[Senate Hearing 118-91]
[From the U.S. Government Publishing Office]
S. Hrg. 118-91
OVERSIGHT OF SBA'S IMPLEMENTATION OF FINAL RULES TO EXPAND ACCESS TO
CAPITAL
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HEARING
BEFORE THE
COMMITTEE ON SMALL BUSINESS
AND ENTREPRENEURSHIP
OF THE
UNITED STATES SENATE
ONE HUNDRED EIGHTEENTH CONGRESS
FIRST SESSION
__________
APRIL 26, 2023
__________
Printed for the use of the Committee on Small Business and
Entrepreneurship
[GRAPHIC NOT AVAILABLE IN TIFF FORMAT]
Available via the World Wide Web: http://www.govinfo.gov
__________
U.S. GOVERNMENT PUBLISHING OFFICE
53-225 WASHINGTON : 2024
COMMITTEE ON SMALL BUSINESS AND ENTREPRENEURSHIP
ONE HUNDRED EIGHTEENTH CONGRESS
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BENJAMIN L. CARDIN, Maryland, Chairman
JONI ERNST, Iowa, Ranking Member
MARIA CANTWELL, Washington MARCO RUBIO, Florida
JEANNE SHAHEEN, New Hampshire JAMES E. RISCH, Idaho
EDWARD J. MARKEY, Massachusetts RAND PAUL, Kentucky
CORY A. BOOKER, New Jersey TIM SCOTT, South Carolina
CHRISTOPHER A. COONS, Delaware TODD YOUNG, Indiana
MAZIE HIRONO, Hawaii JOHN KENNEDY, Louisiana
TAMMY DUCKWORTH, Illinois JOSH HAWLEY, Missouri
JACKY ROSEN, Nevada TED BUDD, North Carolina
JOHN W. HICKENLOOPER, Colorado
Sean Moore, Democratic Staff Director
Meredith West, Republican Staff Director
C O N T E N T S
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Page
OPENING STATEMENTS
Benjamin L. Cardin, Chairman, U.S. Senator from Maryland......... 1
Joni Ernst, Ranking Member, U.S. Senator from Iowa............... 4
WITNESSES
Mr. Patrick Kelley, Associate Administrator, Office of Capital
Access, U.S. Small Business Administration..................... 5
Prepared Statement........................................... 8
Mr. Sheldon Shoemaker, Deputy Inspector General, Office of
Inspector General, U.S. Small Business Administration.......... 11
Prepared Statement........................................... 13
Ms. Hilda Kennedy, Founder/President, AmPac Business Capital..... 43
Prepared Statement........................................... 45
Mr. Chris Pilkerton, Chief Legal Officer, Accion Opportunity Fund 52
Prepared Statement........................................... 55
ADDITIONAL LETTERS/STATEMENTS FOR THE RECORD
National Association of Development Companies (NADCO)
Letter dated April 26, 2023.................................. 62
National Association of Federally-Insured Credit Unions (NAFCU)
Letter dated April 25, 2023.................................. 63
Senator Marco Rubio
Statement.................................................... 65
QUESTIONS FOR THE RECORD
Mr. Patrick Kelley
Responses to questions submitted by Chairman Cardin, Ranking
Member Ernst, Senators Hickenlooper, Risch, Young and
Kennedy.................................................... 67
Mr. Sheldon Shoemaker
Responses to questions submitted by Ranking Member Ernst and
Senator Risch.............................................. 88
Ms. Hilda Kennedy
Responses to questions submitted by Senator Hickenlooper..... 96
Mr. Chris Pilkerton
Responses to questions submitted by Ranking Member Ernst and
Senator Hickenlooper....................................... 99
OVERSIGHT OF SBA'S IMPLEMENTATION OF FINAL RULES TO EXPAND ACCESS TO
CAPITAL
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WEDNESDAY, APRIL 26, 2023
United States Senate,
Committee on Small Business
and Entrepreneurship,
Washington, DC.
The committee met, pursuant to notice, at 3:33 p.m., in
Room 428A, Russell Senate Office Building, Hon. Benjamin
Cardin, chairman of the committee, presiding.
Present: Senators Cardin [presiding], Shaheen, Hirono,
Rosen, Hickenlooper, Ernst, Risch, Young, Hawley, and Budd.
OPENING STATEMENT OF SENATOR CARDIN
The Chairman. The Small Business committee will come to
order. Let me welcome our guests today. This hearing is
scheduled for the oversight of SBA's implementation of final
rules to expand access to capital.
So, today's hearing will examine two new rules SBA
finalized this month that aim to address the gaps in small
business lending. The first would lift the moratorium on the
number of small business lending companies, or SBLCs,
participating in the SBA's flagship lending programs.
The second would loosen affiliation standards and
streamline lending criteria requirements in SBA's small
business loan programs.
These rules first proposed six months ago and scheduled to
go into effect on May the 12th, make significant changes that
will affect which borrowers and lenders participate in SBA's
lending programs going forward.
Notably, the rule significantly reconfigured the Community
Advantage Program, which has been successful in providing
capital to small businesses and communities that historically
have been left behind.
While I recognize that the SBA issued these rules with the
goal of expanding access to capital for businesses in
underserved communities and increasing the number of small
dollar loans, I am concerned that the final rules do not offer
the stability or specifics necessary to ensure Community
Advantage's future success.
I also worry that the rules that leave so many decisions to
the discretion of the agency would have unforeseen and possible
regrettable consequences down the road.
Like many of us, I was disappointed that the final versions
of these rules are almost identical to those that were
proposed. Giving the degree of interest from so many corners
and the significance of changes under consideration, it is
surprising that the agency wasn't more receptive of many of the
constructive comments it received.
In our hearing with Administrator Guzman last month, we
received assurances that many of our concerns would be
addressed, yet the rules were released without the SOP
guidance, which detail how the rule will be implemented and
without meaningful changes.
Lenders and borrowers need to know what will be expected of
them as these rules are implemented and scheduled to go into
effect on May 12th. And while the SOP guidance will address
some of the missing details from the final rules, the fact that
the agency retains discretion to make critical decisions on a
case-by-case basis means that many program participants will
remain uncertain about where they stand.
This is particularly true for Community Advantage lenders.
While I appreciate that the SBA aims to give the program
stability through the rulemaking, many lenders may not even be
aware that the program will be transitioned into the SBLC
lending program in the coming months or understand what that
entails.
Even more concerning, the rule allows the SBA to make case
by case decisions about important matters like lenders'
required loan loss reserves and capital requirements. It
worries me that this program could be changed dramatically by
subsequent Administrations without any notice to the public by
issuing new SOP guidance.
Furthermore, I am concerned that these rules do not ensure
the long-term integrity of the Community Advantage's important
mission. The final rule does not specify target markets or
metrics for success, thereby eliminating the key markers and
accountability measures that previously ensured the underserved
markets were served.
Access to capital in underserved communities has been a
persistent weakness of SBA lending programs, but Community
Advantage has been our most successful program in reaching
these small businesses.
The program allows mission-oriented nonprofits to make 7(a)
loans up to $350,000, focusing on economic development for
underbanked small business owners. Although it is smaller, more
targeted program than 7(a), the Community Advantage program has
been very effective in addressing the credit gap.
As I have repeated since this rulemaking process began and
long before, I believe the Community Advantage needs the
stability that comes with statutory codification. The Community
Advantage Program was created as a pilot more than a decade
ago, and now in recognition of its success, connecting
underserved small businesses with capital, Congress needs to
make it permanent and establish fixed, transparent
requirements.
I will continue to push our community to do just that as
part of our bipartisan reauthorization process. I just might
point out that part of the reason we are here today talking
about the rule and our concerns is that Congress has not acted
in this area.
We have a responsibility as Congress to give the
guidelines. That is why I think it is absolutely essential that
we move forward with our bipartisan reauthorization of the SBA
laws, where we can speak to the specifics. And if we don't do
that, we are ceding of our authority to the Executive Branch.
This is not to take away from the many good ideas in these
rules, some of which will speed up loan approvals for
modernizing the underwriting process. However, the changes seem
heavily focused on giving lenders greater autonomy and less
guidance, enabling them to rely on automation.
Absent proper oversight, it is easy to imagine a scenario
in which these changes enable predatory lending practices to
creep into the program. Efforts to increase speed and volume
can help modernize SBA programs, but they must be accompanied
by corresponding commitments to exercise caution and vigilance.
The rule gives considerable new responsibilities to the
Office of Credit Risk Management, or OCRM. However, according
to a recent whitepaper released by the Inspector General, this
office is currently short staffed and has been for some time.
While Administrator Guzman told us earlier this month that
SBA is confident that OCRM can handle both its current and
future responsibilities with its existing staff levels, the
Inspector General observed that the office is not currently
keeping up with the oversight of the 7(a) loan program.
Given this new direction, I remain concerned that the
President's budget did not recommend an increase for OCRM,
assuming the agency knew these rules were close to being
finalized in the coming year, the budget request should have
accounted for the growing importance of this office as a
primary overseer of the agency's lending programs.
