As reported in an earlier edition of Best Practices, it has been estimated that at least 15% of all PPP loan disbursements have at least one indicia of fraud. Until now, the apparent focus of the U.S. Department of Justice has been on the criminal prosecutions of borrowers who committed fraud in applying for PPP loans. What has not been as apparent is the ongoing effort to determine what, if any, liability lenders may have for the frauds perpetrated by others. As the scope of fraudulent borrowing activity comes to light, the Justice Department is investing significant resources to identify and bring to justice those who exploited the PPP program for personal gain, and also to hold responsible those lenders whose actions, or failures to act, provided an opportunity for the fraud to take place.
On March 10, 2022, following up on President Biden’s promise during his State of the Union Address, the U.S. Department of Justice appointed a Director for COVID-19 Fraud enforcement. The U.S. Government’s effort to hold responsible those who improperly exploited pandemic relief programs will now be centralized and coordinated. There are presently at least 21 separate federal law enforcement agencies actively involved in PPP loan fraud investigations, both criminal and civil. The Justice Department is going to marshal its vast resources and use “every available federal tool – including criminal, civil and administrative actions” to investigate not only the “one-off” PPP loan frauds, but also to investigate whether lenders fulfilled their obligations to protect the program against fraud and abuse.
One lender relationship that has attracted the attention of the authorities is the role of financial technology companies (FinTech) in fraudulent activity. At the time that the PPP loan program first started, many lenders did not have a software platform capable of handling the volume of expected PPP loan applications. FinTechs had the software platforms and technical expertise to handle large volumes of loans, but did not possess the lending experience or regulatory oversight to which banks are subjected to. As a result, business relationships quickly developed between FinTechs and lenders that resulted in substantial PPP lending activity.
In November 2021, Congress’ Select Subcommittee on the Coronavirus Crisis disclosed that it has received “reports alleging that [FinTech] lenders and their bank partners failed to adequately screen PPP loan applications for fraud … [leading] to millions of dollars worth of FinTech-facilitated PPP loans being made to fraudulent, non-existent, or otherwise ineligible businesses.” As a result, the Select Subcommittee announced it had requested documents and information from FinTechs involved in the processing of PPP loans. The open questions include whether these FinTechs and the PPP lenders they partnered with were capable of, and took seriously, their obligations to detect and prevent fraud. Just considering the number of loans processed, significant resources were needed to meet the fraud detection obligations.
As Justice examines the role of FinTechs in fraudulent activity as part of its PPP oversight responsibilities, the Government is developing a large database of information obtained (by subpoenas and other means) from lenders, FinTech and government agencies. Justice intends to use its data analysis capabilities developed over the years in combatting economic crime and government fraud to evaluate this information, and identify suspect activity for further investigation. Considering the amount of fraudulent loan PPP loan activity, Justice is going to look long and hard into the adequacy of the fraud and abuse detection and compliance programs of not just Fin Techs, but of PPP lenders as well. Lenders who participated with FinTechs in the PPP loan program may have assumed liability, perhaps unknowingly, for the program compliance failures of its FinTech partners.
Both Congress and Justice are apparently questioning whether there was a failure to employ adequate controls anywhere in the PPP lending program, and whether the absence of adequate controls created an environment where fraud could flourish. These investigations are being conducted into a massive lending program that needed to get a huge amount of money into the hands of as many eligible small businesses as quickly as possible. This lending program permitted no underwriting, included a statutory hold harmless provision, and permitted lenders to rely on borrower certifications. Whether there were adequate controls is a question that can only be answered by considering the unique circumstances in which the PPP loan program was created. Accordingly, Justice may well pursue any participants in the PPP lending program for contributing to an environment where fraud could flourish by failing to employ appropriate safeguards.
Lenders who worked closely with FinTechs may wish to be proactive and examine the safeguards and controls utilized during PPP and confer with their counsel now so that, if they become subjects of a Justice Department investigation, they will be prepared to pushback appropriately.
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