Establishment of participating debentures program

(a)

Establishment

Section 303 of the Small Business Investment Act of 1958 (15 U.S.C. 683) is amended by adding at the end the following new subsection:

(k)

Participating debentures

(1)

Guarantee of participating debentures

The Administrator is authorized to guarantee the payment of the redemption price and interest on a participating debenture issued by a small business investment company under such terms and conditions as the Administrator shall establish by regulation. (2)

Limitation on guarantee of participating debentures

A guarantee under paragraph (1) shall not— (A)exceed the amount of the payment to which the guarantee applies; or (B)change the timing of such payment. (3)

Maximum leverage

The Administrator may not guarantee a new participating debenture issued by a small business investment company if the aggregate unpaid principal balance of the participating debentures issued by that small business investment company would exceed 200 percent of the leverageable capital of such company on the day after the company issued or distributed the new participating debenture. (4)

Purchase of participating debentures

The Administrator may authorize a trust or pool acting on behalf of the Administration to purchase participating debentures issued by a small business investment company under such terms and conditions as the Administrator shall establish by regulation. (5)

Participating debenture defined

In this subsection, the term participating debenture means a debt security that is— (A)in a form prescribed by the Administrator that obligates the issuing company to— (i)pay any unpaid accrued interest on that debt security on the date which is 5 years after the date on which it is issued; (ii)pay interest accrued after the date that is 5 years after the date on which the debt security is issued semi-annually; and (iii)pay any other amount as required by this subsection and (B)subject to the terms and conditions set forth in this subsection and to any additional terms and conditions as may be prescribed by the Administrator that are consistent with this subsection. (6)

Redemption

Not later than the date which is 10 years after the date on which it is issued, a participating debenture shall be redeemed for an amount equal to the outstanding principal balance of such participating debenture plus any accrued but unpaid interest due on such participating debenture as of the date on which it is redeemed. (7)

Interest

(A)

In general

Interest on a participating debenture is preferred and cumulative and is pre-payable out of any gross receipts available for distribution and is payable at the scheduled interest payment dates and at the scheduled or accelerated maturity of the participating debenture. (B)

Interest on principal balance

Interest on the principal balance outstanding of a participating debenture shall accrue on a daily basis, and unpaid accrued interest shall compound semi-annually from the date of the issuance of such participating debenture, at a rate determined by the Secretary of the Treasury taking into consideration the current average market yield on outstanding marketable obligations of the United States with remaining periods to maturity comparable to the average maturities on such securities, adjusted to the nearest one-eighth of 1 percent, plus an additional charge, in an amount established annually by the Administration, as necessary to reduce to zero the cost (as defined in section 502 of the Federal Credit Reform Act of 1990 (2 U.S.C. 661a)) to the Administration of purchasing and guaranteeing participating debentures under this Act, which rate may not exceed 1.5 percent per annum, and which shall be paid to and retained by the Administration. (8)

Payment defaults

If a small business investment company fails to pay any principal or interest on a participating debenture when due (including any mandatory prepayment out of gross receipts)— (A)the Administrator, in addition to any other remedies available by law, may demand immediate payment of the principal balance and accrued interest on any participating debenture issued by the small business investment company; and (B)the interest rate on any outstanding participating debentures issued by the small business investment company shall increase until all payment defaults are cured or waived, up to a maximum of 300 basis points, at a rate of— (i)50 basis points on the date on which the small business investment company defaults; (ii)50 basis points on the date that is 6 months after the date on which the small business investment company defaults; and (iii)an additional 50 basis points at 6-month intervals thereafter. (9)

Gross receipts defined

In this subsection, the term gross receipts means any cash received by a small business investment company, including investment proceeds (return of capital and profit), interest, dividends, and fees (other than capital contributed by a partner, proceeds from the issuance of participating debentures, and any other money borrowed by the small business investment company). (10)

Liquidation of small business investment company

In the event of the liquidation of a small business investment company issuing participating debentures under this subsection, a participating debenture shall be senior in priority for all purposes to any equity interest in the issuing company, whenever created. In liquidation, unfunded commitments by private investors may, at the option of the Administration, be applied to pay accrued interest and principal of outstanding participating debentures. (11)

Investment obligation

(A)

In general

Any company issuing a participating debenture under this Act shall invest or commit to invest an amount equal to the outstanding face value of such participating debenture solely in equity capital. (B)

Equity capital

In this paragraph, equity capital means common or preferred stock or a similar instrument, including subordinated debt with equity features which is not amortized and which provides for interest payments from appropriate sources, as determined by the Administration. (12)

Other debt

A small business investment company issuing a participating debenture under this subsection shall have no debt other than debt obtained through issuing participating debentures and temporary debt (as defined by the Administrator) in an amount equal to not more than 50 percent of the company’s private capital, and subject to any terms and conditions specified by the Administrator. (13)

Use of proceeds

Subject to regulations issued by the Administrator, a small business investment company may use the proceeds of a participating debenture issued by the company to pay the principal amount and accrued interest due on an outstanding participating debenture issued by that company. (14)

