Best Practices: Debt Refinance Requirements Under SOP 50 10 7

As we approach August 1, 2023, the effective date of the new SOP 50 10 7, the SBA lending community continues to digest and analyze the changes from the previous SOP 50 10 6.  One portion of SOP 50 10 7 that saw significant changes is the debt refinance requirements.

The following types of debt are eligible for refinancing with SBA loan proceeds under SOP 50 10 7:

1. Debt that has a demand note or balloon payment;
2. Debt with an interest rate that exceeds the SBA maximum interest rate based on size or term;
3. Credit cards used for business-related purposes;
4. Debt that is over-collateralized based on SBA’s collateral requirements;
5. Revolving lines of credit where the original lender is unwilling to renew the line or the borrower is restructuring its financing to obtain a lower interest rate or longer term;
6. Debt with a maturity that was not appropriate for the purpose of the financing;
7. Debt used to finance a change of ownership (but see the SOP for further requirements)
8. Debt reflected on the business balance sheet, provided that the borrower certifies that the debt is reflected on the business tax returns showing the interest expense associated with the debt;
9. Home equity lines of credit (“HELOC”) provided that the borrower certifies that the amount being refinanced was used exclusively for business purposes; and
10. Any existing non-SBA guaranteed loan with another lender if the new loan meets the SBA’s 10% improvement to debt service coverage requirement

For starters, SBA has seemingly broadened the use of the 10% savings test to apply to other types of debt not previously eligible for refinance. Under SOP 50 10 7, debts categorized as 2, 4, 6, 7 or 8 above are only eligible to be refinanced with loan proceeds if they also meet the 10% savings test, which is substantially consistent with the prior SOP. To meet the 10% savings test, the lender must be able to show that the new debt will provide at least a 10% savings in the monthly payment to the borrower.  What is new in SOP 50 10 7 is category #10, which seems to state that even if a debt does not fall into any of the other nine eligible categories listed above, it could still be eligible for SBA refinancing provided that it meets the 10% savings test.

Another significant change from SOP 50 10 6 is that lenders may now refinance their same institution debt (“SID”) using delegated authority (i) if the new loan meets the 10% savings test, (ii) the debt being refinanced has been current for the last 12 months or the life of the loan, whichever is less and (iii) lender provides a reduced debt service and longer amortization period.  Previously, any refinance of SID could not be processed through a lender’s delegated authority.

SOP 50 10 7 reiterates an overarching SBA principle that SBA loan proceeds cannot be used to pay a creditor in a position to sustain a loss.  But SOP 50 10 7 no longer requires lenders to show that the debt being refinanced is not on reasonable terms.  In fact, SOP 50 10 7 has removed the specific requirements for a written analysis addressing the reason the debt was incurred, the reason for restructuring the debt, the ways in which the new loan will improve the borrower’s financial condition, etc.  SOP 50 10 7 has also removed the specific requirement for supporting documentation, such as copies of notes and related collateral documents, copies of credit card statements where applicable, etc., now depending solely on a “do what you do” standard when it comes to documentation.  However, we still don’t know what will be required for submission of a universal purchase package. We caution against lenders changing their documentary standards too quickly as these documents are currently required to be submitted for guaranty purchase requests.

Another change is that SOP 50 10 7 permits lenders to rely on borrower certifications in certain instances (such as when refinancing credit card debt, HELOCs or debt showing on the business balance sheet) to confirm that the debts being refinanced were used for business purposes.  SOP 50 10 7 states that even if the borrower’s certification is deemed to be invalid, SBA will not use this as a basis to deny or repair a lender’s SBA guaranty.  Nevertheless, in a recent 7(a) Connect call, SBA stated that if a lender knew that the borrower’s certification was invalid, then lender should not have relied on such certification. This presents questions of (a) whether a standard of knowledge will include constructive knowledge (meaning if lender should have known), (b) what types of diligence (if any) is prudent to confirm the veracity of the certification, and (c) should a lender obtain documentation to support eligibility if a repair or denial of the SBA guaranty is possible despite the presence of a borrower certification.

The SOP contains additional requirements related to debt refinancing when the debt being refinanced involves a change of ownership, an SBA-guaranteed loan, an SBA 504 loan and interim advances, which requirements are beyond the scope of this article.

Although SBA has broadened the types of debts that are now eligible to be refinanced with SBA loan proceeds and seemingly reduced the analysis and documentation requirements, we still encourage lenders to continue to analyze and document refinances such that they can prove to SBA that the debt being refinanced is eligible for SBA financing and thereby avoid a repair or denial of the SBA guaranty.  For questions regarding SBA’s debt refinance requirements, contact the attorneys at Starfield & Smith at 215-542-7070 or email us at info@starfieldsmith.com.