Again, while we may not see eye to eye on all the
particulars, I do want to commend the Administration for its
commitment to expanding the reach of SBA lending programs to
underserved communities.
And I assure the Administration, I want to work together, I
want this committee to work with the Administration in order to
accomplish our mutual goal of extending credit opportunities,
particularly to the smaller small businesses and those in
underserved communities. Small businesses across the country
rely on 7(a), 504, Community Advantage, micro loan programs.
Lenders and small businesses alike need these programs to
remain stable, transparent, and sufficiently empowered to reach
underserved borrowers. These should be our guiding principles.
I look forward to hearing from both panels of our witnesses
today so we can better understand the concerns and we can move
forward on a common agenda. And with that, let me recognize the
distinguished Ranking Member, Senator Ernst.
Senator Ernst. Thank you, Mr. Chair, and thanks to our
witnesses for being here today.
And given the importance of today's hearing, according to
our committee's rules, any member of the committee shall be
empowered to administer the oath to any witness testifying as
to fact.
So, if you both please would rise and raise your right
hand, I will administer the oath. Do you solemnly swear to tell
the truth, the whole truth, so help you God?
Mr. Kelley. I do.
Mr. Shoemaker. I do.
OPENING STATEMENT OF SENATOR ERNST
Senator Ernst. Okay. Thank you very much. Just one month
ago, Administrator Guzman was before this committee, and
Chairman Cardin and I both expressed concerns with the SBA's
new proposed lending rules.
Fast forward to our very next committee hearing today, and
now the rules are final, and none of the concerns we discussed
were considered or addressed. It is really disheartening to
many of us on this committee, as we saw in a bipartisan manner,
where numbers of our committee members raised issue with the
proposed rules, and it shows that the Administrator and the SBA
was not working in good faith with us.
These final rules threaten to drastically change the SBA's
flagship small business lending program. The Administration
will allow for an unlimited amount of non-depository
institutions, fintechs, to become permanently licensed SBA
lenders.
It also removes underwriting standards that will inevitably
increase risk. Taxpayers recently witnessed the Federal
Government lose more than $64 billion in paycheck protection
program funds due to fintechs facilitating widespread financial
fraud and improper loans.
Yet before oversight investigations into these entities
have crossed the finish line, the SBA has decided that now is
the time to replace community lenders with artificial bots.
The SBA is not prepared to evaluate the use of artificial
intelligence or machine learning algorithms for underwriting
and loan processing, nor does it have the capacity to enforce
Federal anti-money laundering laws and know your customer
compliance, which are vital controls in the U.S. financial
system to keep money from flowing to and between bad actors.
The rules state that it will fill the market gap for
smaller dollar loans to underserved borrowers. But the rules do
not limit the new non-bank lenders to small dollar lending. It
begs the question, do we think fintechs will pursue small
dollar loans or take up the opportunity to do $5 million loans
if they have the ability to be repaid by the Government for a
default?
At the same time, the rule will allow for larger businesses
to exploit these programs intended for truly small businesses.
Lastly, the rules will give the SBA Administrator the authority
to reverse loan decisions, forcing lenders to provide a loan,
which is a backdoor way to direct lending by the agency.
These sweeping changes will encourage risky lending
behavior, causing subsidy rates to rise and increase fees on
the very borrowers that SBA is trying to help. In spite of a
bipartisan push for the SBA to exercise diligence and
restraint, the SBA has ignored Congress, Democrats and
Republicans, specifically this committee, every step of the
process and is moving full speed ahead.
Mr. Chairman, I do hope that we can work together to reign
in the SBA's ill-conceived changes to these critical programs
and actually address the gaps in small dollar loans and lending
in rural America.
Shifting loans from our banks on Main Street to bots in San
Francisco isn't the best interest of our small businesses in
Iowa, nor across the United States. And I want to be very clear
about this, we need to come to a bipartisan agreement on a
legislative response to these rules before we begin
negotiations on other aspects of modernizing the SBA.
Small business lending is the foundation of SBA's programs,
and we can't undertake renovations to the rest of the agency
until this dire problem is fixed. Thank you, Chairman.
The Chairman. Let me thank the ranking member. We will now
hear from our first panel of witnesses. Let me introduce both.
Thank you both for being here.
Mr. Patrick Kelley serves as the Associate Administrator
for the Office of Capital Access at the Small Business
Administration.
In this role, he is charged for overseeing the office's
operations, and the office is responsible for making capital
available to small businesses through banks and other lending
partners. This is his second stint at SBA, as he previously
served in several positions during the Obama Administration.
And Mr. Shelton Shoemaker serves as the Deputy Inspector
General for the SBA's Office of Inspector General. He has been
with OIG since 2011. He served in numerous positions at that
agency before assuming his current role.
As the Deputy Inspector General, he serves as a principal
advisor to the Inspector General and assists in overseeing the
office's operations.
Without objection, both of your full statements will be
made part of the record. You may proceed for approximately five
minutes, leaving time for us to be able to ask questions. We
will start with Mr. Kelley.
TESTIMONY OF PATRICK KELLEY, ASSOCIATE ADMINISTRATOR, OFFICE OF
CAPITAL ACCESS, U.S. SMALL BUSINESS ADMINISTRATION
Mr. Kelley. Chairman Cardin, Ranking Member Ernst, members
of the Small Business committee, thank you for the opportunity
to appear here today on behalf of Administrator Guzman and the
Biden-Harris Administration.
I began as the Associate Administrator for the Office of
Capital Access in March of 2021, and as the Chairman mentioned,
I have been responsible for the Paycheck Protection Program,
the COVID EIDL loan program, the Restaurant Revitalization
Program, and now oversee the 7(a) program, the 504 program,
micro-loans, and the Surety Bond Program.
What I want to start first by saying today is for the first
two years of this position, the number one priority from
Administrator Guzman was to take care of the challenges that we
inherited when President Biden took office regarding the CARES
Act programs.
Over the last two years, we have screened 49 million
applications across the CARES Act programs, PPP, and COVID
EIDL, as well as SVOG, and Restaurant Revitalization, which
were part of the American Rescue Plan.
We have flagged almost 6 million files for suspicious
activity, we have conducted 3.5 million manual reviews, and we
have referred over 3 million instances of attempted fraud in
what we believe is fraud on disbursed loans. Close to 800,000
loans that were dispersed and 3 million more that were
attempted.
So roughly $40 billion is the fraud estimate that we
believe was dispersed, and $60 billion of attempted fraud
totaling $101 billion. And we intend to support, and our budget
reflects that from President Biden, the Office of the Inspector
General in their attempt to go get the bad guys that we have
identified.
Since Administrator Guzman took office, we have made every
single piece of data available to the Office of the Inspector
General. Our predecessors sued the Office of the Inspector
General and the public to keep that information private, which
I believe created and exacerbated the issues regarding the
allegations and estimates of fraud.
We have addressed all of the material weaknesses that we
inherited, IP static address, failure to check business
address, automated screening, data analytics to determine which
supervised learning models, which prioritized files we need to
manually review.
So, I start there because it is important to understand
that for two years, we have, through automated screenings,
through data analytics tools, through manual reviews, referred
now 3.5, 3.6 million applications to the Office of the
Inspector General for them to go after, and we will continue to
work with them on that.
I start there because it is important to understand that
the CARES Act program legacy will not simply be the management
challenges that the Biden-Harris Administration handled, but
what the Biden-Harris Administration did to stop that, to put
an end to it, and then to take from there and make sure it
never happens again.
In our programs moving forward, and I look forward to
discussing all of the issues that Ranking Member Ernst and
Chairman Cardin addressed, I look forward to discussing how we
will screen in all of our existing programs pre each ran
authorization for eligibility and fraud moving forward.
And I am happy to get into the details of that. We believe
that that is an important step that will be reflected in my
colleagues, Deputy Inspector General Sheldon's testimony
regarding the need for reviewing borrower and lender
certifications so that we never again go to the point where we
are relying on lender or borrower certifications.
So, the last thing that I will share with my remaining
minutes that I think is important for the members of the
committee to understand and is important for me to share with
the rest of the folks here, my family comes from Manchester,
Connecticut.
My parents grew up in East Hartford, which is the home of
John Larson, and my grandmother lived on Mitchell Drive there,
and it was an FHA home, post-World War II. She worked as a
clerk in a grocery store. My grandfather worked in Pratt
Whitney as a firefighter.
When my grandmother passed away, my mother was in the house
or finishing up the estate, and at a certain point, maybe she
wouldn't want me to share this, she was cursing a blue streak
from the kitchen. In these houses, and for the kids here that
don't remember, there were phones with cords, extension cords
that would go throughout.
And my mother was cursing a blue streak because she learned
that my grandmother was leasing her phone, the phone on the
wall, from the phone company. That phone company had taken
advantage of my grandmother and cost her money that that Social
Security check was precious.
So, I remember this vividly, and I understand what our
responsibility is to go after charlatans in the financial
markets. And I have spent a career working on those issues, and
I look forward to handling all the questions today and working
with the committee as we move forward. Thank you.