Distribution of gross receipts

Except as otherwise provided in this subsection, a small business investment company shall utilize gross receipts, from any source or however categorized for Generally Accepted Accounting Principles or tax accounting purposes, first for the payment of accrued interest on participating debentures, then for repayment of participating debenture principal and contributed private capital, and finally for profit distributions, as follows: (A)

Past due interest and principal

Gross receipts shall be used within 10 days of receipt— (i)to pay any past due interest (whether past due by its terms or by acceleration) on a participating debenture issued by the small business investment company; and (ii)if no past due interest is outstanding, to repay any past due principal (whether past due by its terms or by acceleration) on such a debenture. (B)

Mandatory interest prepayment

If no unpaid accrued interest or past due principal is outstanding on any participating debenture issued by the small business investment company, then, not later than the last day of the calendar quarter in which any gross receipts are received (or, in the case of gross receipts received during the last 15 days of a calendar quarter, not later than the last day of the subsequent calendar quarter), the company shall use such receipts to prepay accrued interest on the participating debentures issued by the company. Such prepayment shall be applied to such accrued interest in the order in which such interest would otherwise become due and payable. (C)

Amortization distributions

If no unpaid accrued interest or past due principal is outstanding on any participating debenture issued by the company, gross receipts shall be distributed to— (i)the Administrator, to amortize outstanding participating debenture leverage; and (ii)private investors in the small business investment company,

pro rata according to the ratio of outstanding participating debenture leverage to outstanding leverageable capital at the time of distribution.

(D)

Post-amortization distributions

If no accrued interest or principal is outstanding on any participating debenture issued by the small business investment company, and the company has no outstanding leverageable capital, gross receipts shall be distributed as follows: (i)Unless aggregate distributions to private investors under this subparagraph equal or exceed aggregate contributions to the capital of the company previously made by private investors, gross receipts shall be distributed to the Administration in an amount equal to the initial profit participation percentage of the total amount distributed, with any remaining gross receipts distributed to private investors. (ii)If aggregate distributions to private investors under this subparagraph equal or exceed aggregate contributions to the capital of the company previously made by private investors, there shall be distributed to the Administration an amount equal to the final profit participation percentage of the total amount distributed, with any remaining gross receipts distributed to private investors. (E)

Management expenses

For purposes of calculating the amount to be distributed to the Administration pursuant to subparagraph (D), except as otherwise prescribed by the Administration, the management expenses of any company which issues participating debentures under this subsection shall not be greater than 2.5 percent of the combined capital of the company per year, plus, in the case of a company with combined capital of less than $20,000,000, an additional $125,000. (F)

Definitions

In this paragraph: (i)The term outstanding leverageable capital means any aggregate capital contributions received by a small business investment company from private investors which exceed aggregate distributions received by the private investors from the company. (ii)The term initial profit participation percentage means 25 percent of the leverage ratio, reduced by the weighted average interest rate on the participating debentures issued by the company. (iii)The term final profit participation percentage means 50 percent of the leverage ratio, reduced by the weighted average interest rate on the participating debentures issued by the company. (iv)The term leverage ratio means the ratio of the aggregate amount of participating debenture leverage previously drawn by the company (including such leverage that has been repaid) to the aggregate amount of capital previously contributed to the company by private investors. (v)The term combined capital means the aggregate amount of private capital and outstanding leverage. (vi)The term management expenses includes management fees and any additional salaries, office expenses, travel, business development costs, office and equipment rental, bookkeeping, and the development, investigation, and monitoring of investments paid by the small business investment company, but does not include the cost of services provided by specialized outside consultants, outside lawyers and outside auditors, who perform services not generally expected of a venture capital company nor does such term include the cost of services provided by any affiliate of the company which are not part of the normal process of making and monitoring venture capital investments. (15)

Exceptions to the order of distributions

Notwithstanding paragraph 15(C), if no unpaid accrued interest (whether or not past due) and no past due principal is outstanding on any participating debenture issued by a small business investment company, the following exceptions shall apply: (A)

Tax distributions

(i)

Special distribution to private investors

Notwithstanding any outstanding principal that is not past due on participating debentures issued by the small business investment company, the company may make a special distribution of gross receipts or other cash to private investors without a corresponding distribution to the Administration if— (I)the small business investment company has an investment in a business that is organized as a limited liability company or as a partnership (referred to in this paragraph as a portfolio company); (II)the portfolio company has income that is taxable to the members or partners of such portfolio company; (III)the portfolio company makes a distribution to the members or partners of such portfolio company in an amount equal to the tax liability of such members or partners on the taxable income of the portfolio company assuming that each is taxed at the highest combined Federal, State, and local income tax rate applicable to individuals anywhere in the United States; and (IV)the small business investment company is organized as a limited liability company or a partnership such that any income of the portfolio company allocated to such small business investment company is reallocated to private investors, who are liable for the payment of taxes on such income as if such income were the income of the private investors, regardless of whether such investors receive any cash with respect to such income. (ii)

