship or

other lump sum award.

(d) Insured depository institution has

the same meaning as in section 3(c) of

the Federal Deposit Insurance Act, 12

U.S.C. 1813(c).

(e) Intermediary is an entity

participating in the Microloan

Demonstration Program which makes

and services Microloans to eligible

small businesses and which provides
3256 Federal Register / Vol. 61, No. 21 / Wednesday, January 31, 1996 / Rules and Regulations

marketing, management, and technical

assistance to its borrowers. It may be:

(1) A private, nonprofit community

development corporation or other

entity;

(2) A consortium of private, nonprofit

community development corporations

or other entities;

(3) A quasi-governmental economic

development entity, other than a state,

county, municipal government or any

agency thereof; or

(4) An agency of or a nonprofit entity

established by a Native American Tribal

Government.

(f) Microloan is a short-term, fixed

interest rate loan of not more than

$25,000 made by an Intermediary to an

eligible small business.

(g) Non-Federal sources are sources of

funds other than the Federal

Government and may include indirect

costs or in-kind contributions paid for

under non-Federal programs.

Community Block Development Grants

are considered non-Federal sources.

(h) Specialized Intermediary is an

Intermediary which maintains a

portfolio of Microloans averaging $7,500

or less.

§ 120.702 Are there limitations on who can

be an Intermediary or on where an

Intermediary may operate?

(a) Prior experience requirement. To

be eligible to be an Intermediary, an

organization must:

(1) Have made and serviced shortterm fixed rate loans of not more than

$25,000 to newly established or growing

small businesses for at least one year;

and

(2) Have at least one year of

experience providing technical

assistance to its borrowers.

(b) Limitation to one state. An

Intermediary may not operate in more

than one state unless the AA/FA

determines that it would be in the best

interests of the small business

community for it to operate across state

lines.

§ 120.703 How does an organization apply

to become an Intermediary?

(a) Application Process. Organizations

interested in becoming Intermediaries

should contact SBA for information on

the application process.

(b) Documentation in support of

application. The application must

include a detailed narrative statement

describing:

(1) The types of businesses assisted in

the past and those the applicant intends

to assist with Microloans;

(2) The average size of the loans made

in the past and the average size of

intended Microloans;

(3) The extent to which the applicant

will make Microloans to small

businesses in rural areas;

(4) The geographic area in which the

applicant intends to operate, including

a description of the economic and

demographic conditions existing in the

intended area of operations;

(5) The availability and cost of

obtaining credit for small businesses in

the area;

(6) The applicant’s experience and

qualifications in providing marketing,

management, and technical assistance to

small businesses; and

(7) Any plan to use other technical

assistance resources (such as counselors

from the Service Corps of Retired

Executives) to help Microloan

borrowers.

§ 120.704 How are applications evaluated?

(a) Evaluation criteria. In selecting

Intermediaries, SBA will attempt to

insure that Microloans are available to

small businesses in all industries and

particularly to small businesses located

in urban and rural areas.

(b) Preference for organizations which

make very small loans. In selecting

Intermediaries, SBA will give priority to

applicants which maintain a portfolio of

loans averaging $7,500 or less.

(c) Consideration of quasigovernmental organizations. Generally,

SBA will consider applications by

quasi-governmental organizations only

when it determines that program

services for a particular geographic area

would be best provided by such

organization.

§ 120.705 What is a Specialized

Intermediary?

At the end of an Intermediary’s first

year of participation in the program,

SBA will determine whether it qualifies

as a Specialized Intermediary. An

Intermediary qualifies as a Specialized

Intermediary if it maintains a portfolio

of Microloans averaging $7,500 or less.

Specialized Intermediaries qualify for

more favorable interest rates on SBA

loans. If, after the first year, an

Intermediary qualifies as a Specialized

Intermediary, the special interest rate is

applied retroactively to SBA loans made

to the Intermediary. After the first year

SBA will determine an Intermediary’s

qualifications as a Specialized

Intermediary annually, based on its

lending practices during the term of its

participation in the program.

Specialized Intermediaries also qualify

for a greater amount of technical

assistance grant funding.

§ 120.706 What are the terms and

conditions of an Intermediary SBA loan?

(a) Loan Amount. An Intermediary

may not borrow more than $750,000 in

the first year of participation in the

program. In subsequent years, the

Intermediary’s obligations to SBA may

not exceed an aggregate of $2.5 million,

subject to statutory limitations on the

total amount of funds available per

state.

(b) Repayment terms. During the first

year of the loan, an Intermediary is not

required to make any payments, but

interest accrues from the date that SBA

disburses the loan proceeds to the

Intermediary. After that, SBA will

determine the periodic payments. The

loan must be repaid within 10 years.

(c) Interest rate. The interest rate is

equal to the rate applicable to five-year

obligations of the United States

Treasury, adjusted to the nearest oneeighth percent, less 1.25 percent.

However, the interest rate for

Specialized Intermediaries is equal to

the rate applicable to five-year

obligations of the United States

Treasury, adjusted to the nearest oneeighth percent, less two percent.

(d) Collateral. As security for

repayment of the SBA loan, an

Intermediary must pledge to SBA a first

lien position in the MRF (described

below), LLRF (described below), and all

notes receivable from Microloans.

(e) Default. If for any reason an

Intermediary is unable to make payment

to SBA when due, SBA may accelerate

maturity of the loan and demand

payment in full. In this event, or if an

Intermediary violates this part or the

terms of its loan agreement, it must

surrender possession of all collateral

described in paragraph (d) of this

section to SBA. The Intermediary is not

obligated to pay SBA any loss or

deficiency which may remain after

liquidation of the collateral unless the

loss was caused by fraud, negligence,

violation of any of the ethical

requirements of § 120.140, or violation

of any other provision of this part.

(f) Fees. SBA does not charge

Intermediaries any fees for loans under

this Program. An Intermediary may,

however, pay minimal closing costs to

third parties, such as filing and

recording fees.

§ 120.707 What conditions apply to loans

by Intermediaries to Microloan Borrowers?

(a) General. An Intermediary may

make Microloans to any small business

eligible to receive financial assistance

under this part. Proceeds from

Microloans may be used only for

working capital and acquisition of

materials, supplies, furniture, fixtures,
Federal Register / Vol. 61, No. 21 / Wednesday, January 31, 1996 / Rules and Regulations 3257

and equipment. SBA does not review

Microloans for creditworthiness.

(b) Amount and maturity. Generally,

Intermediaries should not make a

Microloan of more than $10,000 to any

borrower. An Intermediary may not

make a Microloan of more than $15,000

unless the borrower demonstrates that it

is unable to obtain credit elsewhere at

comparable interest rates and that it has

good prospects for success. An

Intermediary may not make a loan of

more than $25,000, and no borrower

may owe an Intermediary more than

$25,000 at any one time. Each

Microloan must be repaid within six

years.

(c) Interest rate. The maximum

interest rate that can be charged a

Microloan borrower is:

(1) On loans of more than $7,500, the

interest rate charged on the SBA loan to

the Intermediary, plus 7.75 percentage

points; and

(2) On loans of $7,500 or less, the

interest rate charged on the SBA loan to

the Intermediary, plus 8.5 percentage

points.

§ 120.708 What is the Intermediary’s

financial contribution?

The Intermediary must contribute

from non-Federal sources an amount

equal to 15 percent of any loan that it

receives from SBA. The contribution

may not be borrowed. For purposes of

this program, Community Development

Block Grants are considered nonFederal sources.

§ 120.709 What is the Microloan Revolving

Fund?

The Microloan Revolving Fund

(‘‘MRF’’) is an interest-bearing Deposit

Account into which an Intermediary

must deposit the proceeds from SBA

loans, its contributions from nonFederal sources, and payments from its

Microloan borrowers. An Intermediary

may only withdraw from this account

the money needed to establish the Loan

Loss Reserve Fund (§ 120.710), proceeds

for each Microloan it makes, and any

payments to be made to SBA.

§ 120.710 What is the Loan Loss Reserve

Fund?

(a) General. The Loan Loss Reserve

Fund (‘‘LLRF’’) is an interest-bearing

Deposit Account which an Intermediary

must establish to pay any shortage in

the MRF caused by delinquencies or

losses on Microloans. An Intermediary

must maintain the LLRF until it has

repaid all obligations it owes SBA.