[The prepared statement of Mr. Kelley follows:]
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The Chairman. Mr. Shoemaker.
TESTIMONY OF SHELDON SHOEMAKER, DEPUTY INSPECTOR GENERAL,
OFFICE OF INSPECTOR GENERAL, U.S. SMALL BUSINESS ADMINISTRATION
Mr. Shoemaker. Thank you. Chairman Cardin, Ranking Member
Ernst, and distinguished members of the committee, thank you
for the opportunity to be here before you today on behalf of
Inspector General Ware.
IG Ware currently is part of a high-level delegation to
promote law enforcement partnerships with foreign counterparts
in furtherance of rooting out fraud in the pandemic response
programs.
I am honored to represent the dedicated men and women of
OIG and their hard work as this committee examines SBA's
implementation of two recently finalized rules. SBA's final
rules rescind the moratorium on new SBLC licenses, remove
requirements for a loan authorization, and remove control as an
element of affiliation, among other various regulatory changes
in the 7(a) and 504 loan programs.
OIG provides independent and objective oversight of SBA's
programs and operations. In doing so, our office provides
recommendations to SBA leadership to improve the performance of
SBA's programs and services for the benefit of the American
people.
SBA 7(a) lending program provides financial assistance to
small business in the form of Government guaranteed loans.
SBA's lending partners in this program where the basis of the
Paycheck Protection Program, which delivered vital financial
assistance through the lending partners to mitigate economic
damage resulting from the pandemic.
There has been no higher priority for our office than
providing oversight of the pandemic response. In the past two
years alone, OIG's work has resulted in an exponential return
on investment to the taxpayer, which is valued at more than $9
billion.
In doing so, we have published 49 reports. Our work also
has played a major role in the return of more than $30 billion
in pandemic relief funds from borrowers and financial
institutions.
This work and our decades of oversight of the lending
programs, affirms SBA must take deliberate and intentional
steps to design, implement, and operate an effective internal
control system as it lifts the moratorium on new SBLC licensors
and as the Community Advantage SBLC into the 7(a) program.
When SBA placed a moratorium on approving SBLC licenses in
1982, it did so to reduce the administrative resources needed
to prudently regulate and oversee nine depository lenders with
a nationwide 7(a) lending platform.
As recent as 2020, SBA stated in its rule aimed at the
supervised lender application process, that it does not have
the administrative resources needed to increase the number of
SBLCs beyond 14 or to oversee their participation in a
nationwide 7(a) lending platform. Such concerns are well
founded, especially in context of increased risk that are
associated with lending authorities available within a 7(a)
program, which presently are not authorized by the Community
Advantage pilot program.
Concerns also are present in context removal of loan
authorization during loan origination. OIG's white paper on
risk awareness and lessons learned from prior audits of
economic stimulus loans, which was offered by OIG at the outset
of the pandemic response, sought to inform the policy decisions
in implementing the Paycheck Protection Program.
Among the considerations in this white paper was for SBA to
issue clear requirements and ensure timely communication to
lending partners. Clear guidance and program requirements
following the current rulemaking will enable lenders to
participate in the programs with confidence that guarantees are
secure if terms and conditions are met.
I have offered additional insights on risk in my written
statement that are based on our prior work. We believe
appropriate consideration should be given to mitigating this
risk as SBA implements these rules.
Solid rules and regulations, strong internal controls, and
effective process for oversight and monitoring can mitigate
risk and lead to efficiency and effectiveness. Technology also
can be a powerful tool in establishing a robust internal
control environment for program management, for
responsibilities of monitoring oversight, and for regulatory
enforcement.
Such efficiencies can augment limited resources. However,
technological tools can be limited by availability of essential
data. To effectively employ artificial intelligence,
comprehensive data must be available and be current.
It is vital where data limitations exist, the internal
controls also are not absent and are calibrated in a manner
that provides necessary assurance. OIG has an established track
record of providing oversight at the inception of new programs,
such as the State trade expansion program.
The transparency afforded by our work and our well-founded
recommendations for corrective action improve program delivery
to the nation's small businesses. The nation once again could
depend on OIG to provide independent, objective, and timely
oversight of SBA.
Thank you for the opportunity to speak with you today. I am
happy to answer any questions you may have of me.
[The prepared statement of Mr. Shoemaker follows:]
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The Chairman. Well, let me thank both of you for your
public service. Thank you very much for being here. And thank
you for the role you are playing on behalf of small businesses.
Mr. Kelley, I appreciate your testimony in regards to going
after those who have committed either fraud or mistake. That is
something that was really the subject matter of our last
hearing. This hearing, the subject matter of the two rules that
have been promulgated.
And I am somewhat disappointed that your statement doesn't
really address that rule. It is more dealing with the fraud
issues than it is the rule that is before us on this hearing.
So let me try to drill down a little bit. This rule is
going to take effect in two weeks. When do you expect the SOP
to be available?
Mr. Kelley. I think our deadline right now is May 3rd, or
in and around that date.
The Chairman. And can you tell me why the rule? How do we
guarantee that we are going to see loans to small businesses,
smaller loans? How are we going to guarantee that the CA
lenders are concentrating in underserved communities?
How are we going to assure CA lenders are borrowers of the
cost of the loans or the underwriting rules? I don't see that
in the rule itself.
So, if I am a CA lender, what confidence do I have that
this program is really geared towards my mission, which is to
provide help in underserved communities and smaller, or small
loans.
What assurance do I have that someday it won't be turned
over to the larger loans, as we saw what happened with the 7(a)
program?
Mr. Kelley. So first, as Administrator Guzman did share
with you and we shared with staff, we intend to put in the SOP
and you will see reflected the 60-40 rule that was reflected in
the Community Advantage Program guide.
We have also discussed with your staff your bill, the
Cardin-Chu bill calls for a 70-30 ratio. One of the reasons
that Administrator Guzman did not put a 60-40 requirement into
the rule is because, as she shared with you and members of the
committee, the current definition of underserved does not
include women or minorities.
And so, any definition of underserved, I think in the room,
would include those two bodies, most especially since African
Americans represent 12 percent of the population, they
represent 41 percent of sole proprietors, and they see 2
percent currently of 7(a) loans.
And so, for example, when my counterpart here in the
private sector, Hilda Kennedy, testifies of her lending in
California, if her shop wanted to focus on meeting that
underserved gap regardless of income level, she would not be
able to focus exclusively on that as a mission-based lender.
And it is the same for women who are underrepresented as well
in the seven loans for the same thing.
The Chairman. So, I am a bit confused. You are saying you
didn't want to put anything in here to protect the mission and
to the rule itself because basically court concerns about
target groups.
So, we have had a program that has been successful. The CA
program has worked with the guidance on a percentage of loans
in underserved communities, and you are throwing that out and
saying we are not going to have anything in the rule but trust
us. Is that what I am hearing from you?
Mr. Kelley. No. That is not what you are hearing. So, in
the 7(a) program, all lenders make 50 percent of their loans to
the current definition of underserved.
So, the current definition of underserved is rural, low to
moderate income, hub zone startup, those businesses in business
less than two years, and veteran owned businesses. So
regardless of lender type, regardless of loan size, roughly 50
percent of the loans----
The Chairman. Which is not in this rule, is it?
Mr. Kelley. I am saying you are correct. It is not a
requirement of the rule. And yet every year the lenders,
through their lending activity by nature of the----
The Chairman [continuing]. But that is the pilot program--
that is the CA pilot program.
Mr. Kelley. Correct. But the--what I am explaining is that
if you did not have a 60-40 percent threshold in the Community
Advantage program like we do not have in the 7(a) or the 504
program, when the lenders are making their loans, the outcome,
the outcome of the loans, the standard 7(a) express 504 loans
ends up meeting the underserved definition that is defined in
the Community Advantage, 50 percent.
What is better in the Community Advantage Program is the
loans to women and minorities. But in that definition, they do
not get credit in the 60 percent threshold of meeting that 60
percent----
The Chairman. But they are meeting--look, the communities--
the Community Program is working. We have the 60 percent and we
also have the penetration to the target groups who would like
to get the loans. And the loans are also smaller dollar amounts
and are also costing less. But none of that is in the rule.
Mr. Kelley. Yes. So, as I explained to you, and
Administrator Guzman explained to you as well, we are putting
that 60 percent--40 percent threshold in the SOP. Each lender
is responsible for executing the form 750.
The first line or first two sentences of that form, the
form 750 requires that the lender comply with all statute, all
regulation, and all SOP guidance regarding the rules.
The Chairman. What assurance do I have as either a lender
or a borrower about the cost of a low--a small loan which is
competitive under the CA pilot program but not necessarily
under 7(a) program? What assurance do I have on costs? Is there
something in the rule that I haven't read?
Mr. Kelley. When--so are you referring to rate and fees of
a 7(a) loan or are you referring to the capital requirements,
the fidelity insurance requirements?
