Is an EIDL Right for Your Business?
Bloomberg Law Article
Bloomberg Law
The Small Business Administration’s management of the Economic Injury Disaster Loan (EIDL) Program under the CARES Act has had several issues. Katharine Meyer, a principal at GKG Law, examines the pros and cons of obtaining an EIDL, including the potential burdens of the collateral requirements and maintaining hazard insurance on that collateral.
The Payroll Protection Program (PPP) was the most popular program included in the Coronavirus Aid, Relief, and Economic Security Act (CARES Act). However, the CARES Act also allocated funding for the Small Business Administration’s (SBA) Economic Injury Disaster Loan (EIDL) Program. The EIDL Program offered loans of up to $2 million to small businesses, and immediate advances of up to $10,000 that did not need to be repaid.
The rollout of the EIDL Program has been somewhat disappointing. In May, the SBA, without informing the public, lowered its loan limit from $2 million to $150,000, angering many applicants who were expecting larger loans. Then, on July 11, it announced that the advances of up to $10,000 were no longer available. Additionally, long delays in loan processing, a lack of communication to loan applicants and the general public, and challenging loan terms have frustrated loan applicants. While EIDLs are still available with good interest rates, applicants should think carefully about whether an EIDL is right for their business before signing the loan documents.
History of EIDL Program
Many people do not realize that the EIDL Program is actually a longstanding initiative. The SBA established this loan program to alleviate economic injury to small businesses and nonprofits after a natural disaster. The CARES Act formally declared the Covid-19 pandemic to be a “disaster” under the Small Business Act, which gave small businesses the ability to access the EIDL Program. Unlike the PPP, loans are made directly by the SBA, without involving a third-party lender.
One of the most attractive elements of the EIDL Program was the ability to obtain an immediate advance of cash. Organizations in need of funds could request up to $10,000 ($1,000 per employee) as an emergency cash advance. Such funds were to be provided to businesses within three days of applying for an EIDL. If the application for the EIDL was denied, the $10,000 cash advance would not need to be repaid. This advance could be used for expenses such as paid sick leave for employees with Covid-19, maintaining payroll during business disruption or government shutdowns, rent or mortgage payments, or increased operational costs.
However, implementation of the EIDL Program was rocky at best. While the intent of the EIDL Program was to swiftly provide struggling businesses with money, the SBA was overwhelmed with applications. This led to significant delays in processing loans and advances. Many businesses that applied for loans in March did not learn they had been approved until mid-May. Most businesses did not receive cash advances within three days of applying. When these advances were sent, many borrowers stated they received no prior notice from the SBA—the funds just appeared in their account.
In early May, because of the overwhelming number of applications, the SBA blocked nearly all new EIDL applications. Around this time, top-tier publications, such as the New York Times and the Washington Post, reported that the SBA had lowered the loan limit from $2 million to $150,000 without publicly announcing this change.
Although the SBA resumed accepting EIDL applications on June 15, the loan limit has remained at $150,000.
Finally, on July 11, the SBA formally announced the termination of the $10,000 advance program.
Loan Terms
Many loan applicants have also been concerned about the terms of the loan. While EIDL loan terms are not extremely onerous, many applicants are unaware of the requirements and obligations involved with such a loan until they receive the loan documents. All applicants should be aware of the following potential pitfalls.
Collateral Requirements. The SBA requires that all loans exceeding $25,000 be backed by collateral. The SBA defines collateral as “all tangible and intangible property” of the borrower. Such collateral can include inventory, equipment, computers, furniture, and vehicles. Except for normal inventory turnover, the SBA requires a borrower to obtain the SBA’s prior written consent before it sells or transfers collateral. Therefore, borrowers may not be able to sell outdated equipment and old vehicles without the SBA’s approval. It is unclear how long it would take to obtain such consent from the SBA.
Additionally, because many of these loans are for 30 years, a company could be forced to obtain such consent for decades.
Hazard Insurance. The SBA also requires borrowers to maintain hazard insurance of up to 80% of the insurable value of the collateral for the term of the loan. Because loan documents define collateral so broadly, borrowers may want to check with their insurance broker to determine the cost of such insurance prior to signing these documents.
Risk of Compromising Past or Future Loans. Before signing the EIDL loan documents, a company should review all of its existing loan agreements and lines of credit. Entering into an EIDL could trigger a default under those agreements. Companies should also be aware that if it obtains another loan in the future, it may be required to use those funds to pay off the EIDL.
Ultimately, the EIDL Program may be a good option for many businesses. However, all businesses should understand the long-term obligations and requirements of an EIDL before proceeding with this loan.