(b) Level of Loan Loss Reserve Fund

in first year. In an Intermediary’s first

year, the balance on deposit in the LLRF

must equal not less than 15 percent of

the total outstanding balance of all notes

receivable owed by its Microloan

borrowers.

(c) Level of Loan Loss Reserve Fund in

subsequent years. In all subsequent

years, an Intermediary must maintain a

balance on deposit in the LLRF at a

level which, at a minimum, reflects its

loss experience as determined by SBA.

However, the maximum amount

required in the LLRF will not exceed 15

percent of the total outstanding balance

owed by an Intermediary’s Microloan

borrowers.

§ 120.711 What rules govern

Intermediaries?

Intermediaries must operate in

accordance with applicable statutes,

regulations, policy notices, SBA’s

Standard Operating Procedures (SOPs),

and the information in the application.

§ 120.712 How does an Intermediary get a

grant to assist Microloan Borrowers?

(a) General. An Intermediary is

eligible to receive grant funding from

SBA of not more than 25 percent of the

outstanding balance of all SBA loans to

the Intermediary. The Intermediary

must contribute, solely from nonFederal sources, an amount equal to 25

percent of the grant. Contributions may

be made in cash or in kind.

(b) Limitations on grant funds. An

Intermediary may not borrow its

contribution. It may only use grant

funds to provide Microloan borrowers

with marketing, management, and

technical assistance, except that:

(1) Up to 15 percent of the grant funds

may be used to provide information and

technical assistance to prospective

Microloan borrowers; and

(2) Grant monies may be used to

attend training required by SBA.

Intermediaries may not enter into third

party contracts for the provision of

technical assistance to program clients.

(c) Exception to contribution

requirement. Intermediaries which

make at least 50 percent of their loans

to small businesses located in or owned

by residents of Economically Distressed

Areas are not subject to the contribution

requirement in paragraph (a) of this

section.

(d) Intermediaries eligible to receive

additional grant monies. An

Intermediary may receive an additional

SBA grant equal to five percent of the

outstanding balance of all loans

received from SBA (with no obligation

to contribute additional matching funds)

if:

(1) The Intermediary makes at least 25

percent of its loans to small businesses

located in or owned by residents of an

Economically Distressed Area; or

(2) The Intermediary is a Specialized

Intermediary.

(e) SBA will determine an

Intermediary’s eligibility for all grants

under this section separately for each

loanmaking office or site.

§ 120.713 Does SBA provide technical

assistance to Intermediaries?

SBA may procure technical assistance

for an Intermediary to improve its

knowledge, skill, and understanding of

microlending by awarding a grant to a

more experienced Intermediary. SBA

may also obtain such assistance for

prospective Intermediaries in areas of

the country that are either not served or

underserved by an existing

Intermediary.

§ 120.714 How does a non-Intermediary

get a grant?

(a) Grant procedure for nonIntermediaries. Any nonprofit entity

that is not an Intermediary may apply to

SBA for a grant to provide marketing,

management and technical assistance to

low-income individuals for the purpose

of assisting them in obtaining private

sector financing in amounts of $25,000

or less. To qualify, it must submit

information regarding its ability to

provide this assistance. If approved, the

grant agreement will establish the terms

and conditions for the grant.

(b) Number and amounts of grants. In

each year of the Microloan Program,

SBA may make no more than 25 grants

to non-Intermediaries for terms of up to

five years. A grant may not exceed

$125,000.

(c) Contribution by nonprofit entity.

The nonprofit entity must contribute an

amount equal to 20 percent of the grant.

The contribution from the nonprofit

entity must come solely from nonFederal sources, and may include direct

costs or in-kind contributions paid for

under non-Federal programs.

§ 120.715 Does SBA guarantee any loans

an Intermediary obtains from another

source?

(a) SBA may guarantee not less than

90 percent of no more than 10 loans by

for-profit or nonprofit entities (or an

alliance of such entities) to

Intermediaries located in urban areas

and no more than 10 loans by such

entities to Intermediaries located in

Rural Areas (as defined in § 120.10).

(b) Any loan guaranteed by SBA

under this section will have a term of 10

years. If an Intermediary receives such

a loan, it will not need to repay any

principal or interest during the first

year, although the interest will accrue.

During the second through fifth years,

the Intermediary will pay interest only.

During the sixth through tenth years, it

will pay interest and fully amortize the

principal.
3258 Federal Register / Vol. 61, No. 21 / Wednesday, January 31, 1996 / Rules and Regulations

(c) The interest rate on any loan under

this section shall be calculated as

described in § 120.706.

Subpart H—Development Company

Loan Program (504)

§ 120.800 What is the purpose of the 504

program?

As authorized by Congress, SBA has

established this program to foster

economic development, create or

preserve job opportunities, and

stimulate growth, expansion, and

modernization of small businesses.

§ 120.801 How is a 504 Project

financed?

(a) A small business may apply for

504 financing through the CDC serving

the area in which the 504 Project is

located. SBA issues an Authorization if

it agrees to guarantee part of the funding

for a Project.

(b) Usually, a Project requires interim

financing from an interim lender (often

the same lender that later provides a

portion of the permanent financing).

(c) Generally, permanent financing of

the Project consists of:

(1) A contribution by the small

business in an amount of at least 10

percent of the Project costs;

(2) A loan made with the proceeds of

a CDC Debenture for up to 40 percent

of the Project costs and certain

administrative costs, collateralized by a

second lien on the Project Property; and

(3) A private sector loan comprising

the balance of the financing,

collateralized by a first lien on the

Project property.

(d) The Debenture is guaranteed 100

percent by SBA (with the full faith and

credit of the United States), and sold to

Underwriters who form Debenture

Pools. Investors purchase interests in

Debenture Pools and receive Certificates

representing ownership of all or part of

a Debenture Pool. SBA and CDCs use

various agents to facilitate the sale and

service of the Certificates and the

orderly flow of funds among the parties.

§ 120.802 Definitions.

The following terms have the same

meaning wherever they are used in this

subpart. Defined terms are capitalized

wherever they appear.

Area of Operations is a geographic

area in which a CDC conducts its

activities.

Associate Development Company

(ADC) is an entity approved by SBA to

assist CDCs to deliver 504 financing.

Central Servicing Agent (CSA) is an

entity that receives and disburses funds

among the various parties involved in

504 financing under a master servicing

agent agreement with SBA.

Certificate is a document issued by

SBA or its agent representing ownership

of all or part of a Debenture Pool.

Debenture is an obligation issued by

a CDC and guaranteed 100 percent by

SBA, the proceeds of which are used to

fund a 504 loan.

Debenture Pool is an aggregation of

Debentures.

Investor is an owner of a beneficial

interest in a Debenture Pool.

Job Opportunity is a full time (or

equivalent) permanent job created

within two years of receipt of 504 funds,

or retained in the community because of

a 504 loan.

Net Debenture Proceeds are the

portion of Debenture proceeds that

finance eligible Project costs (excluding

administrative costs).

Project is the purchase or lease, and/

or improvement or renovation of longterm fixed assets by a small business,

with 504 financing, for use in its

business operations.

Project Property is one or more longterm fixed assets, such as land,

buildings, machinery, and equipment,

acquired or improved by a small

business, with 504 financing, for use in

its business operations.

Third Party Loan is a loan from a

commercial or private lender, investor,

or Federal (non-SBA), State or local

government source as part of the Project

financing.

Underwriter is an entity approved by

SBA to form Debenture Pools and

arrange for the sale of Certificates.

Certification Procedures To Become a

CDC

§ 120.810 Applications for certification as

a CDC.

(a) Applicants for certification as a

CDC must apply to the SBA District

Office serving a proposed Area of

Operations. An applicant must

demonstrate that it satisfies the

certification and operating criteria in

§§ 120.820 through 120.829, as well as:

(1) The need for 504 services (if there

is already a CDC in the Area of

Operations, the applicant must justify

the need for another and present a plan

to avoid duplication or overlap);

(2) A budget, approved by its Board of

Directors; and

(3) A plan to meet CDC operating

requirements (without specializing in a

particular industry).

(b) The AA/FA, with the

recommendation of each District Office

in the applicant’s proposed Area of

Operations, shall make the certification

decision.

§ 120.811 Public notice of CDC

certification application.

(a) As part of the application process,

the applicant must publish a notice in

a general circulation newspaper in the

proposed Area of Operations, including

the name and location of the proposed

CDC, its purpose and Area of

Operations, and the names and

addresses of its officers and directors.