The Chairman. I am really referring to both, but right now
I am talking about the cost of processing.
Mr. Kelley. Okay. So historically, Community Advantage
lenders have always enjoyed a higher interest rate than
standard 7(a) lenders. Most recently, we promulgated rules to
standardize that for all lenders. And so----
The Chairman. Is there something in this rule that I can
look at that says that we are protecting the 7(a) CA program on
costs, processing costs?
Mr. Kelley. Yes, so----
The Chairman. It is in the rule?
Mr. Kelley. So, the rates themselves are in----
The Chairman. Processing costs, I am talking about.
Mr. Kelley. Yes. Okay. So, then that is the fidelity
insurance and capital requirements and loan loss reserves. So,
for example, in the Cardin-Chu bill, you do not call for a
capital requirement threshold or a fidelity insurance
threshold. So let me explain----
The Chairman. Are you supporting the statutory approach of
our legislation?
Mr. Kelley. We are absolutely--we were directed by
Administrator Guzman to, after working with your staff on Build
Back Better regarding making Community Advantage permit, to
look for the areas where your bill could direct us in a way
that would make the Community Advantage program stronger.
So, for example, in your bill you call for a 5 percent
threshold for the loan loss reserve requirements, which allows
for over 36 months of performing loan performance for that loan
loss provision to come down.
The Chairman. Are you supporting us statutorily passing
legislation to make permanent CA program similar to the
legislation that has been--was filed? Are you supporting a
statutory approach or not?
Mr. Kelley. I would support anything that helps Community
Advantage lenders with their mission.
The Chairman. I will take that as a yes. Senator Ernst.
Mr. Kelley. Good.
Senator Ernst. Mr. Chair, Senator Risch does have another
commitment, so I will yield my time to him.
Senator Risch. Thank you, Mr. Chairman and Ranking member.
First of all, I was hoping Ms. Guzman herself was going to
be here because I wanted to thank her and congratulate her by
accomplishing something that is very, very seldom done around
here, and that is bringing Republicans and Democrats together
to oppose what they are doing on this thing. This is a disaster
in the making.
What shocked me was--I mean, we were treated like chopped
liver around here. Guzman told us, oh, they are going to pay
close attention to the concerns that we have. And less than
just ten business days later, they announced that the rule was
moving forward without any consideration of what this committee
input that is put in here.
Look, the financial industry--if you were in front of the
Banking committee, I think they would be taking your head off
here. The banking industry, the financial industry needs really
close oversight regulation.
I am no fan of Government regulation, but when it comes to
finances, this country has learned over and over and over again
with the banks--start with the savings and loans disaster that
we had. If we aren't looking over the shoulder of the lenders,
this is a disaster waiting to happen. And that is exactly what
you are doing bringing the fintechs in here.
We certainly should have learned this from the PPP program.
All of us knew when we voted for that, that it was--we were
taking a chance because of the know your customer was going to
be out when there were too many customers. And that is exactly
what you are headed for here. I would hope that you back up on
this.
I suspect you are going to be facing the CRA if you don't.
Probably a bipartisan CRA if this regulation comes down the
pike. But you know, the--one of the things that struck me is
you are Fiscal Year 2022 goal for 7(a) loans to underserved
markets was how much? 43 percent. Do you know what the actual
production was on it? It was 68 percent.
So, there is no failure here. I mean, you far exceeded the
goals of what you were trying to do. So, I am not sure who the
geniuses that brought this up, but I wish you guys to take this
back to the drawing board and listen to us. I think Senator
Cardin is right.
I think, you know, we trust the agencies generally to do
the kinds of things that we don't have time to do. It looks to
me like we are going to have to take the time to do this, and I
agree with you, Mr. Chairman. I think this is going to take a
statutory answer to this.
I have some very specific questions for the record, and if
it is okay, I will submit those, Mr. Chairman.
The Chairman. Certainly. Thank you. Senator Hirono.
Senator Hirono. Thank you, Mr. Chairman. I take it that the
concerns being expressed by my colleagues regarding these new
rules also have to do with whether or not there are enough
protections in the new rules to guard against fraud. Is that
correct, Mr. Chairman?
So, Mr. Kelley, what is in these rules that is different
from what happened during the CARES Act provision, which, by
the way, we did not--it is not as though Congress put in a lot
of resources for SBA to do this stuff. We just sort of said,
here, go and do it.
So, in these new rules, what kind of anti-fraud measures
are in the rule, briefly?
Mr. Kelley. So, the moratorium allows a lender to
participate in the 7(a) program. And as such, they comply with
all the statutes, regs, and SOP related to 7(a) loan.
So, for example, what was different--what is different
about a 7(a) loan than a paycheck protection loan program?
First off, there is underwriting. Second, there is collateral.
Third, there are personal guarantees for any owner of 20
percent or more. And then what I indicated in my testimony and
the reason I began with the CARES Act programs is because I
wanted the committee to understand one of the major lessons
that we did take away at the agency from the challenges that
the Biden-Harris Administration inherited with respect to fraud
in the CARES Act programs, and that was that if we need to do
speed and certainty both, not just speed.
And certainty requires that we put in place systems that
will screen automatically before we disburse the money. The
notion that you can go get the money after it goes out the door
was never a real strategy.
So, what we are also putting in place with this SOP for the
first time is for all delegated loans, all non-delegated loans,
any loan that is going to be originated across 7(a) and 504 and
we did this in PPP three, we will be screening 19 different
categories of eligibility and fraud.
And if there are alerts and flags, which there were in POP
three and there were in COVID EIDL, then we will move to
determine whether there is a false positive, meaning it was an
error and the person can move forward and demonstrate that that
was a false signal.
Or if not, we will prevent that from moving forward. And
what that addresses in the audit reports that we share and that
they provide feedback for us, is the notion of improper payment
related to ineligible loans or reasonable reassurance of
repayment.
Senator Hirono. So, Mr. Kelley, you are telling me that
there are many checks, many more checks than that were in place
during the whole PPP and EIDL and those programs, because we
directed you to put all this money out there in the community
during a very challenging time for our small businesses. Is
that correct?
Mr. Kelley. Yes, it is.
Senator Hirono. It sounds like. Okay, good. Then, did I
hear you say that the definition of underserved do not include
women and minorities owned businesses?
Mr. Kelley. Correct.
Senator Hirono. So that is a change, isn't it, that you are
making?
Mr. Kelley. No, it is not--it is not a change. It is never
included. It has never been included.
Senator Hirono. Why wouldn't you include minority owned
businesses as underserved in the underserved group?
Mr. Kelley. The agency under the Obama Administration, when
we created the Community Advantage program in 2011, determined
that using class, race, and gender as a differentiator would
not be considered Constitutional.
Senator Hirono. Has that been tested in court?
Mr. Kelley. Well, we were sued, as you know, in the
Restaurant Revitalization Program, where we had economically
and socially disadvantaged and women as a priority applicant.
And two injunctions were issued by two different courts.
So, it has not been directly tested because we have not
included it, but it was tested in the Restaurant Revitalization
Program. And that is one of the reasons that you do not see in
the definition.
So the point I was trying to make to Chairman Cardin--I
didn't do a good job and I know we are in align on this, but I
am doing a bad job communicating, is that when we think of my
friend back here, Hilda Kennedy, who is going to testify in the
next panel for Accion, for the other guy, their focus is in
these marketplaces, rural women, minority borrowers.
And from the Administrator's perspective, she does not
believe that mission-based lenders are going to forget their
mission when they go to lend. And she wants to make sure that
they are not ever in a position where they are non-compliant
with our threshold because they want to originate 100 percent
of their loans for women, for example, women entrepreneurs.
Senator Hirono. So, I understand that you do have some
legal concerns, but when we are talking about wanting to expand
access to capital for minority owned businesses, that speaks--
that says to me, you obviously have information relating to
black owned businesses.
I would like to know whether you have any data on hispanic
owned businesses, Asian-American businesses. There are
thousands of small businesses in these categories, but you are
saying that you have a concern about keeping track of the kind
of loans that are made to these groups of businesses, of which
there are thousands, and they are not all in hubs or all in
rural areas, or whatever other categories you have.
Mr. Kelley. Yes. So, what I am saying is, is that that data
today is--has always been voluntary.
The CFPB 1071 rules that have just been passed, which to my
friend from Idaho with respect to the Banking committee, the
banks were not in favor of 1071 for reporting, right, but that
is a rule that is going to give us transparency on this very
issue.
And the further point that I am trying to make for
Administrator Guzman is that because there is a question of
Constitutionality in the minds of the Biden-Harris
Administration, the Trump Administration, and the Obama
Administration, three different Administrations that kept the
Community Advantage Program alive and did not include those
definitions that, we think we might be undermining the mission
based focus on race and gender, which we totally agree
violently agree that is where the true gap is.
So, this would be, to Chairman Cardin and Ranking Member
Ernst, in their desire to pass a law to make Community
Advantage permanent. If Congress wants to make the underserved
definition to include race and gender, which, for example, we
worked with Senator Cardin's staff on Build Back Better, it
would have, then we will implement the law as it is passed.
