SBA loans secured by junior liens on collateral are subject to the rights of senior lienholders in such collateral. SBA requires lenders to take prudent and commercially reasonable actions to ensure that the SBA lender’s junior lien is not eliminated in a foreclosure action initiated by the senior lienholder or that the equity available to the SBA lender is not adversely affected by the imposition of Default Charges by a senior lienholder. We will examine the various steps SBA lenders should take to protect their interests in collateral and the lender’s options after lenders analyze all the facts and circumstances pertaining to the collateral as set forth in SOP 50 57 3 (the “SOP”).
When SBA lenders are notified or have knowledge that the borrower may default on a senior loan secured by the same collateral as the lender’s SBA loan, lenders should take the following steps to determine the best strategy to protect recovery for the SBA loan.
- Review the loan documents: SBA lenders should review the loan documents, title insurance policy, UCC lien searches, or any intercreditor, subordination, or non-disturbance and/or attornment agreement pertaining to the subject collateral.
- Order a current lien search: SBA lenders should order a current property/title search or UCC search to verify the priority of the liens securing the SBA loan to assess whether there are any other lienholders that may have priority over the lender’s lien on collateral.
- Verify the amount owed to all senior lienholders: SBA lenders should determine the exact amount owed on all senior liens and verify that the amount does not include advances of Default Charges that were subordinated to the lender’s loan pursuant to a subordination agreement, inter-creditor agreement or other agreement.
- Order an appraisal: SBA lenders should order an appraisal, in accordance with the SOP to obtain current information regarding the value of the collateral. Lender may not solely rely on an appraisal prepared for the borrower or another lender with a lien on the collateral, or by a broker that will list the collateral for sale.
- Determine Recovery: SBA lenders should calculate the Recoverable Value of the collateral and determine the repayment ability of all Obligors for the SBA Loan and the Recoverable Value of any other collateral securing the loan that may or may not have senior lienholders.
- Determine whether Senior Lienholder Provided the Required Notice: If the senior lienholder agreed to execute a lienholder agreement, the SBA lender should confirm it received the prior written notice of default or intent to foreclose, if set forth in such agreement.
- Notify SBA District Counsel: if the SBA lender receives a notice of judicial foreclosure, the lender must immediately notify the appropriate SBA Loan Center for assignment of the action to the SBA District Counsel responsible for monitoring the litigation.
Upon review and analysis of the above information, lenders may take one or more of the Loan Actions listed below.
- Bring the Senior Loan Current: SBA lenders may consider advancing funds to keep payments on the senior loan current if the SBA lender (a) wishes to negotiate a workout with the borrower to keep the business operating, (b) seeks to work with the borrower and other lienholders to complete a negotiated sale of collateral, or (c) intends to preserve the equity in the collateral and minimize costs by leaving the senior lien in place, and foreclose the junior lien securing the SBA loan.
- Purchase or Pay Off the Senior Loan: In cases where the SBA lender determines the Borrower’s business is viable and it is prudent to allow the borrower to continue to operate from the collateral premises to continue to pay the SBA loan, the SBA lender may advance funds to purchase or pay off a debt secured by a senior lien, provided that (a) the risk is justified by an Appraisal and Recoverable Value analysis; (b) the purchase or pay off amount is consistent with any agreement signed by the senior lienholder regarding the subordination of advances and Default Charges; (c) the Obligors are given written notice of the proposed purchase or pay off and their increased financial liability on the SBA loan as a result; and (d) if the borrower retains possession of the collateral, the borrower has the ability to make payments on the adjusted SBA loan balance and paying off the senior lienholder will improve the borrower’s ability to repay the SBA loan.
- Wait for Senior Lienholder to start foreclosure proceedings: As discussed above, if a judicial foreclosure is initiated, SBA must be notified, and SBA District Counsel will be responsible for monitoring the litigation. SBA District Counsel may advise the lender to file a disclaimer or answer; foreclose the lien securing the SBA Loan in the same action; or cross-claim for judgment against the Obligors. Where SBA has taken over servicing of the Loan, SBA District Counsel will have final decision-making authority regarding litigation strategy, credit matters, and settlements. When the Recoverable Value of the property is equal to or greater than 10% of the Liquidation Value of the property, unless abandonment is appropriate or there are other circumstances that would deter a prudent lender and are documented in the loan file, then the SBA lender should enter a Protective Bid at a senior lienholder’s foreclosure sale. The maximum amount of a Protective Bid is the lesser of the balance owed on the SBA loan or the Recoverable Value of the collateral. SBA lenders must consult with local legal counsel prior to entering a Protective Bid to determine how the lender’s rights might be impacted with respect to other remedies available to lender. Additionally, SBA lenders should note that failure to conduct an Environmental Investigation required by Chapter 5 of the SOP is not an acceptable reason for taking a “no bid” position at a foreclosure sale, when there is equity in the collateral that a prudent lender would protect. SBA lenders must also assess their right of redemption under state law with their local legal counsel and should exercise such rights when it is prudent to do so. SBA lender may only release the redemption rights associated with the SBA loan after the senior lienholder foreclosure sale is confirmed upon receipt of cash in amount approximately equal to 50 percent of the property’s Recoverable Value. Finally, SBA lenders must seek any excess foreclosure sale proceeds available for distribution to junior lienholders and apply them to the SBA loan as set forth in the SOP.
There were no material changes to SBA’s guidance related to handling delinquent senior secured loans from the previous version of the SOP. As with all servicing matters, SBA lenders must act prudently and in a commercially reasonable manner in taking any Loan Action pertaining to their SBA loans. For assistance with loan servicing, liquidation, and guaranty purchase, contact us at email@example.com or 215.542.7070.