The applicant shall send a copy of the

notice to SBA. The notice shall provide

the public at least 30 days to submit

written comments to the District Office.

The SBA shall consider the comments

in making its decision on the

application.

(b) CDCs serving the proposed Area of

Operations shall be directly notified and

given at least 30 days to comment.

§ 120.812 Probationary period for newly

certified CDCs.

(a) Newly certified CDCs will be on

probation for a period of two years, at

the end of which the CDC must petition

for:

(1) Permanent CDC status;

(2) A single, one-year extension of

probation; or

(3) ADC status.

(b) SBA will consider failure to file a

petition before the end of the

probationary period as a withdrawal

from the 504 program. If the CDC elects

ADC status or withdrawal, it must

transfer all funded and/or approved

loans to another CDC, SBA, or another

servicer approved by SBA.

Requirements for CDC Certification and

Operation

§ 120.820 CDC non-profit status.

A CDC must be a non-profit

corporation (or limited liability

company) in good standing. (For-profit

CDCs certified by SBA prior to January

1, 1987 may retain their certifications.)

An SBIC may not become a CDC.

§ 120.821 CDC Area of Operations.

A CDC must have a designated Area

of Operations, specified by the CDC and

approved by SBA. There can be only

one statewide CDC in each state, which

must foster economic development

throughout the state and provide 504

assistance to areas not adequately

served by other CDCs.

§ 120.822 CDC membership.

A CDC must have at least 25 members

(or stockholders for for-profit CDCs

approved prior to January 1, 1987). No

person or entity may own or control

more than 10 percent of the CDC’s

voting membership (or stock). Members

must be representative of and provide

evidence of active support in the Area
Federal Register / Vol. 61, No. 21 / Wednesday, January 31, 1996 / Rules and Regulations 3259

of Operations. Members must be from

each of the following groups:

(a) Government organizations

responsible for economic development

in the Area of Operations and

acceptable to SBA;

(b) Financial institutions that provide

commercial long-term fixed asset

financing in the Area of Operations;

(c) Community organizations

dedicated to economic development in

the Area of Operations such as

chambers of commerce, foundations,

trade associations, colleges, or

universities; and

(d) Businesses in the Area of

Operations.

§ 120.823 CDC Board of Directors.

The CDC must have a Board of

Directors chosen from the membership

by the members, and representing at

least three of the four membership

groups. No single group shall control.

The Board members must be responsible

officials of the organizations they

represent, and at least one must possess

commercial lending experience. The

Board must meet at least quarterly and

shall be responsible for CDC staff

decisions and actions. A quorum shall

require at least 5 Directors. If there is a

vote on loan approval or servicing

actions, at least one Board member with

commercial loan experience approved

by SBA must be present and vote. As an

alternative, the Board may obtain the

recommendation of another person

approved by SBA and possessing

commercial lending experience.

§ 120.824 Professional management and

staff.

A CDC must have full-time

professional management, including an

Executive Director (or the equivalent)

managing daily operations. It must also

have a full-time professional staff

qualified by training and experience to

market the 504 Program, package and

process loan applications, close loans,

service the loan portfolio, and sustain a

sufficient level of service and activity in

the Area of Operations.

(a) Contracting out to third parties.

CDCs may obtain, under contract,

marketing, packaging, processing, and

servicing services from qualified Lender

Service Providers, as that term is

defined in part 103 of this chapter,

located in the Area of Operations,

subject to SBA’s prior written approval.

CDCs may contract for outside legal and

accounting services without SBA

approval. Compensation under all such

contracts must be reasonable and

customary for similar services in the

Area of Operations. SBA may audit the

contracts.

(b) Contracting out to other CDCs.

CDCs may contract with other CDCs for

specific services, subject to SBA’s prior

written approval.

§ 120.825 Financial ability to operate.

A CDC must be able to sustain its

operations continuously, with reliable

sources of funds (such as income from

services rendered and contributions

from government or other sponsors).

§ 120.826 Basic requirements for

operating a CDC.

A CDC must operate in accordance

with applicable statutes, regulations,

policy notices, SBA’s SOPs, and the

information in its application. It must

supply to SBA current and accurate

information about all certification and

operational requirements, and maintain

the records and submit the reports

required by SBA.

§ 120.827 Services a CDC provides to

small businesses.

(a) A CDC must operate in and

adequately service its Area of

Operations. It must market the 504

program, package and process 504 loan

applications, and close and service 504

loans. A CDC’s loan portfolio must be

diversified by business sector.

(b) A CDC may provide small

businesses with financial and technical

assistance, or may help small businesses

obtain such assistance from other

sources, including preparing, closing,

and servicing loans under contract with

Lenders in SBA’s 7(a) program.

(c) A CDC also may loan amounts to

the Borrower equal to the value of all or

part of the Borrower’s contribution to a

Project in the form of cash or land,

including site improvements, previously

acquired by the CDC.

§ 120.828 Minimum level of CDC lending

activity.

A CDC must provide at least two 504

loan approvals each full fiscal year.

§ 120.829 Job Opportunity average a CDC

must maintain.

(a) A CDC’s portfolio must reflect an

average of one Job Opportunity per

$35,000 of 504 loan funding. The AA/

FA may permit a CDC to average up to

one per $45,000 for good cause in:

(1) Alaska;

(2) Hawaii;

(3) State-designated urban or rural

jobs and enterprise zones;

(4) Empowerment Zones and

Enterprise Communities; and

(5) Labor Surplus Areas listed in the

Department of Labor’s publication

‘‘Area Trends.’’

(b) A CDC must indicate in its annual

report the Job Opportunities actually or

estimated to be provided by each

Project.

(c) If a CDC does not maintain the

required average, it may retain its

certification if it justifies to SBA’s

satisfaction its failure to do so in its

annual report and shows how it intends

to attain the required average.

§ 120.830 Reports a CDC must submit.

A CDC must submit the following

reports to SBA:

(a) An annual report within 90 days

after the end of the CDC’s fiscal year,

and such interim reports as SBA may

require;

(b) Resumes for all new Associates

and staff;

(c) Reports of involvement in any

legal proceeding;

(d) Changes in organizational status;

(e) Changes in any condition that

affects its eligibility to continue to

participate in the 504 program; and

(f) Quarterly service reports on each

loan in its portfolio which is 60 days or

more past due (and interim reports upon

request by SBA).

Extending a CDC’S Area of Operations

§ 120.835 Application to extend an Area of

Operations.

SBA may expand a CDC’s Area of

Operations if the proposed Area of

Operation is not being adequately

served by existing CDC(s) and the

expanding CDC is well-qualified to

serve it. A CDC seeking to expand its

Area of Operations must apply in

writing to the SBA District Office

serving the geographic area in which the

CDC proposes to expand.

(a) A CDC may submit an application

to expand its Area of Operations if the

existing CDCs serving the area have not

averaged, over the last two years, at least

one loan approval per 100,000 of

general population in the Area of

Operation. The one loan per 100,000

population requirement applies only to

the area proposed for expansion, not the

entire Area of Operations of the existing

CDC or CDCs serving the expanded area.

Example to paragraph (a) of this section.

CDC A averages 0.8 loans per 100,000 of

general population state-wide, but 1.2 loans

per 100,000 in city X. CDC B seeks to expand

its Area of Operations only into city X. CDC

B’s application will be denied without

further review because CDC A meets the 1

loan per 100,000 population requirement in

the proposed expanded Area of Operation.

(b) The application to expand must

demonstrate to the satisfaction of SBA

the expanding CDC’s ability to provide

full service to small businesses in the

expanded territory, including

processing, closing, servicing, and, if

authorized, liquidating 504 loans. The
3260 Federal Register / Vol. 61, No. 21 / Wednesday, January 31, 1996 / Rules and Regulations

expanding CDC must also demonstrate

in its application that it will have a local

presence and representation in the

expanded Area of Operations before

submitting any 504 loans for approval.

§ 120.836 Public notice and opportunity

for response.

SBA will notify all CDCs servicing the

proposed area of expansion, allowing at

least 30 days for the existing CDCs to

respond to the District Office. The

expanding CDC also must publish a

notice in a general circulation

newspaper in the proposed area of

expansion, advising of its intent to

expand and giving the public at least 30

days to comment to SBA. The burden of

proof in opposing the application will

be upon the existing CDC or CDCs to

show why SBA should not grant the

application for extension.