But from the standpoint of the beginning of the Community
Advantage Program to now, that definition has not included
those.
Senator Hirono. Okay. Thank you, Mr. Chairman. I think you
should think about including race and gender as factors.
The Chairman. Senator Ernst.
Senator Ernst. Thank you, Mr. Chair. And as you can see,
there is a lot of concern across the board about our discussion
at the last hearing and the issues that were raised by the
Senators on this committee.
I know there are concerns in the House as well about the
issues with the rules, and yet no changes were made to those
rules. So, Mr. Kelley, I am concerned you started making calls
to stakeholders to garner support for these rules when you
noticed that they weren't receiving support.
At any point during the rulemaking, did you conduct
outreach or have discussions with stakeholders that was not
made public and part of the rule's records, yes or no?
Mr. Kelley. The--did we conduct outreach? Yes, we made all
of the folks available--all the folks aware that the rules were
available. We conducted staff meetings with Senator Cardin, for
example, with members of different Community Advantage working
groups.
There was various, Now CAB, other groups as well who
provided feedback. And then that feedback was reflected in the
public written record as it was put forward.
Senator Ernst. So, okay. So, you did have discussions with
stakeholders and it was made public.
Mr. Kelley. Yes, I believe so.
Senator Ernst. And part of the rules record?
Mr. Kelley. I believe so.
Senator Ernst. Did you make any promises or commitments
concerning the standard operating procedure documents or agency
procedural notices in order to garner support for these rules,
yes or no?
Mr. Kelley. In order to garner support, no.
Senator Ernst. Will you provide the committee with copies
of your schedule, phone logs, and email communications during
the rulemaking period.
Mr. Kelley. I will do that--as you know, all of that
information is the agency's property and working with the
committee, you can submit a request----
Senator Ernst. So, yes.
Mr. Kelley. But I think for full transparency, as Senator
Cardin's staff understands and knows, and as we have alluded to
in these discussions, Administrator Guzman had discussions, as
is mentioned, with all of members of the committee regarding
the rules and the feedback and regarding the public comments
that had come in.
And we discussed the public comments that were in the
public record with various members about their concerns and
their questions to amplify whatever they had already raised in
the public record.
Senator Ernst. Okay.
The Chairman. I just want to point out, I am not sure Mr.
Kelley can fully answer that question. These are legal issues
that I would want the SBA to be able to work with us to get the
information that we need. So, I recognize that is a question
that may not be under your specific decision making.
Senator Ernst. I would also--thank you, Mr. Chairman. And I
also would want to know, of course, if there were discussions
with stakeholders outside of Congress as well.
Moving on from that, the SBA under your direction ended
debt collections on $1.1 billion worth of unforgiven PPP loans
under $100,000, and according to the Inspector General, is
planning to do the same with about $71 billion worth of COVID
emergency disaster loans, or the EIDLs.
So, I sent a letter to Administrator Guzman on this EIDL
decision, and I did receive a response, but I consider it an
insufficient response. And that response came this morning,
conveniently today as you are testifying. The letter failed to
answer any of my questions.
So, let's make sure we are setting the record straight, Mr.
Kelley. Is SBA going to pursue debt collections on EIDL program
loans under $100,000? And have you reached out to every
borrower to confirm their ability to repay these loans?
Mr. Kelley. Yes, we have. And I would like to clarify this,
too, because it is important that we don't mislead borrowers.
Every single borrower of PPP loan and every single borrower of
a COVID EIDL loan must repay the loan.
If they do not repay the loan, they were referred to credit
bureaus. If they do not pay the loan, they are referred to
Treasury, do not pay. The decision we made with the law--the
law calls for the agency to make a cost benefit analysis for
instances under $100,000, where the cost of administering the
Treasury offset would be higher than the recovered dollars.
And we looked at the costs, which it was estimated to cost
about $6 million to collect $3 million on that $1.2 million--or
1.2 billion or 77,000 PPP loans. And that is because when we
took a more conservative loan portfolio snapshot, we took 2009
to 2022, loans that had been underwritten, loans that had
personal guarantees, loans that had all available collateral
but could be unsecured, and we looked at what Treasury offset
wage garnishment had collected, in that 13-year period, had
collected $65,000.
We had no personal guarantees. We had no underwriting. We
had no collateral. These were all by design. These were not
bugs. These were features of these programs. And so, after
someone has not made repayment and the lender has taken the
servicing and liquidation action that they can take, they seek
purchase.
And when we estimated the cost of pursuing Treasury offset,
or TOP, it would cost us more than the money we would collect.
And that is why we opted to stop that so that we didn't waste
$3 million of taxpayer money.
Senator Ernst. Mr. Kelley, I don't think it is a waste to
ask Americans to repay loans that they signed----
Mr. Kelley. We are asking them to repay. We are not--we
are--I want to make this really clear. We 100 percent, I want
everyone watching at home on C-SPAN, you must repay your loan.
If you do not repay your loan, if you do not seek
forgiveness, incidentally, if you miss 60 days of nonpayment in
the PPP Program by design, ratified by the Economic Aid Act,
you still have up to five years to come back and seek
forgiveness.
So, we would be referring to Treasury debt. You are then
allowed to have an administrative hearing as a member of the
public regarding that before that wage offset kicks in.
That costs the agency $700,000 in fees. You then can seek
forgiveness for which under $100,000, by law, under the
Economic Aid Act, you need to submit a one-page form to the
lender who then services the forgiveness decision.
So, repayment is 100 percent required. We will put them in
Treasury do not pay, which means that they are barred from
seeking any other aspect of Federal programs until they make
the Government whole on that.
They are referred to the credit bureau, so their credit
score goes down and we should make a distinction as well. If
anyone is an LLC, s-corp, or c-corp and they borrowed money,
less than $100,000, they can enter into bankruptcy. And because
the program did not require any personal guarantees, they will
be discharged.
And because we are in subordinated position as a result of
the program, we don't have any standing in order to recover
anything from the senior debt holders. So, repayment is
absolutely required. We are doing everything, as are the
lenders, to get repaid.
We have forgiven 10.6 million out of 11.4 million PPP loans
to date. And as you know, the taxpayer already gave 103 cents
on every PPP dollar to either be used for purchase or for
forgiveness. So, the only step that we are foregoing seeking is
where we are going to lose $3 million more dollars of taxpayer
money.
The signal is not that we are telling you not to repay. We
are absolutely telling you repay. But when we decided as a
country, Congress and the Executive Branch, that we were going
to provide emergency relief and we weren't going to require any
of the safeguards that are normally associated with these
loans, that was going to impact our ability to collect on the
back end, which is why the subsidy rate was 103 cents to 100
cents.
So, it is important that we will absolutely seek repayment.
Senator Ernst. Well, and I know we need to move on, Mr.
Chair, but I think the message is out there, though, that we
are not doing everything we humanly can. We would rather not
spend the $3 million. It is just like the charlatan that went
after your grandmother on the phone issue----
Mr. Kelley. That person got away. In the case of the PPP
program, we have identified the folks that either attempted
fraud or committed fraud and we have referred them to the IG so
that we can all go get them. That is the distinction.
Senator Ernst. Thank you. And we will go ahead, Mr. Chair.
The Chairman. Thank you. Senator Hickenlooper.
Senator Hickenlooper. Thank you, Mr. Chair. Associate
Administrator Kelley, nice to see you again. I know that the
SBA is only adding three additional SBLC licenses at the moment
on top of the 14 licenses successfully managed for 30, 40
years, I guess, as part of its rulemaking.
However, many of the comment letters on the SBLC's final
rulemaking have argued that removing the moratorium completely
risks the--risks letting too many firms into the program for
the SBA to be safely able to manage it.
Are you willing to commit to only adding additional SBLC
licenses once and only after the SBA has conclusively
demonstrated it can provide appropriate oversight of the new
SBLCs?
Mr. Kelley. Yes. So, we indicated the reason that we
didn't, and we indicated this in the proposed rule, and that we
felt we had the capacity to take on three additional lenders.
And I think what is important to understand is that in the
40-year history of the SBLC licenses, there has been 14
licenses. Those licenses have been available for sale for that
entire 40-year period and have transferred 61 times.
Each time there is a transfer, you need to--the buyer and
seller need to apply to the SBA. There is a process written out
in the SOP in the standard operating procedures. It has been
there. It is not changing. It is not going anywhere.
You apply when the application is reviewed. So, when we
look to see whether the buyer should be approved from the
seller, we look at the safety and soundness.
We look at their portfolio history. We look at their
business plan approach. We look at whether or not they comply
with all of the rules that they need to comply with as an
entity. So, for example, State user laws. We look at Bank
Secrecy Act and those types of things.
So, all of those things are put into consideration today
that was in existence when we were growing the Community
Advantage program up into the moratorium.
And that program, the high water mark of that program was
130 entities. It dropped down post moratorium through attrition
to the low nineties and has since moved up to 108 entities.
