The application window for the Paycheck Protection Program (PPP) program closed last month, but the U.S. Congress appears to be considering several pieces of legislation aimed at either extending the program to allow certain small businesses to receive another round of forgivable loans or small business aid. However, certain problems that arose during the initial implementation of the PPP program remain unresolved, specifically the exclusion of certain businesses from the program on account of their pending bankruptcy.

The Coronavirus Aid, Relief, and Economic Security Act, also known as the CARES Act, passed by the U.S. Congress in response to the far-reaching economic effects of COVID-19 pandemic in the United States established the PPP loan program. PPP loans are backed by the federal government through the Small Business Administration (SBA). Under this program, SBA authorized participating lenders to lend directly to businesses through the PPP. The goal is to provide a lifeline for businesses struggling to recover from the impacts of the COVID-19 pandemic. The interest and principal payments on the PPP loans are deferred for a period and may be forgivable in whole or in part if the borrower satisfies certain requirements.

The CARES Act provides that the PPP loans are available to, among other entities: 1) any business, that, (a) qualifies as a small business concern under current SBA standards corresponding to its primary industry, ( b) meets both tests in SBA’s “alternative-size standard” as of March 27, 2020, c) employs not more than 500 employees whose principal residence is in the United States or ( 2) a sole proprietorship, independent contractor or eligible self-employed individual.

Considerable confusion arose during the previous implementation of the PPP loan program because certain businesses in bankruptcy at the time of submitting their application for the loans and prior to disbursement were found to be ineligible to receive a PPP loan.

While the scope of the CARES Act is wide-ranging, it does not prohibit any business whether in bankruptcy or not from receiving a PPP Loan. Nevertheless, the Act grants the SBA emergency rulemaking authority to issue regulations concerning the PPP program.  As a result, the SBA promulgated several regulations concerning the PPP eligibility. One of such rules precluded bankruptcy debtors from obtaining PPP loans. Before SBA stopped accepting PPP applications last month, businesses that would have otherwise qualified for a loan under the program challenged this rule as discriminatory, arbitrary, capricious and an abuse of discretion. In Hidalgo County Emergency Service Foundation v. Carranza, the United States Court of Appeals for the Fifth Circuit did not address the validity of the rule. Rather, the court found that an injunctive relief could not lie against the SBA Administrator or his property. While a few other federal courts agreed with this ruling, some disagreed with the SBA’s decision to exclude debtors, but refused to overrule the SBA’s position on how it should administer the PPP program. Given these mixed and conflicting court decisions, it is not likely that we will see any clarity on this issue anytime soon.

However, Section 525 of the Bankruptcy Code provides that “a governmental unit may not deny, revoke, suspend, or refuse to renew a license, permit, charter, franchise, or other similar grant to [or] discriminate with respect to such grant against . . . a debtor.” 11 U.S.C. § 525(a). The prohibition on governmental discrimination against a debtor based solely on bankruptcy filing is intended to preclude governmental entities from refusing to deal with a debtor based upon its bankruptcy filing. By hiding under cover of non-injunctive mandate against the SBA administrator, SBA has attempted to do an end run around Bankruptcy Code Section 525.

Unfortunately, given the conflicting messages loan applicants, debtors, and participating lenders received during the initial implementation of the program, and especially since the courts shied away from making a definitive pronouncement on the validity of bankruptcy debtor’s exclusion from the program, it is nearly impossible to predict a different outcome if and when the government decides to allow another round of PPP loan applications. Nonetheless, Congressional action on this important issue that advances the overall intent of both the Bankruptcy Code and CARES Act will be a particularly welcome development.

Eric Nwaubani is the Managing Attorney of Law Group International Chartered, and has experience in all aspects of business law.

If you have questions about any legal issues relating to your business, contact us today at attorney@lgic.us or call 202-349-5784.

This update has been provided by the author for informational purposes only and are not legal advice or counsel. Transmission of the information is not intended to create, and receipt does not constitute, an attorney-client relationship. This information is not provided in the course of an attorney-client relationship and is not intended to constitute legal advice or to substitute for obtaining legal advice from an attorney