§ 120.837 SBA decision on application for

extension.

(a) The SBA District Office may

consider any factor presented to it

concerning the proposed area of

expansion, the expanding CDC and its

Area of Operations, and the existing

CDC or CDCs serving the area, including

the following: number of loan approvals

per 100,000 of general population;

number of loan approvals per 100,000 of

small businesses; the density of small

businesses; jobs created and retained;

the number of 504 loan closings; the

average 504 loan amount; urban,

suburban, or rural character of the

expanding area; the mix of small

businesses; the prevailing economic

conditions; servicing record and

capabilities; currency rates; loss rates;

other services provided to small

businesses (technical and financial

assistance); relationship with the local

SBA office; and ties to and knowledge

of the local community and its

resources.

(b) The SBA District Office will

submit a recommendation, with any

supporting materials, within 30 days of

the end of the comment period to the

AA/FA, who will make the final

decision within 30 days of his or her

receipt of the District Office’s

recommendation. In making its

decision, SBA will consider all

information submitted to it, as well as

the currency of the expanding CDC’s

portfolio, including the default rate.

§ 120.838 Expiration of existing, temporary

expansions.

All existing, temporary expansions of

Areas of Operation shall expire 6

months after March 1, 1996, unless a

CDC applies for permanent expansion

before the expiration date.

§ 120.839 Case-by-case extensions.

(a) A CDC may apply to make an

individual loan for a Project outside its

Area of Operations to the District Office

serving the area in which the Project

will be located if:

(1) The applicant CDC has previously

assisted the business to obtain a 504

loan;

(2) The applicant small business or

CDC can document in writing to the

AA/FA specific circumstances that

would prevent the existing CDC or CDCs

serving the area from assisting the

business adequately; and

(3) The existing CDC or CDCs serving

the area agree to permit the applicant

CDC to make the loan.

(b) The applicant CDC must

demonstrate that it adequately can

service the loan.

(c) The AA/FA may approve the

request for good cause shown.

Accredited Lenders Program (ALP)

§ 120.840 Accredited Lenders Program.

The SBA may designate a CDC as an

Accredited Lender. SBA will provide an

Accredited Lender with expedited loan

processing or servicing action.

(a) Applications. CDCs may apply to

the SBA field office with which it is

most active. The SBA office will send its

recommendation and the application to

the AA/FA for final decision.

(b) Eligibility. In order to be eligible to

receive Accredited Lender status, a CDC

must have been an active participant in

the 504 loan program for not less than

the preceding 12 months. In evaluating

an application to be an Accredited

Lender, SBA will consider all relevant

factors, including:

(1) The CDC’s ability to work with the

local SBA office;

(2) The quality of past performance;

and

(3) The quality of the loan portfolio,

including the default rate.

(c) Term of designation. CDCs will be

designated as ALPs for a two year

period, and are eligible to renew the

designation for additional two year

periods.

(d) Suspension and revocation. The

AA/FA may suspend or revoke ALP

designation upon written notice stating

the reasons therefore at least 10 business

days prior to the effective date of the

suspension or revocation. Reasons for

suspension or revocation may include

loan performance unacceptable to SBA

or violations of applicable statutes,

regulations or published SBA policies

and procedures. An ALP may appeal the

suspension or revocation made under

this section pursuant to the procedures

set forth in part 134 of this chapter. The

action of the AA/FA shall remain in

effect pending resolution of the appeal.

Premier Certified Lenders Program

§ 120.845 Premier Certified Lenders

Program.

The SBA has established a pilot

program to designate a number of CDCs

as Premier Certified Lenders (‘‘PCLPs’’),

which will be able to process, approve,

close and service 504 loans.

(a) Characteristics. Loans processed

through the PCL Program will be subject

to the same loan terms and conditions

as other 504 loans, but final approval by

SBA will be limited to eligibility of the

guarantee.

(b) Applications. A CDC may obtain

information concerning this program

from SBA’s Office of Pilot Operations in

Washington, D.C. A CDC may apply to

the SBA field office with which it is

most active. The SBA office will send

the application with a recommendation

to the AA/FA for final decision.

(c) Eligibility. SBA will consider the

CDC’s ability to work with the local

SBA office and the quality of past

performance.

(d) Loss reserve. A PCLP must

establish a loss reserve for its financings

under this program, secured by its

segregated assets in favor of SBA, in the

amount of the PCLP’s historic loss rate

or 10 percent of its exposure under the

PCLP program, whichever is greater.

The PCLP must contribute to the loss

reserve for each such financing at the

times and in the amounts established by

law.

(e) Review. The SBA shall review a

PCLP’s financings at least annually.

(f) Suspension and revocation. The

AA/FA may suspend or revoke PCLP

designation upon written notice stating

the reasons therefore at least 10 business

days prior to the effective date of the

suspension or revocation. Reasons for

suspension or revocation may include

loan performance unacceptable to SBA,

failure to meet loss reserve or eligibility

criteria, or violations of applicable

statutes, regulations or published SBA

policies and procedures. A PCLP may

appeal the suspension or revocation

made under this section pursuant to the

procedures set forth in part 134 of this

chapter. The action of the AA/FA shall

remain in effect pending resolution of

the appeal.

(g) Program period. On October 1,

1997, the PCLP pilot program ends.

Associate Development Companies

(ADCs)

§ 120.850 ADC functions.

(a) An ADC must support local

economic development efforts. An ADC
Federal Register / Vol. 61, No. 21 / Wednesday, January 31, 1996 / Rules and Regulations 3261

may package, close, and service loans

for a CDC under a written contract

approved by SBA. Such contracts must

meet Service Provider criteria, and

specify the rights and responsibilities of

the parties (including payment terms).

The CDC remains solely responsible to

SBA for the processing, closing, and

servicing of the loan. It may not charge

the Borrower a higher fee because it is

using the ADC’s services.

(b) An ADC must operate in

accordance with statutes, regulations,

policy notices, SBA’s Standard

Operating Procedures (SOPs), and the

information in its application. It must

supply to SBA current and accurate

information about all certification and

operational requirements, and maintain

the records required by SBA.

§ 120.851 ADC eligibility and operating

requirements.

(a) An ADC must demonstrate to SBA

and maintain the following:

(1) Adequate management ability;

(2) A Board of Directors meeting at

least quarterly and chosen from the

membership by the members;

(3) A professional staff, including at

least one qualified full-time professional

with small business lending experience

available during regular business hours;

and

(4) A budget or financial statements

showing the financial capability and

funding to sustain continuing

operations.

(b) An ADC may contract out for staff

services only if SBA gives prior

approval. The contract, subject to SBA

audit, may not be self-serving, and

compensation must be reasonable and

customary.

§ 120.852 Suspension and revocation of

ADCs.

SBA may require corrective action, or

the AA/FA may suspend or revoke ADC

status upon written notice stating the

reasons therefore at least 10 business

days prior to the effective date of the

suspension or revocation. Reasons for

suspension or revocation may include

violations of applicable statutes,

regulations or published SBA policies

and procedures. An ADC may appeal

the suspension or revocation made

under this section pursuant to the

procedures set forth in part 134 of this

chapter. The action of the AA/FA shall

remain in effect pending resolution of

the appeal.

Ethical Requirements

§ 120.855 CDC and ADC ethical

requirements.

CDCs, ADCs and their Associates

must act ethically and exhibit good

character. They must meet all of the

ethical requirements of § 120.140. In

addition, they are subject to the

following:

(a) Any benefit flowing to an

Associate or his or her employer from

activities as an Associate must be

merely incidental (this requirement

does not prevent an Associate or an

Associate’s employer from engaging in a

business relationship with the CDC and/

or the Borrower in the regular course of

business, including providing interim

financing or Third-Party loans); and

(b) Unless waived by SBA for good

cause, an Associate may not be an

officer, director, or manager of more

than one CDC or ADC (except that the

membership or Board of Directors of a

broader-based CDC may include a

member or director of a local CDC

within its Area of Operations).

Project Economic Development Goals

§ 120.860 Required objectives.

A Project must achieve at least one of

the economic development objectives

set forth in § 120.861 or § 120.862.

§ 120.861 Job creation or retention.

A Project must create or retain one Job

Opportunity for every $35,000

guaranteed by SBA.

§ 120.862 Other economic development

objectives.