So, when we looked at the existing capacity, we looked at
the oversight headcount. We see exactly what you see.
Administrator Guzman, I, we all share the same concerns. We
looked at the fact that we had the capacity under the ceiling
and we set it at three because we understood clearly that we
were going to be doing something different.
But we should make no mistake about the following either.
And I think it was a great point that Chairman Cardin and
Ranking Member Ernst brought up. You know, how do we know that
these lenders will make small dollar loans or how do we know
that these lenders will fill the gap?
Why are we not asking the same of the lenders who have
participated in the program for years? We have not--we have not
been called on to require a quota for any of the banks or
credit unions.
Credit unions make 500 loans a year in the SBA program, and
yet there are north of 5,000 institutions out there. In the
90s, credit unions explained, against the bank wishes, that
they were going to grow access to capital by serving
underserved needs, and yet their average daily balance to high-
net-worth individuals has grown.
So, each time we look at these institutions, we are keenly
aware that the lending intermediaries that we work through can
make choices. But I don't know why we are limiting ourselves to
being concerned about the lenders who in the marketplace are
showing time and time again that they have created a
comparative advantage.
They think their business model is competitive and we are
going to give them a conforming product, a product that has
transparent terms, better amortization periods, better rates,
better fees, and that is the only thing that they can
originate.
And as I said in my opening testimony, we can screen now,
prior to each brand authorization, with digital tools, we do
random audits of those files every time they file.
So, to Ranking Member Ernst's concern, every time they make
a bad loan, and Deputy Inspector General can echo this, if they
make a bad loan in less than 18 months as an early default, it
is referred to the Inspector General as well as us, and we look
to repair and deny the guarantee.
So, I think that we--I just want to make everyone aware
that we completely agree with all members, bipartisan, that
this is a thing that has to be taken soberly, has to be taken
seriously.
And we believe that we have systems that we have developed
over time that can support that. And yes, we are going to move
slowly. We are going to move judiciously to get it right.
Senator Hickenlooper. Good. I think the question, which I
think you have answered, is that we want to make sure that
there that we are not losing anything in the transition, and
that somehow the having the barn door open a little bit isn't
going to lead to some level of, you know, uncontrolled
transformation.
And I am that is not a worry of mine. I think that you have
demonstrated that you have the capacity to administer the
program properly and that you are going to do so cautiously and
expeditiously. I yield back, Mr. Chair.
Senator Shaheen. Thank you. Senator Budd.
Senator Budd. Thank you, Chair. Again, thank you both for
being here. Mr. Kelley, I want to go back to a previous
conversation you had with Chairman Cardin. Can you clarify of
the 60, 40 split in the SOPs that applies to all lenders or
just the SBLCs?
Mr. Kelley. So currently right now, the 60, 40 requirement
is in the Community Advantage program only.
And so what I shared with Chairman Cardin, now I will
repeat for you, Senator Budd, is that roughly 50 percent,
right, in a given year of 7(a) loans and 504 loans, regardless
of size and regardless of lender touch, the definition of
underserved--and the definition of underserved includes low to
moderate income, hub zone, startup, those businesses in
business less than two years, and veteran owned businesses, and
rural.
Senator Budd. So that is 50 percent?
Mr. Kelley. That is roughly 50 percent. Yes, there is--give
or take. And so, my point to Chairman Cardin was that if
minorities are seeing less loans or women are seeing less
loans, then the census track is demonstrating that they are
sole proprietor.
So sole proprietors, as you know, seek smaller dollar
amounts, right, by definition, right. And so, if those types of
entities overindex, which they do in the census track, to
minorities and women, and we are not seeing--when we are seeing
a five-year decline of like 45 to 50 percent in terms of small
dollar lending, then the outcome that is created by that,
right, is that you are going to see less loans, right.
And if those there are less loans to sole proprietors, you
are going to see a disproportionate impact, right, or a
disparate impact on classes that are overrepresented in that
type of entity type.
So, our position is that when we are choosing lender
intermediaries, the whole point--I was there at the beginning
of the Community Advantage, but the whole point of the
Community Advantage Program was, don't try to figure out for
the private sector entity how to--figure out the business
model.
They have established their business model. They are
already showing you that they have a market niche for whatever
their reasons are. That is how they make their money and that
is how they serve their thing.
And in the case of mission based CDFIs, their primary focus
is often rural, veteran, minority, women, and they have all
different types of strategies.
And so, if we allow them to use the same tool, then they
will reach a customer and they will enjoy the benefit of that
tool no different than the bank or credit union that has
enjoyed exclusivity historically.
Senator Budd. Thank you for that. Mr. Shoemaker, thanks for
being here. You know, some of the rules that have been
discussed today would allow the SBA Administrator to review
reconsideration of denial requests and make a final decision
without transparency or justification.
In other words, it provides the Administrator with the sole
power to grant 7(a) loans or--regardless of the credit
creditworthiness of the loan applicant.
Mr. Shoemaker, should the SBA be required to be transparent
to both borrowers and lenders by providing written
justification when making final decisions on reconsideration of
denial requests?
Mr. Shoemaker. Certainly, transparency is a key. In regard
to whether or not the Administrator has the authority to do the
reconsideration, certainly there is always the chain of command
that gets to that level. I believe that is actually already in
place, that she has that ability to make that decision--if you
want, but go ahead--thank you----
Mr. Kelley. Yes. So, yes, for reconsiderations, we do--so,
for example, in the COVID EIDL program, all folks that were
denied and were seeking reconsideration received a written
justification for, you know--and we improved in the summer of
2021 the explanations of things that they need to do to cure--
yes----
Senator Budd. Mr. Shoemaker, and follow up if we needed,
Mr. Kelley. Should the SBA Administrator have the authority to
force a lender to provide a 7(a) loan regardless of the credit
worthiness of the borrower, or if the application may be
fraudulent or improper?
Mr. Shoemaker. Again, the Administrator does have the
authority to make the loans. I certainly wouldn't advocate for
a loan----
Senator Budd. This is about forcing a lender to provide the
7(a) loan.
Mr. Shoemaker. Sure. So, I wouldn't advocate for a loan
that has any of those poor standards to be put out in the--
expose the taxpayer to that risk.
Mr. Kelley. And speaking on behalf of the Administrator,
no, we would not want to force a lending intermediary to make a
loan that they don't want to make.
Senator Budd. Thank you. I yield back.
Senator Shaheen. Thank you. Mr. Kelley, the SBA played a
critical role during the pandemic. I think we could all agree
with that. And the benefits are still out there.
We have seen a record number of new small businesses being
formed over the last two years. But I am concerned that the
recent affiliation rules that the SBA just finalized will allow
larger companies and to your loan programs. So, can you explain
the rationale for that?
Mr. Kelley. Yes. And I encourage you, if you are able, in
the second panel, Hilda Kennedy is testifying and she is part
of a certified development corporation, serves on the board of
Nabco, which I am sure you are familiar with as a trade
association.
Granite State is obviously a huge player in the 504
program. Beginning in 2011, during the Obama Administration,
members of the National Association of Development Companies
came to us coming out of the Great Recession, this is under the
Obama Administration, and the board said that there are two
critical challenges, amongst others, in the 504 program in
terms of being able to do economic development.
The first was affiliation. The second was the personal
resource test. During the Obama Administration in 2004, we
removed the personal resource test with respect to affiliation.
We did not ultimately go forward with the affiliation change.
The reason that affiliation has historically been
complicated for lender and borrower alike is that the concept
under the Small Business Act, independently owned and operated,
was viewed as two separate prongs, so independently owned and
independently operated.
And what we have chosen to do is interpret the regulation
as a non-severable clause, comparable to cruel and unusual
punishment, because based on feedback from practitioners,
lenders and borrowers, when you ask a small business owner who
owns the business, the ownership test is key, and what we found
is that the primary driver of size in our programs is
determined by the Government contracting and business
development size standards, which set based on the industry
standard, either revenue or employee threshold.
And under that, even counting affiliates, 97 plus percent
of applicants are considered small, and that is by design. That
is how the Government contracting, and the lending programs in
particular.
In 2010, under the Obama Administration, we passed the law,
the Small Business Jobs Act, and that included an alternative
size standard which allowed for a $15.5 million tangible net
worth and $5 million income test. So, under the lending
programs, the size standard has always enabled folks to
qualify.
What was confusing was the subjectivity of the concept of
negative control on how a lender, without lawyers, could review
management agreements that were entered into by third parties.
And so, beyond the size standards, in practice, how this
happens is the biggest inhibitor to large entities getting SBA
debt is because any owner of 20 percent or more has to provide
a personal, unconditional guarantee, and for medium sized
entities or publicly traded companies, that is a do not pass
go.
And so that critical requirement, together with the fact
that a credit not available elsewhere borrower, so somebody
that is--can't find conventional credit, can seek today in the
junk bond market a 9.3 percent total cost of borrowing versus
the current rate for an SBA 7(a) or 504 all in fees plus
interest rate, is closer to 11 percent.
