I’m pretty sure that nobody reading this has ever steered their business through a Pandemic before; and back in March, April, and May our business forecasting crystal ball wasn’t exactly letting any light through, so among all the uncertainty, anxiety, and doomsday prognostication when the Economic Injury Disaster Loan (EIDL) was announced it made perfect sense for most (if not all) businesses to fill out the application and get in line – we were all in survival mode.
Fast forward 6 or so months and many (not all) businesses are now able to see through to the other side of this economic calamity – we’re certainly not out of the woods yet but with vaccines coming online, the unexpected resiliency of the macroeconomy (floated by a tremendous amount of government stimulus and support), and our little spit of sand fairing better than most – there is reason for optimism.
I certainly recognize that many businesses and individuals were severely impacted to the point of economic ruin and I don’t take that lightly and I’m empathetic to their plight.
That said – you got/took/accepted an EIDL Loan … (kind of like saying 4C’s college) … So where do you go from here?
Let’s re-cap a few of the reasons that the EIDL program was so attractive:
- Easy application.
- Terrific terms (30 years, 3.75%, sign on the dotted line and immediate funding, no pre-payment penalties, $100 of “closing costs”… doesn’t get any better).
- Was there when needed (it is emergency funding after all) and you could keep your business going.
- Relatively unrestricted use of the proceeds… but only for working capital!
Now the fine print – several items to be aware of regarding collateral, usage, and your responsibilities to your new business partner named Uncle Sam:
Collateral – your EIDL (if more than $25k) requires a personal guarantee and your business assets are collateralized (and if you are a sole-prop that could mean personal assets too).
Loan collateral can include tangible and intangible property like inventory and equipment. As a borrower you cannot sell, lease, license or transfer collateral without prior approval from the SBA.
Further, collateral can’t be used primarily for personal purposes – e.g., the company truck that “occasionally” picks up little Johnny and Sally from school is ok, but if the company station wagon is primarily used for personal purposes and occasionally goes to the bank and post-office, well, then you are running afoul of the terms. Business owners will also need SBA approval to reorganize, merge, consolidate, or somehow change ownership or business structure. This could, for example, include bringing in or removing a business partner or electing corporate status for your LLC.
As mentioned, EIDL funds can only be used as “working capital” they cannot be used as capital for physical improvements. For example, a restaurant hoping to use funds for an expansion or improvement to a building, to say offer outside dining — patios, drive-through windows, or even plexiglass between booths to facilitate social distancing, wouldn’t be able to do so.
We just hit one big restriction – the inability to use the proceeds for capital projects – what are some of the others?
- Payment of any dividends or bonuses;
- disbursements to owners, partners, officers, directors, or stockholders, except when directly related to the performance of services for the benefit of the applicant;
- Repayment of stockholder/principal loans, except when the funds were injected on an interim basis as a result of the disaster and non-repayment would cause undue hardship to the stockholder/principal;
- Expansion of facilities or acquisition of fixed assets;
- Refinancing long term debt;
- Paying down (including regular installment payments) or paying off loans provided, or owned by another Federal agency (including SBA) or a Small Business Investment Company licensed under the Small Business Investment Act;
- Pay any penalty resulting from noncompliance with a law, regulation, or order of a Federal, state, regional, or local agency; Contractor malfeasance; and Relocation.
Aside from the question of working capital (addressed above), the other two major questions surrounding EIDL funds are those of owner compensation and refinancing debt.
In regard to owner comp – payment for services rendered is in, distributions/ draw of profit is out – so planning and documentation are key. Keep in mind, difficult to talk out of both sides of our mouth here – e.g. S-corp owner has paid him/her-self $50,000 a year for the last 5 years because they argue they are part-time, support role, make profit on materials, and leverage not their efforts, etc. and have taken $100,000 of distributions… now, they have an EIDL and want to pay a wage to themselves of $150,000… while that’s ok, be ready to have the documentation and make the argument (if asked).
Refinance of long-term debt – not a chance, don’t do it. Can’t pay off the car loan, can’t pay off the real-estate loan, can’t pay off the pre-existing working-capital loan, can’t pay off another SBA loan – however, if you racked up the credit cards to stay afloat (after the emergency was declared) paying those off would be ok.
All that said it is possible that if you, the borrower breach these terms you risk defaulting on your disaster loan if — meaning, among other things, that the loan would become immediately payable.
Keep in mind the EIDL SOP states: “Economic injury loan proceeds can only be used for working capital necessary to carry the concern until the resumption of normal operations and for expenditures necessary to alleviate the specific economic injury.”
A report from the Office of the Inspector General found that in previous disasters some borrowed from the EIDL program when they really didn’t need it. A business that does not experience economic injury would be wise to consider returning the funds.
What does all this mean?
- Importantly – I am pretty happy with myself that I just synthesized an immense amount of government information into just over two pages.
- More importantly – You must weigh your own sets of facts and circumstances, evaluate the pros and cons, assess your needs, document all of those and document your use of the proceeds in determining if the EIDL is right for your business. If the restrictions and collateral are not right for you and your business, consider returning the funds, remember, no-prepayment payment – further, if you’ve determined that the proceeds weren’t necessary (the quote from the EIDL SOP above), or maybe you were funded beyond what you needed, you can return the proceeds (or portion).
We are here to help you figure this out – it’s a lot to consider.
A few additional resources:
EIDL Fact Sheet
(image below linked to original document)
Additional note regarding the timing of utilization:
The COVID-19 economic crisis is an ongoing crisis, and we don’t know when it will end. It seems reasonable that business owners may continue to use those funds for as long as the crisis continues to impact their operations. That may be for months, a year, or even longer, depending on a number of factors.