A Project that achieves any of the

following community development or

public policy goals is eligible if the

CDC’s overall portfolio of 504 loans,

including the subject loan, meets or

exceeds the CDC’s required Job

Opportunity average. Loan applications

must indicate how the Project will meet

the specified economic development

objective.

(a) Community Development goals:

(1) Improving, diversifying or

stabilizing the economy of the locality;

(2) Stimulating other business

development;

(3) Bringing new income into the

community;

(4) Assisting manufacturing firms

(Standard Industrial Classification

Manual (SIC) Codes 20–49); or

(5) Assisting businesses in Labor

Surplus Areas as defined by the

Department of Labor.

(b) Public Policy goals:

(1) Revitalizing a business district of

a community with a written

revitalization or redevelopment plan;

(2) Expanding exports;

(3) Expanding Minority Enterprise

development (See § 124.103(b) of this

chapter);

(4) Aiding rural development;

(5) Increasing productivity and

competitiveness (retooling, robotics,

modernization, competition with

imports);

(6) Modernizing or upgrading

facilities to meet health, safety, and

environmental requirements; or

(7) Assisting businesses affected by

Federal budget reductions, including

base closings, either because of the loss

of Federal contracts or the reduction in

revenues due to a decreased Federal

presence.

Leasing Policies Specific to 504 Loans

§ 120.870 Leasing Project Property.

(a) A Borrower may use the proceeds

of a 504 loan to acquire, construct, or

modify buildings and improvements,

and/or to purchase and install

machinery and equipment located on

land leased to the Borrower by the CDC

or an unrelated lessor if:

(1) The remaining term of the lease,

including options to renew, exercisable

solely by the lessee, equals or exceeds

the term of the Debenture, or, in the case

of machinery or equipment, equals or

exceeds the useful life of the property or

the term of the Debenture, whichever is

lesser;

(2) The Borrower assigns its interest

in the lease to the CDC with right of

reassignment to SBA; and

(3) The 504 loan is secured by a

recorded lien against the leasehold

estate and other collateral as necessary.

(b) If a CDC leases property to a small

business, the rent paid by the small

business during the term of the

Debenture must be enough to pay

principal and interest on all debt

incurred by the CDC to finance the

Project, and all related expenses. The

rent also may include a reasonable

return on the CDC’s investment.

§ 120.871 Leasing part of an existing

building to another business.

(a) The costs of interior finishing of

space to be leased out to another

business are not eligible Project costs.

(b) Third-party loan proceeds used to

renovate the leased space do not count

towards the 504 first mortgage

requirement or the Borrower’s

contribution.

Loan-Making Policies Specific to 504

Loans

§ 120.880 Basic eligibility requirements.

In addition to the eligibility

requirements specified in subpart A, to

be an eligible Borrower for a 504 loan,

a small business must:

(a) Use the Project Property (except

that an Eligible Passive Company may

lease to an Operating Company); and

(b) Together with its affiliates, meet

one of the following size standards:
3262 Federal Register / Vol. 61, No. 21 / Wednesday, January 31, 1996 / Rules and Regulations

(1) It does not have a tangible net

worth in excess of $6 million, and does

not have an average net income after

Federal income taxes (excluding any

carry-over losses) for the preceding two

years in excess of $2 million; or

(2) It meets the size standards in Part

121 of this chapter for the industry in

which it is primarily engaged.

§ 120.881 Ineligible Projects for 504 loans.

In addition to the ineligible

businesses and uses of proceeds

specified in subpart A of this part, the

following Projects are ineligible for 504

financing:

(a) Relocation of any of the operations

of a small business which will cause a

net reduction of one-third or more in the

workforce of a relocating small business

or a substantial increase in

unemployment in any area of the

country, unless the CDC can justify the

loan because:

(1) The relocation is for key economic

reasons and crucial to the continued

existence, economic wellbeing, and/or

competitiveness of the applicant; and

(2) The economic development

benefits to the applicant and the

receiving community outweigh the

negative impact on the community from

which the applicant is moving; and

(b) Projects in foreign countries (loans

financing real or personal property

located outside the United States or its

possessions).

§ 120.882 Eligible Project costs for 504

loans.

Eligible Project costs which may be

paid with the proceeds of 504 loans are:

(a) Costs directly attributable to the

Project including expenditures incurred

by the Borrower (with its own funds or

from a loan):

(1) To acquire land used in the Project

prior to applying to SBA for the 504

loan; or

(2) For any other expense toward a

Project within nine months prior to

receipt by SBA of a complete loan

application, unless the time limit is

extended or waived by SBA for good

cause;

(b) In Projects involving construction,

a contingency reserve for cost overruns

not to exceed 10 percent of construction

cost;

(c) Professional fees directly

attributable and essential to the Project,

such as title insurance, architecture,

engineering, accounting, environmental

studies, and legal fees (other than legal

fees associated with the closing); and

(d) Repayment of interim financing

including points, fees and interest.

§ 120.883 Eligible administrative costs for

504 loans.

The following costs and fees are not

part of Project costs but may be paid

with the proceeds of the 504 loan and

the Debenture (see § 120.971):

(a) SBA guarantee fee;

(b) Funding fee (to cover the cost of

a public issuance of securities and the

Trustee);

(c) CDC processing fee;

(d) Closing costs, other than legal fees;

and

(e) Underwriters fee.

§ 120.884 Ineligible costs for 504 loans.

Costs not directly attributable and

necessary for the Project may not be

paid with proceeds of the 504 loan.

These include, but are not limited to,

the following:

(a) Debt refinancing (other than

interim financing).

(b) Third-Party Loan fees

(commitment, broker, finders,

origination, processing fees of

permanent financing).

(c) Ancillary business expenses, such

as:

(1) Working capital;

(2) Counseling or management

services fees;

(3) Incorporation/organization costs;

(4) Franchise fees; and

(5) Advertising.

(d) Fixed-asset Project components,

such as:

(1) Short-term equipment, furniture,

and furnishings (unless essential to and

a minor portion of the Project);

(2) Automobiles, trucks, and

airplanes; and

(3) Construction equipment (except

for heavy duty construction equipment

integral to a business’ operations and

meeting the IRS definition of capital

equipment).

(e) Closing legal fees.

Interim Financing

§ 120.890 Source of interim financing.

A Project may use interim financing

for all Project costs except the

Borrower’s contribution. Any source

(including a CDC) may supply interim

financing provided:

(a) The financing is not derived from

any SBA program, directly or indirectly;

(b) The terms and conditions of the

financing are acceptable to SBA;

(c) The source is not the Borrower or

an Associate of the Borrower; and

(d) The source has the experience and

qualifications to monitor properly all

Project construction and progress

payments. (If the source lacks such

experience or qualifications, SBA may

require the interim loan to be managed

by a third party such as a bank or

professional construction manager.)

§ 120.891 Certifications of disbursement

and completion.

Before the Debenture is issued, the

interim lender must certify the amount

disbursed. The CDC must certify that

the Project was completed in

accordance with the final plans and

specifications (except as provided in

§ 120.961).

§ 120.892 Certifications of no adverse

change.

Following completion of the Project,

the following certifications must be

made before the 504 loan closing:

(a) The interim lender must certify to

the CDC that it has no knowledge of any

unremedied substantial adverse change

in the condition of the small business

since the application to the interim

lender;

(b) The Borrower (or Operating

Company) must certify to the CDC that

there has been no unremedied

substantial adverse change in its

financial condition or its ability to repay

the 504 loan since the date of

application, and must furnish interim

financial statements, current within 90

days of closing; and

(c) The CDC must issue an opinion to

the best of its knowledge that there has

been no unremedied substantial adverse

change in the Borrower’s (or Operating

Company’s) ability to repay the 504 loan

since its submission of the loan

application to SBA.

Permanent Financing

§ 120.900 What are the sources of

permanent financing?

Permanent financing for each Project

must come from three sources: the

Borrower’s contribution, Third-Party

Loans, and the 504 loan. Typically, the

Borrower contributes 10 percent of the

permanent financing, Third-Party Loans

50 percent and the 504 loan 40 percent.

The Borrower’s Contribution

§ 120.910 How much must the Borrower

contribute?

The Borrower must contribute to the

Project cash (or property acceptable to

SBA obtained with the cash) or land

(that is part of the Project Property)

valued at 10 percent or more of the

Project cost (exclusive of administrative

cost). The source of the contribution

may be a CDC or any other source

except an SBA business loan program

(see § 120.913 for SBIC exception).