Senator Shaheen. I have some follow up questions on that
that I would like to get explain, but I will do those for the
record because I am almost out of time, and I have another
question that I am very concerned about. Last August, we talked
about staffing levels at district offices.
And your--I think your response to my concern was that it
was dependent on the Appropriations committee. Well, I sit on
the Appropriations committee, and I want to be clear that I
believe the committee thinks that SBA should focus on oversight
of lending.
And the SBA now appears to be able to shift resources to
add staff in order to do that. But while it is doing that, it
is also cutting district offices and small business development
centers.
So can you explain the tradeoff there and how we can make
sure that our district offices and the small business
development centers have the resources they need in order to
operate, because they are the ones who really have boots on the
ground in our States, who are working with small businesses.
Mr. Kelley. I apologize. I am the Associate Administrator
of the Office of Capital Access, and there is a lot of ground
that I cover with the loan programs, the CARES Act programs.
I am not the CFO of the SBA, and I am not the Chief of
Staff. I am not the Administrator, and I don't make the budget
determinations for the Office of Entrepreneurial Development or
the Office of Field Operations.
I also share with you that the district offices, as does
the Administrator, are a valuable resource to assisting lenders
and assisting borrowers, finding lenders, and we work through
those 68 district offices. But I don't really----
Senator Shaheen. So last year when you told me that that
was dependent on Appropriations, you didn't have the same
issues that you do this year?
Mr. Kelley. Well, it doesn't--doesn't my answer still hold?
So, what I am saying is--what I meant by that is if you--if the
appropriators disagree with the President's budget, my
understanding is that they can appropriate money and in
different buckets, in salary and expenses.
And so, all I am trying to say there is that I don't have
the ability to move money around at the agency. And I don't
have--obviously, I am not a member of, I don't have the ability
to appropriate. So that is what I meant by that.
Senator Shaheen. Well, thank you for that clarification. I
can assure you that I will be advocating that we adequately
fund district offices and small business development centers.
And I hope you will take the message back to the leadership
at the SBA that this is a priority for the members of this
committee and I believe for most of the members of Congress,
because they are the folks who actually are working at, they
are working with small businesses.
And while we appreciate the support structure that the
office gives to those offices, I don't think it ought to be a
tradeoff that that we should take the operating expenses away
from them so that work can be done in Washington. So, thank
you, Mr. Chairman.
The Chairman. Well, Senator Shaheen knows I strongly
support the point that she is making. I think this whole
committee does service in the community, and our States are the
bedrock of the link between small businesses and the services
that we can help provide.
Mr. Shoemaker, the fact that no one asked too many tough
questions of you, you should take that as a compliment. Just
want you to know that I do hope, though, that there will be a
working relationship between SBA and the IG in implementing any
expansion of supervision over lenders.
There is a concern about the resources, and I would hope
that the Inspector General would work with the SBA to make sure
there is adequate personnel to handle whatever
responsibilities, whether it is under this new rule or
legislative legislation that we pass in Congress.
So, I heard you make that offer of help during your
testimony. Just want you to know that we are going to be
requesting that you keep us informed as to your observations.
And Mr. Kelley, I have asked this question before of the
SBA, and I always get a positive answer that you always want to
work with the IG and you are willing to accept their
recommendations and try to work in a cooperative spirit and let
the record show you are shaking your head affirmatively. And
then lastly, let me just point out, that on mission lending,
the CA program has mission lenders.
Now, I have confidence in mission lenders, I do, but we
have a 60 percent requirement in there and it has worked. The
CA program has a record of exceeding twice as many loans in
minority small businesses than the CA--than the 7(a) program.
So, they are reaching these groups that we cannot specify
because of legal challenges.
So, my concern is whether the rule itself will preserve
mission lenders. And without being specific, I see the larger
loans and the larger lenders may be consuming the mission
lenders because they don't have the same type of volume and
profit that the larger lenders have.
That is my concern, that they could be consumed without
protection built into the program.
Mr. Kelley. Yes, so I think it is totally--I share and as
does the Administrator, and it is a totally legitimate concern
that we all care about producing a better set of outcomes than
historically we have.
And what I want to underscore is, as Administrator Guzman
indicated to you, we intend to preserve the 60, 40 percent
threshold in the SOP. Your bill called for 70, 30, as we have
indicated to staff in conversations that we have had--as she
did.
That might be the right threshold. There are other elements
of your bill, for example, with respect to cost that made total
sense. And we are putting into the SOP as well. So today the
loan loss reserve requirement in the Community Advantage
program is 10 percent.
We are putting 5 percent. And I do want to clarify
something. There was a lot of comment, public comments in the
rulemaking about requiring capital requirements for CA SBLCs
and requiring fidelity insurance for SBLCs. That was part of
the 100 comments that you are talking about. That was not in
the proposed rule.
We did reflect in the final rule the authority for the
Administrator, that the person that holds my office or a
designee, the right to set those thresholds, as we do in the
for profit SBLCs.
And the reason that we created a separate class was to
build off of the 13-year pilot where we provided a temporary
license, which part of what we waived was the moratorium in
that program.
And those lenders can't afford, quite frankly, the
liquidity to meet the $5 million threshold that the for profit
SBLCs are require for capital, as you know, and the fidelity
insurance, which is $2 million and then goes up from there.
The Chairman. So, lastly, let me mention the affiliation
rule and my concern.
Mr. Kelley. Sure.
The Chairman. And that is, with the determination of
affiliation now being primarily made by the borrower and the
lender, rather than the SBA, my concern is that you are liable
to see large entities through the use of affiliations that they
really control.
They may not have the ownership technically because they
can do that through a lot of different mechanisms and policing
financial mechanisms with the right to foreclose.
My concern is that are we now going to be seeing more of
the resources at SBA going to the larger small businesses
rather than the smaller or small businesses, and maybe to
businesses that are well beyond the size limitations through
the use of affiliation?
It is an issue that has me greatly concerned because I know
that you always had the ability to audit, but I don't see, as
we have seen before, it is not easy to catch this after the
sources are out.
Mr. Kelley. So, totally, totally agree. Historically,
eligibility has been a borrower certification on the form 1919.
There is a question regarding affiliate--affiliation, for
example.
There are subsequent questions to that. And then the lender
was required in all but the franchise area to be responsible
for determining whether eligibility had been met. And as is
indicated, there have been instances over however many years
there have been audit reports that there have been lenders who
have approved ineligible loans.
And those ineligible loans are, if they default, if they
default in less than 18 months, they are referred to the
Inspector General. If they default beyond that, right, we have
the ability to repair the guarantee, lower the guarantee, or
outright deny it based on the error.
The only instance where eligibility was determined prior
to--from 2018 to 2023, a franchise business model could
prevent--could present the franchise or agreement, and an
attorney at the SBA would review that franchise or agreement
for two reasons, affiliation and ineligible business model.
There are 212 instances from 2018 to 2023 where the
businesses, the franchisee was disallowed based on ineligible
business model.
So, what we are putting in place, and this is what I opened
with, and I apologize for starting with CARES Act, but what we
were able to do beginning in Biden-Harris was put in 19
automated screening filters, which involves NAICS codes,
affiliation, business address, those type of----
The Chairman. But here is the change. The changes--you have
changed the standards on affiliation as well as not having a
register.
And when you change the ownership and control issues, it
makes it easier for a large company through very sophisticated
agreement to control a franchise but still be able to claim
that they are independent for the SBA loan.
That is my concern, and I don't think you are going to be
able to pick it up under the way you are doing. Let me
recognize Senator Ernst for any comments she wants to make, or
questions.
Senator Ernst. Yes. Thank you, Mr. Chair. And I do agree we
have seen troubles with the affiliation rules in the last
couple of years, so I would rather not revisit that.
As we move forward, we need to make sure we are getting it
right. So, yes, I don't want you to leave Mr. Shoemaker, or
Shoemaker, without feeling you have gotten a fair shot at
discussion today.
So just very briefly, I am still having a little bit of
trouble wrapping my mind around the $3 million investment for
recovering the $71 billion in EIDL.
Mr. Kelley. To only collect $3 million, to lose $3 million.
That is what we are explaining----
Senator Ernst. But there is $71 billion hanging out there
of EIDL.
Mr. Kelley. The $71 billion is the amount of outstanding
debt yet to be repaid in the COVID EIDL program. It hasn't
defaulted yet. And then in order to get to Treasury offset, we
have to--we have offered in compromise as far part of the
repayment period where we can create partial payment plans to
offset the loss to the taxpayer.
So, it is--we can estimate that every single COVID EIDL
loan outstanding under $100,000 is going to default. But we
have subsidy models where we forecasted, beginning under the
Trump Administration, what the likelihood of default was, and
it is based on historic norms.
And so, in the disaster loan program, we normally see 21
percent or higher. In the case of 9/11, it was upward--it was
north of 30 percent, with respect to nationwide for default.
Senator Ernst. Okay. So, you--and you are saying here today
you will not be seeking loan forgiveness as SBA for EIDL loans
under $100,000.
