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June 8, 2011

Firm News for June 2011: Best Practices: Refinancing Credit Card Debt

By: Katie G. O’Brien, Esq.

The SOP 50 10 5(C) sets forth clear guidelines that Lenders are required to follow when loan proceeds will be used to refinance credit card debt. As with other types of debt refinance, lenders must begin by including a written analysis (and supporting documentation) in their loan file which addresses the following:

· Reason the debt was incurred

· Whether over-obligated or imprudent borrowing has required a major restructuring of the debt

· Whether the debt is currently on reasonable terms

· Whether the new loan will improve the financial condition of the borrower

· Whether the debt includes payments to creditors in a position to sustain a loss

· Whether the lender or SBA would sustain part or all of the same loss by refinancing the debt

· Portion of total loan proceeds comprised of refinance

Additionally, if loan proceeds are being used to refinance credit card debt, lenders must obtain a certification from the borrower that the loan proceeds are being used to refinance debt that was incurred exclusively for business-related purposes. Whether or not a lender needs to obtain additional documentation or evidence depends on whether the credit card is issued in the name of the small business or whether it is in the name of individual(s).

If the credit card is in the name of the business, and the borrower certifies that the credit card debt being refinanced was exclusively for business purposes, then the lender is not required to obtain any additional documentation. If the business credit card was also used for personal purchases, the borrower must identify which purchases were personal in nature and this amount must be deducted from the balance being refinanced, unless the borrower can provide evidence that these personal purchases were paid out of a separate personal account. The SOP is very clear that no loan proceeds may be used to refinance any personal expenses, whatsoever.

If the credit card is in the name of an individual (even if borrower operates their business as a sole proprietor in their individual name), it is not enough for the borrower to merely certify that the debt was incurred exclusively for business purposes. In addition to this certification, the lender must also obtain (i) a copy of the credit card statements evidencing the charges to be refinanced, and (ii) individual receipts for any business expenses in excess of $100. If the borrower is unable to provide copies of receipts for business expenses in excess of $100, lenders should exclude the card from the refinance portion of the SBA loan. Because this analysis involves an eligibility determination, failure to strictly follow the SBA’s requirements could lead to a repair or denial of the SBA guaranty.

Once a lender knows that a borrower plans to use loan proceeds to refinance credit card debt, they should obtain copies of the borrower’s credit card statements as soon as possible to determine the scope of diligence required. Additionally, lenders can not simply give their borrower working capital to pay off the credit card as a means to avoid obtaining all of the required documentation. In addition to leading to a repair or denial of the SBA guaranty, such practices may also raise program integrity issues which could jeopardize a lender’s risk rating and continued program participation.

For more information on SBA policies regarding debt refinancing and other SBA documentation and closing issues, contact Katie at 267-470-1207 or kobrien@starfieldsmith.com.