§ 120.911 Land contributions.

The Borrower’s contribution may be

land (including buildings, structures

and other site improvements which will

be part of the Project Property)
Federal Register / Vol. 61, No. 21 / Wednesday, January 31, 1996 / Rules and Regulations 3263

previously acquired by the Borrower or

the CDC.

§ 120.912 Borrowed contributions.

The Borrower may borrow its cash

contribution from the CDC or a third

party. If any of the contribution is

borrowed, the interest rate must be

reasonable. If the loan is secured by any

of the Project assets, the loan must be

subordinate to the liens securing the 504

Loan, and the loan may not be repaid at

a faster rate than the 504 Loan unless

SBA gives prior written approval. A

third party lender may not receive

voting rights, stock options, or any other

actual or potential voting interest in the

small business.

§ 120.913 May an SBIC provide the

contribution?

Subject to part 107 of this chapter,

SBIC’s may provide financing for all or

part of the Borrower’s contribution to

the project. SBA shall consider SBIC

funds to be derived from federal sources

if the SBIC has leverage (as defined in

part 107 of this chapter). If the SBIC

does not have leverage, the investment

will be considered to be from private

funds. SBIC financing must be

subordinated to the 504 loan and may

not be repaid at a faster rate than the

Debenture.

Third Party Loans

§ 120.920 The first lien position.

The Borrower must obtain one or

more Third Party Loans totaling at least

as much as the 504 loan. Third Party

Loans usually have the first lien

position. They cannot be guaranteed by

SBA.

§ 120.921 Terms of Third Party loans.

(a) Maturity. A Third Party Loan must

have a term of at least 7 years when the

504 loan is for a term of 10 years and

10 years when the 504 loan is for 20

years. If there is more than one Third

Party Loan, an overall loan maturity

must be calculated, taking into account

the maturities and amounts of each

loan. If there is a balloon payment, it

must be justified in the loan report and

clearly identified in the Loan

Authorization.

(b) Interest rates. Interest rates must

be reasonable. SBA must establish and

publish in the Federal Register a

maximum interest rate for any Third

Party Loan from commercial financial

institutions. The rate shall remain in

effect until changed.

(c) Other terms. The Third Party Loan

must not have any early call feature or

contain any demand provisions unless

the loan is in default. By participating,

a Third Party Loan lender waives, as to

the CDC/SBA financing, any provision

in its deed of trust, or mortgage, or other

documents prohibiting further

encumbrances or subordinate debt. In

the event of default, the Third Party

Lender must give the CDC and SBA

written notice of default within 30 days

of the event of default and at least 60

days prior to foreclosure.

(d) Subordination. A Third-Party Loan

lienholder must subordinate to the CDC/

SBA lien any future advance in excess

of the outstanding principal balance and

accrued interest of the Third Party Loan

at the time of such advance except

expenditures for collection,

maintenance, and protection of the

Third Party Loan lienholder’s lien

position.

(e) Escalation upon default. A ThirdParty Lender may not escalate the rate

of interest upon default to an amount

greater than the maximum rate set forth

in paragraph (b) of this section.

§ 120.922 Pre-existing debt on the Project

Property.

In addition to its share of Project cost,

a Third-Party Loan may include

consolidation of existing debt on the

Project Property. The consolidation

must not improve the lien position of

the Lender on the pre-existing debt,

unless the debt is a previous Third-Party

Loan.

§ 120.923 What are the policies on

subordination?

(a) Financing provided by the seller of

Project Property must be subordinate to

the 504 loan. SBA may waive the

subordination requirement if the

property is classified as ‘‘other real

estate owned’’ by a national bank or

other Federally regulated lender and

SBA considers the property to be of

sufficient value to support the 504 loan.

(b) A Borrower is eligible for a 504

loan even if part of the Project financing

is tax-exempt. SBA’s lien position must

not be subordinate to loans made from

the proceeds of the tax-exempt

obligation.

§ 120.924 Prepayment of subordinate

financing.

The Borrower must not prepay any

Project financing subordinate to the 504

loan without SBA’s prior written

consent.

§ 120.925 Preferences.

No Third Party Lender shall establish

a Preference.

§ 120.926 Referral fee.

The CDC may receive a referral fee

from the Third Party Lender if the CDC

secured the lender for the Borrower

under a written contract. The Borrower

cannot pay this fee. If a CDC charges a

referral fee, the CDC will be construed

as a Referral Agent under part 103 of

this chapter.

504 Loans and Debentures

§ 120.930 Amount.

(a) Generally, a 504 loan may not

exceed 40 percent of total Project cost

plus 100 percent of eligible

administrative costs. For good cause

shown, SBA may authorize an increase

in the percentage of Project costs

covered up to 50 percent. No more than

50 percent of eligible Project costs can

be from Federal sources, whether

received directly or indirectly through

an intermediary.

(b) Generally, the minimum 504 loan

must be $50,000, although, upon good

cause shown, SBA may permit a 504

loan as small as $25,000. The amount of

the Debenture must equal the amount of

the 504 Loan plus administrative costs.

(c) Upon completion of the Project,

the Debenture amount will be reduced

by the amount that the unused

contingency reserve exceeds 2 percent

of the anticipated Debenture.

§ 120.931 504 lending limits.

The outstanding balance of all SBA

financial assistance to a Borrower and

its affiliates under the 504 program

covered by this Part must not exceed

$750,000 ($1,000,000 if one or more of

the public policy goals enumerated in

§ 120.862(b) applies to the Project).

§ 120.932 Interest rate.

The interest rate of the 504 Loan and

the Debenture which funds it is set by

the SBA and approved by the Secretary

of the Treasury.

§ 120.933 Maturity.

The term of a 504 Loan and the

Debenture which funds it shall be either

10 or 20 years.

§ 120.934 Collateral.

The CDC/SBA takes a junior lien

position (usually a second lien) on the

Project collateral. In rare circumstances,

collateral other than the Project

collateral may be accepted by SBA.

Sometimes secondary collateral is

required. All collateral must be insured

against such hazards and risks as SBA

may require, with provisions for notice

to SBA and the CDC in the event of

impending lapse of coverage.

§ 120.935 Deposit.

At the time of application for a 504

loan, the CDC may require a deposit

from the Borrower of $2,500 or 1

percent of the Net Debenture Proceeds,

whichever is less. The deposit may be
3264 Federal Register / Vol. 61, No. 21 / Wednesday, January 31, 1996 / Rules and Regulations

applied to the loan processing fee if the

application is accepted, but must be

refunded if the application is denied. If

the small business withdraws its

application, the CDC may deduct from

the deposit reasonable costs incurred in

packaging and processing the

application.

§ 120.936 Subordination to CDC.

SBA, in its sole discretion, may

permit subordination of the Debenture

to any other obligation of the CDC,

except debt incurred by the CDC to

obtain funds to loan to the Borrower for

the Borrower’s required contribution to

the Project financing.

§ 120.937 Assumption.

A 504 loan may be assumed with

SBA’s prior written approval. § 120.938

Default.

(a) Upon occurrence of an event of

default specified in the 504 note which

requires automatic acceleration, the note

becomes due and payable. Upon

occurrence of an event of default which

does not require automatic acceleration,

SBA may forbear acceleration of the

note and attempt to resolve the default.

If the default is not cured subsequently,

the note shall be accelerated. In either

case, upon acceleration of the note, the

Debenture which funded it is also due

immediately, and SBA must honor its

guarantee of the Debenture. SBA shall

not reimburse the investor for any

premium paid.

(b) If a CDC defaults on a Debenture,

SBA generally shall limit its recovery to

the payments made by the small

business to the CDC on the loan made

from the Debenture proceeds, and the

collateral securing the defaulted loan.

However, SBA will look to the CDC for

the entire amount of the Debenture in

the case of fraud, negligence, or

misrepresentation by the CDC.

§ 120.939 Borrower prohibition.

Neither a Borrower nor an Associate

of the Borrower may purchase an

interest in a Debenture Pool in which

the Debenture that funded its 504 loan

has been placed.

§ 120.940 Prepayment of the 504 loan or

Debenture.

The Borrower may prepay its 504

loan, if it pays the entire principal

balance, unpaid interest, any unpaid

fees, and any prepayment premium

established in the note. If the Borrower

prepays, the CDC must prepay the

corresponding Debenture with interest

and premium. If one of the Debentures

in a Debenture Pool is prepaid, the

Investors in that Debenture Pool must be

paid pro rata, and SBA’s guarantee on

the entire Debenture Pool must be

proportionately reduced. If the entire

Debenture Pool is paid off, SBA may

call all Certificates backed by the Pool

for redemption.