Amount of special distribution

The amount of the special distribution of gross receipts under clause (i) shall not exceed the amount that is the difference between— (I)the estimated aggregate maximum tax liability of the private investors in the small business development company for the income of any portfolio company in which the small business development company is invested during the calendar year that precedes the distribution; and (II)the aggregate amount distributed to such private investors (other than amounts distributed pursuant to this subparagraph) during the period beginning on April 15 of the calendar year preceding the distribution and ending on the date on which the distribution is made, but in no circumstances more than the aggregate amount of tax distributions received by the small business investment company from investments in portfolio companies during the same period. (iii)

Timing of special distribution

Any special distribution of gross receipts under clause (i) shall be made not later than April 15 of each calendar year. (B)

Payment of expenses

The small business investment company may— (i)use gross receipts to pay previously incurred expenses (including management fees) and other liabilities; and (ii)retain gross receipts in an expense reserve account in an amount which, together with any existing expense reserve of the company, shall not exceed the reasonably anticipated expenses and other liabilities of the company (other than such expenses and liabilities as are prohibited by law) for the succeeding 12-month period. (C)

Prepayment

Subject to any applicable requirements under State law, the small business investment company may use gross receipts or other cash to prepay outstanding participating debenture leverage and interest, in whole or in part, without penalty, and at any time. (16)

Restrictions on distributions

(A)

Liquidity and other administrative or State law restrictions

No distribution shall be made except in accordance with the liquidity requirements and other applicable restrictions on distributions established by the Administration or under applicable State law. (B)

Capital impairment or regulatory violation

If a small business investment company is in restricted operations or liquidation by reason of capital impairment or regulatory violation, the maturity date of the participating debentures issued by that company, including both principal and accrued interest, is subject to acceleration at the option of the Administration, and, whether or not there has been such acceleration, up to 100 percent of all gross receipts and unfunded private investor commitments may, at the option of the Administration, be required to be distributed to the Administration until accrued interest and principal on the participating debentures issued by the company have been paid in full, in accordance with any terms and conditions the Administrator may establish by regulation. (17)

Distributions in kind

(A)

Election of in-kind distribution of securities

(i)

Publicly traded and marketable securities

A small business investment company that issues participating debentures may elect to make an in-kind distribution of securities at any time, subject to applicable securities laws and regulations, if such securities are publicly traded and marketable. (ii)

Treatment as gross receipts

For purposes of this subsection, such securities shall be treated as gross receipts and shall be subject to the priorities and restrictions applicable to gross receipts under this subsection and any regulation issued by the Administration that is applicable to gross receipts. (B)

Treatment of Administration share

The company shall either deposit the Administration’s share of such securities with a trustee designated by the Administration, or retain the Administration’s share, if the Administrator so directs and with the agreement of the company. (C)

Retention of Administration share

If the company retains the Administration’s share, it shall sell such share and promptly remit the proceeds to the Administration. (D)

Value of Administration share

For purposes of this paragraph, the value of the Administration’s share is— (i)the value of the publicly traded and marketable securities described in subparagraph (A)(i), as of the date of distribution to the Administration under subparagraph (B) or as of the initial date of retention under subparagraph (C); and (ii)the controlling value for the purposes of determining the remaining liability of the company to the Administration; (E)

Ultimate sale of Administration share

Upon the ultimate sale of the Adminsitration’s share or upon the small business investment company’s ultimate sale of such share on behalf of the Administration, the Administration may receive an amount that is more or less than the value of the Adminsitration’s share under subparagraph (D). (F)

Trustee defined

In this paragraph, the term trustee means a person who is knowledgeable about and proficient in the marketing of thinly traded securities. (18)

Timing of distributions

(A)

In general

Subject to subparagraph (B) and paragraph (18), any gross receipts received by a small business investment company issuing participating debentures under this subsection that are not placed in an expense reserve pursuant to paragraph (16)(B) shall be distributed by the last day of the fiscal quarter in which such net receipts were received by the company, except that gross receipts received after the date that is 15 days before the end of a fiscal quarter shall be distributed by the last day of the subsequent fiscal quarter. (B)

Exceptions to timing of distributions

Gross receipts consisting of marketable securities shall be distributed within six months of receipt, unless the small business investment company has obtained the prior consent of the Administrator. (19)

Reinvestment of gross receipts

Subject to such regulations and restrictions as may be prescribed by the Administrator and the agreement of the private investors in a small business investment company, any gross receipts that exceed the amount required to make payments to the Administration as required by this subsection may be reinvested in qualified small businesses by the small business investment company. (20)

Post-distribution computation

After distributions have been made pursuant to this subsection, the Administration’s share of such distributions shall not be reduced or recomputed except as expressly provided in this subsection. (21)

No ownership interest in Administration

This subsection shall not be construed as creating in the Administration any ownership interest in any small business investment company which issues participating debentures. (22)

Conflict with other subsections

(A)

In general

In the event of a conflict between this subsection and any other provision of this Act, this subsection shall apply. (B)

Specific provisions

In particular, this subsection supersedes subsections (g) and (h) in their entirety with respect to all matters pertaining to participating debentures.

(b)

Regulations

The Administrator shall issue regulations to carry out subsection (k) of section 303 of the Small Business Investment Act of 1958 (15 U.S.C. 683), as added by subsection (a), before the date that is 180 days after the date of the enactment of this Act.