§ 120.941 Certificates.

(a) The face value of a Certificate must

be at least $25,000. Certificates are

issued in registered form and transferred

only by entry on the central registry

maintained by the Trustee. SBA

guarantees the timely payment of

principal and interest on the

Certificates.

(b) Before the sale of a Certificate, the

seller, or the broker or dealer acting as

the seller’s agent, must disclose to the

purchaser the terms, conditions, yield,

and premium and other characteristics

not guaranteed by SBA.

Debenture Sales and Service Agents

§ 120.950 SBA and CDC must appoint

agents.

SBA and the CDC must appoint the

following agents to facilitate the sale

and service of the Certificates and

disbursement of the proceeds.

§ 120.951 Selling agent.

The CDC, with SBA approval, shall

appoint a Selling Agent to select

underwriters, negotiate the terms and

conditions of Debenture offerings with

the underwriters, and direct and

coordinate Debenture sales.

§ 120.952 Fiscal agent.

SBA shall appoint a Fiscal Agent to

assess the financial markets, minimize

the cost of sales, arrange for the

production of the Offering Circular,

Debenture Certificates, and other

required documents, and monitor the

performance of the Trustee and the

underwriters.

§ 120.953 Trustee.

SBA must appoint a Trustee to:

(a) Issue Certificates;

(b) Transfer the Certificates upon

resale in the secondary market;

(c) Maintain physical possession of

the Debentures for SBA and the

Certificate holders;

(d) Establish and maintain a central

registry of:

(1) Debenture Pools, including the

CDC obligors and the interest rate

payable on the Debentures in each Pool;

(2) Certificates issued or transferred,

including the Debenture Pool backing

the Certificate, name and address of the

purchaser, price paid, the interest rate

on the Certificate, and fees or charges

assessed by the transferror; and

(3) Brokers and dealers in Certificates,

and the commissions, fees or discounts

granted to the brokers and dealers;

(e) Receive semi-annual Debenture

payments and prepayments;

(f) Make regularly scheduled and

prepayment payments to Investors; and

(g) Assure before any resale of a

Debenture or Certificate is recorded in

the registry that the seller has provided

the purchaser a written disclosure

statement approved by SBA.

§ 120.954 Central Servicing Agent.

(a) SBA has entered into a Master

Servicing Agreement designating a

Central Servicing Agent (CSA) to

support the orderly flow of funds among

Borrowers, CDCs, and SBA. The CDC

and Borrower must enter into an

individual Servicing Agent Agreement

with the CSA for each 504 loan,

constituting acceptance by the CDC and

the Borrower of the terms of the Master

Servicing Agreement.

(b) The CSA has established a master

reserve account. All funds related to the

504 loans and Debentures flow through

the master reserve account under the

provisions of the Master Servicing

Agreement. The master reserve account

will be funded by a guarantee fee, a

funding fee to be published from time

to time in the Federal Register, and by

principal and interest payments of 504

loans. At SBA’s direction, the CSA may

use funds in the master reserve account

to defray program expenses. In the event

a Borrower defaults and its 504 note is

accelerated, SBA shall add funds under

its guarantee to ensure the full and

timely payment of the Debenture which

funded the 504 loan. At SBA’s direction,

the CSA must pay to the CDC servicing

each loan the interest accruing in the

master reserve account on loan

payments made by each Borrower

between the date of receipt of each

monthly payment and the date of

disbursement to investors. The CSA

may disburse such interest periodically

to CDCs on a pro rata basis. SBA may

use interest accruals in the master

reserve account earned prior to October

1991 (not previously distributed to the

CDCs) for the costs of 504 program

administration.

§ 120.955 Agent bonds and records.

(a) Each agent (in §§ 120.951 through

120.954) must provide a fidelity bond or

insurance in such amount as necessary

to fully protect the interest of the

government.

(b) SBA must have access at the

agent’s place of business to all books,

records and other documents relating to

Debenture activities.

§ 120.956 Suspension or revocation of

brokers and dealers.

The AA/FA may suspend or revoke

the privilege of any broker or dealer to
Federal Register / Vol. 61, No. 21 / Wednesday, January 31, 1996 / Rules and Regulations 3265

participate in the sale or marketing of

Debentures and Certificates for actions

or conduct bearing negatively on the

broker’s fitness to participate in the

securities market. SBA must give the

broker or dealer written notice, stating

the reasons therefore, at least 10

business days prior to the effective date

of the suspension or revocation. A

broker or dealer may appeal the

suspension or revocation made under

this section pursuant to the procedures

set forth in part 134 of this chapter. The

action of the AA/FA will remain in

effect pending resolution of the appeal.

SBA may suspend or revoke the

opportunity for a hearing under part 134

of this chapter.

Closings

§ 120.960 Responsibility for closing.

The CDC is responsible for the 504

Loan closing. The Debenture closing is

the joint responsibility of the CDC and

SBA.

§ 120.961 Construction escrow accounts.

The CSA, title company, CDC

attorney, or bank may hold Debenture

proceeds in escrow to complete Project

components such as landscaping and

parking lots, and acquire machinery and

equipment if the component or

acquisition is a minor portion of the

total Project and has been contracted for

completion or delivery at a specified

price and specific future date. The

escrow agent must disburse funds upon

approval by the CDC and the SBA,

supported by invoices and payable

jointly to the small business and the

designated contractor.

Servicing and Fees

§ 120.970 Servicing of 504 loans and

Debentures.

The CDC must service the 504 loan in

accordance with the Loan

Authorization, these regulations, SBA

policies and procedures, and prudent

lending standards until paid in full,

including review of the small business’s

financial statements, tax filings,

insurance, and security filings. In doing

so, CDCs must comply with the

provisions of § 120.513. In addition,

CDCs must comply with the servicing

requirements set forth in SBA’s SOP.

CDCs must report promptly to SBA any

adverse trend, condition or information

relevant to a Borrower. Upon request by

a CDC, SBA may agree to defer a

Borrower’s monthly payment. SBA may

negotiate agreements with CDCs to

liquidate loans.

§ 120.971 Allowable fees paid by

Borrower.

(a) CDC fees. CDCs may charge the

following fees to the Borrower:

(1) Processing fee. The CDC may

charge up to 1.5 percent of the net

Debenture proceeds to process the

financing. Two-thirds of this fee will be

considered earned and may be collected

by the CDC when the Authorization for

the Debenture is issued by SBA. The

portion of the processing fee paid by the

Borrower may be reimbursed from the

Debenture proceeds;

(2) Closing fee. The CDC may charge

a fee to cover an amount sufficient to

reimburse it for reasonable legal

expenses of in-house or outside legal

counsel. The CDC may also charge a fee

to cover reasonable miscellaneous

closing costs. Closing costs, other than

legal fees, may be funded out of the

Debenture proceeds;

(3) Servicing fee. The CDC will charge

a monthly servicing fee of not less than

0.5 percent per annum nor more than 2

percent per annum on the unpaid

balance of the loan as determined at

five-year anniversary intervals. A

servicing fee in excess of 1.5 percent in

a Rural Area and 1 percent everywhere

else requires SBA’s prior written

approval, based on evidence of

substantial need. The servicing fee may

be paid only from loan payments

received. The fees may be accrued

without interest and collected from the

CSA when the payments are made;

(4) Late fees. Loan payments received

after the 15th of each month may be

subject to a late payment fee of 5

percent of the late payment or $100,

whichever is greater. These fees will be

collected by the CSA on behalf of the

CDC; and

(5) Assumption fee. Upon SBA’s

written approval, a CDC may charge an

assumption fee not to exceed 1 percent

of the outstanding principal balance of

the loan being assumed.

(b) CSA fees. The CSA may charge an

initiation fee on each loan and a

monthly servicing fee under the terms of

the Master Servicing Agreement.

(c) Other agent fees. Agent fees and

charges necessary to market and service

Debentures and Certificates may be

assessed to the Borrower or the investor.

The fees must be approved by SBA and

published periodically in the Federal

Register.

(d) SBA fees. (1) SBA charges a 0.5

percent guarantee fee on the Debenture.

(2) For those loans approved after

October 1, 1995, SBA charges a fee of

0.125 per annum on the unpaid

principal balance of the loan as

determined at five-year anniversary

intervals.

(e) Miscellaneous fees. A funding fee

not to exceed 0.25 percent of the

Debenture may be charged to cover costs

incurred by the trustee, fiscal agent,

transfer agent.

§ 120.972 Oversight and evaluation of

CDCs and ADCs.

SBA may conduct an operational

review of a CDC or ADC. The SBA

Office of Inspector General may

conduct, supervise or coordinate audits

pursuant to the Inspector General Act.

The CDC or ADC must cooperate and

make its staff, records, and facilities

available.

CDC Transfer, Suspension and

Revocation

§ 120.980 Transfer of CDC to ADC status.

SBA shall transfer to ADC status any

CDC that fails to meet the activity level

required by SBA, on average over two

consecutive fiscal years. SBA shall

notify the CDC in writing of the action

and of the opportunity for a hearing

pursuant to part 134 of this chapter at

least 10 business days prior to the

transfer. During the pendency of a

hearing, SBA’s action will remain in

effect.

§ 120.981 Voluntary transfer and surrender

of CDC certification.

A CDC may not transfer its

certification or withdraw from the 504

program without SBA’s consent. The

CDC must provide a plan to SBA to

transfer its portfolio. The portfolio may

only be transferred with SBA’s written

consent. If a CDC desires to withdraw

from the 504 program, it must forfeit its

portfolio to SBA. SBA may conduct an

audit of the transferring or withdrawing

CDC.

§ 120.982 Correcting CDC servicing

deficiencies.

SBA may require corrective action,

including the transfer of existing or

pending financings to another CDC in

good standing. SBA must notify the CDC

in writing of any servicing, reporting or

collection deficiencies and the

corrective actions to be taken. SBA may

instruct the CSA to withhold service

and late fees and may assess the CDC up

to $250 per day for expenses incurred

by SBA to correct the deficiencies. If

non-compliance continues for 90 days,

SBA may take the fees as compensation

for its efforts to obtain compliance.

§ 120.983 Transfer of CDC servicing to

SBA or another CDC.

If a CDC fails to correct servicing

deficiencies, or is unable or unwilling to

service its portfolio, SBA may assume

the servicing or require the transfer of

all or part of the CDC’s portfolio to
3266 Federal Register / Vol. 61, No. 21 / Wednesday, January 31, 1996 / Rules and Regulations

another CDC within or adjoining the

deficient CDC’s Area of Operations. If

there is no suitable CDC, SBA may

approve a transfer to another entity.

Future service fees from transferred

loans will be paid to the transferee. In

addition, the CDC’s processing authority

will be temporarily suspended.

§ 120.984 Suspension or revocation of

CDC certification.

(a) Suspend or revoke. The AA/FA

may suspend or revoke the CDC’s

certification if a CDC:

(1) Violates a statute, an SBA

regulation, or the terms of a Debenture,

authorization, or agreement with SBA;

(2) Makes a material false statement,

knowingly misrepresents, or fails to

state a material fact;

(3) Fails to maintain good character;

(4) Fails to operate according to

prudent lending standards;

(5) Fails to correct servicing,

collection, reporting, or other

deficiencies; or

(6) Is unable or unwilling to operate

in accordance with the requirements of

this part.

(b) Transfer portfolio. Upon

suspension or revocation, the CDC must

transfer its remaining portfolio and any

504 applications or financings in

process to another CDC designated or

approved by SBA. If a pending 504

financing is completed after a transfer,

any deposit must also be transferred.

Any fees must be apportioned by SBA

between the two CDCs in proportion to

services performed.

(c) Provide written notice. SBA must

give written notice to the CDC at least

10 business days prior to the effective

date of a suspension or revocation,

informing the CDC of the opportunity

for a hearing pursuant to part 134 of this

chapter.

Enforceability of 501, 502 and 503

Loans and Other Laws

§ 120.990 501, 502, and 503 loans.

SBA has discontinued loan programs

for 501, 502, and 503 loans. Outstanding

loans remain under these programs, and

Borrowers, CDCs, and SBA must comply

with the terms and conditions of the

corresponding notes and Debentures,

and the regulations in this part in effect

when the obligations were undertaken

or last in effect, if applicable.

§ 120.991 Effect of other laws.

No State or local law may preclude or

limit SBA’s exercise of its rights with

respect to notes, guarantees, Debentures

and Debenture Pools, or of its

enforcement rights to foreclose on

collateral.

PARTS 108, 116, 122, and 131—

[REMOVED]

2. Parts 108, 116, 122, and 131 are

removed.

Dated: January 22, 1996.

John T. Spotila,

Acting Administrator.

[FR Doc. 96–1432 Filed 1–30–96; 8:45 am]

BILLING CODE 8025–01–P

13 CFR Part 115

Surety Bond Guarantee

AGENCY: Small Business Administration

(SBA).

ACTION: Final rule.

SUMMARY: This final rule revises the

regulations found at 13 CFR Part 115,

governing the Surety Bond Guarantee

(SBG) Program. It eliminates

inconsistencies, clarifies procedures,

accommodates program experience and

industry changes, and provides for more

efficient program operation. It also

clarifies and shortens regulations where

appropriate, eliminates redundant

provisions, consolidates and reorganizes

sections, and clarifies ambiguous

language.

EFFECTIVE DATE: This final rule is

effective March 1, 1996.

FOR FURTHER INFORMATION CONTACT:

Barbara Brannan, Office of Surety

Guarantees, (202) 205–6540.

SUPPLEMENTARY INFORMATION: In

response to a Memorandum from

President Clinton for all federal agencies

to simplify their regulations, SBA

published a proposed rule on November

27, 1995, to revise the regulations

governing the Surety Bond Guarantee

Program. See 60 FR 58263 (November

27, 1995). The public was afforded a

thirty-day period in which to submit

comments on the proposed rule to SBA.

During that period, SBA received 12

comment letters. After giving careful

consideration to the concerns raised in

those letters, SBA is today finalizing the

proposed rule with certain

modifications discussed below.

General Comments

Those comment letters that addressed

the proposed renumbering and

reorganization of Part 115 commended

the rewrite for its clarity and

comprehensibility. Those aspects of the

proposed rule are being finalized as

proposed. In this final rule, SBA has

continued its effort to simplify Part 115

by creating smaller sections out of the

largest proposed section (§ 115.60).

Subsequent sections (§§ 115.61 through

115.64) have been renumbered to

accommodate this change.

Definitions—Contract, etc.

All three of the comments received on

the proposed change to the definition of

‘‘contract’’ objected to the exclusion of

maintenance agreements covering

defective materials. Under the proposal,

a maintenance agreement covering

defective workmanship would be

considered a contract, but a

maintenance agreement covering

defective materials would not. It was

argued in the comments that the typical

maintenance agreement in use today

covers both defective workmanship and

defective materials. On reconsideration,

SBA agrees that the definition of

contract should permit coverage of

defective materials since that accords

with standard practice in the industry

today. The definition is finalized

accordingly. The final version also

clarifies that maintenance agreements of

longer than two years duration can be

considered contracts if they meet the

requirements set forth in the definition.

A new defined term has also been

added to the final rule: ‘‘final bond’’.

The term means a performance bond

and/or a payment bond. This is one of

several non-substantive changes SBA is

making in the final rule to make the

regulations clearer.

Eligibility of Payment Bonds

Proposed § 115.12(b) would have

allowed payment bonds to be

guaranteed by SBA only if performance

bonds were issued at the same time. As

four comment letters pointed out, recent

amendments to the Miller Act eliminate

the bonding requirement for federal

contracts of less than $100,000, but

allow for certain alternatives to protect

subcontractors and suppliers against

non-payment by the general contractor.

As one alternative, the contracting

officer may require a payment bond on

the contract. Under SBA’s proposed

change to § 115.12(b), contractors in the

SBG Program would have been unable

to bid on those small public contracts

that require payment bonds only.

Given the recent Miller Act changes,

SBA agrees that payment bonds should

not automatically be considered

ineligible for guaranteed bonding when

no performance bond is issued. The

final version of § 115.12(b), therefore,

does not restrict the eligibility of

payment bonds. However, SBA does not

intend to guarantee payment bonds that

are essentially forfeiture bonds. If a

payment bond allows the claimant to

receive the full amount of the bond from

the surety regardless of the amount of

the damage or loss the claimant has