Mr. Kelley. There is no loan forgiveness allowed in the
COVID EIDL program.
Senator Ernst. Nor in the PPP?
Mr. Kelley. Correct. In PPP, the loan was by design, by
statute, it was a forgivable loan. In the COVID EIDL loan
program, there was never an option for forgiveness. So, what I
am saying is every single borrower has to repay both the PPP
loan or seek forgiveness. That is another option they have in
PPP.
In COVID EIDL, they only have the option to repay. If they
do not repay, right, normally, in the normal disaster loan and
in our core programs, we would have personal guarantees, we
would have collateral, we would have all these other additional
guardrails for collection, which is why we run a negative
subsidy, which means we make money for the taxpayer.
In this program, we don't have that. And then when you look
at the wage garnishment results, so we can look at the Treasury
money that has come back to us over the years for loans where
we actually underwrote the loan, right, in the beginning and
had these guardrails, and we see we only collected $65,000.
That is why we are making the decision. We are not making
the decision to forego offset because we don't want to
collect--we would collect--there is no reason why we don't want
to collect the money.
We were looking at the cost, benefit and saying, why should
we lose $3 million more dollars of taxpayer money?
Mr. Shoemaker. If I may----
Senator Ernst. Yes. And I was going to redirect to you. We
got into a conversation there, so. Yes, Mr. Shoemaker.
Mr. Shoemaker [continuing]. Senator Cardin, we do have a
healthy relationship inside of SBA between SBA and OIG, which
means that there are areas of disagreement, and this is one. To
that extent, we disagree that there was a comprehensive cost
benefit analysis performed relative to the PPP.
We have ongoing work in EIDL. And as you appropriately
indicated, the area of risk is $71 billion. That area was
actually $76.9 billion. My colleague just indicated, you know,
that this is just a potential risk. The loans are performing.
Right now, we are seeing more than $60 billion that are
past due of that $76.9 billion. And we have seen close to $30
billion that have already defaulted. What that means is that
that collections will not go forward through the Treasury
offset program.
Collections, you know, can always happen. SBA--and Patrick
is absolutely right. You know, first of all, the borrowers
should repay. And you know that is first and foremost. And
there are other avenues and mechanisms to ensure that they
don't gain access to other benefits.
There is reporting as an indication and there is lots of
different vectors that get into do not pay. One of them is the
Treasury offset program. But what is important about the
Treasury offset program, you know, unlike the conversation here
is, Treasury offset is a means of collection.
That is how you get the money back that has defaulted. You
know, there are--the cost benefit analysis could show other
models outside of the Treasury offset program. But our
contention is that we believe that a comprehensive cost benefit
analysis needs to be performed.
There is an open recommendation on the PPP program. I
expect it will probably be revisiting the same conversation
when we issue the EIDL report.
Senator Ernst. And I do understand, Mr. Shoemaker, that
there is an IG report that is coming out very soon on EIDL
collections. Is that correct?
Mr. Shoemaker. That is correct.
Senator Ernst. Okay. So, all of that will be spelled out, I
assume, in that report.
But I think this dialog today is just all the more reason
that with these rules, we need to make sure that things are
right. Because if we are seeing fraud in a hastily put together
program such as EIDL during COVID, you know, we certainly can
expect to see that through fintechs as well and some of the
other methods that are coming out through the rules.
We need to protect the taxpayers against fraud. We want to
make sure that the dollars are going to those small business
entities that are truly deserving and need those resources.
Mr. Shoemaker. Right. The answer on the fintechs is, it
requires--the lenders require strong oversight and monitoring
by the SBA. The SBA is the supervised lender. PPP is completely
different that than 7(a) program.
You know, there is the 100 percent guarantee. You are
dealing with self-certification. But one of the things that
happened, you know, in the use of fintechs as financial
technology companies is not--you know, it is a little bit of a
misnomer in this idea of fintechs as just--as a lender.
The regulated entity, the supervised entity by, you know,
of SBA basically had contractual agreements that exported some
of these lending responsibilities, the loans--you know, lending
service provider. The lending service providers are under the
oversight of the regulated entity. That regulated entity is
under the purview of SBA.
So strong oversight and monitoring within the lending
community is key to this notion of financial technology
companies, you know, being part of the program. Financial
technology has been a part of, you know, the banking industry
for a long time.
You know, anytime that anybody logs on and does mobile
banking, it is probably not the bank that is promulgating that
technology. It is probably a contractual relationship.
However, you know, in this model where we are talking
about, you know, a relationship where an eligibility decision
or know your customer, bank secrecy regulations, I mean, even
questions about bank secrecy regulations on whether, you know,
some of the loan companies may be even covered by it, I think
that needs to be explicit in that regard.
Because the know your customer was what was on the front
end of that financial technology. This is where you see, you
know, a fraudster hitting 35, 40, hundreds of, you know, loan
portals to, you know, steal from the taxpayer.
Mr. Kelley. Yes, I totally agree. And if you look at--so
first, I worked for a bank prior----
The Chairman. We are going to need to wrap up.
Mr. Kelley. Okay.
Senator Ernst. Yes. I apologize. Thank you.
The Chairman. No, sorry. We have two witnesses that have
been extremely patient, and this is not the end of our
discussion.
I really do appreciate both of your testimony today has
been extremely helpful, and I mean that. As I said in the
beginning, I want to work in a constructive environment. I
still feel the best ways for Congress to speak to policy.
And we have been somewhat missing in action on this issue,
so I hope that we will have a chance to express ourselves and
we can get something that we are all in agreement with
Democrats, Republicans, House, Senate, and the White House.
That will give you greater guidance.
And I know the frustration of some of the members and
regards to targeted groups. It frustrates me as well, but we
have to work within the legal confines to try to achieve these
objectives. With that, let me thank both of our witnesses and
we will call up the second panel who has been very, very
patient.
By the way, there is a vote going on. I have already cast
my vote. Senator Ernst has not had a chance to cast that vote
yet. So, every once in a while, we have to balance also the
votes on the floor of the Senate. Let me welcome our two
witnesses.
First, Mrs. Hilda Kennedy. She is the Founder, President of
Impact Business Capital, which is a nonprofit certified lender
of SBA that participates in the SBA Community Advantage pilot
program.
Prior to founding AmPac Capital, Mrs. Kennedy worked in
local Government in California. She has also served on the
White House and SBA Council on Underserved Communities, and
currently serves as the President elect for the National
Association of Women Business Owners California.
Ms. Kennedy received her degree from the University of
California at Berkeley, completed a postgraduate fellowship
with the Corow Foundation, and completed a master's coursework
at the University of San Francisco.
Our second witness is Mr. Chris Pilkerton, serves as the
Chief Legal Officer for Accion Opportunity Fund, which is the
nation's largest CDFI concentrating on small business support
for underserved communities.
Prior to his current role, he served as Senior Policy
Advisor at the White House, and Executive Director of the White
House Opportunity Now Initiative, as well as Acting
Administrator and General Counsel of the SBA during the Trump
Administration.
He holds a BA from Fairfield University, an MBA from
Columbia University, a J.D. from Catholic University School of
Law. We will start with Ms. Kennedy.
By the way, your statements all will be made part of the
record, without objection. You may proceed as you wish.
STATEMENT OF HILDA KENNEDY, FOUNDER/PRESIDENT, AMPAC BUSINESS
CAPITAL, ONTARIO, CALIFORNIA
Ms. Kennedy. Thank you very much. Chairman Cardin and
Ranking Member Ernst in her absence right now, distinguished
members of the committee in their absence, good afternoon and
thank you for having us today.
As President and Founder of AmPac Tri-State CDC in Ontario,
California, as stated, we are an economic development and
mission driven lender, and we participate in the SBA 504
Community Advantage and microloan programs, as well as a CDFI.
In fact, as a 504 lender, we have done a little over $1
billion in SBA 504 lending in the past 16 years, and we have on
balance sheet a little over $9.8 million in loans through our
community impact loan programs from $5,000 to $350,000.
And so, we care deeply about expanding access to SBA
lending programs, and my faith is at the root of that. Knowing
that with God all things are possible, we approach our work
from an it is possible mentality, creating possibilities for
the communities who need it most through entrepreneurship,
small business formation, job creation, and building
generational wealth.
And that is why I believe so strongly that Congress and SBA
must address the inequities for underserved businesses and must
work in concert and complement each other, and that is my most
urgent message today. Looking at the tenets outlined in the
small business that it states, and I quote, ``that the
opportunity for full participation in our free enterprise is
essential if we are to obtain social and economic equality and
improve the functioning of our national economy.''
So on this 70th anniversary of the Small Business Act of
1953, I believe the Community Advantage Loan Program Permanency
Act of 2022, helmed by you Chairman Cardin, and its companion
House bill, championed by my Congresswoman Judy Chu, and the
SBA's expected May 12th launch of the final rule with the
Community Advantage Small Business Lending License, and the
other SBLC licenses, are parallel efforts that can provide the
traction to finally hit the stride we have been seeking to
elevate our nation.
Chairman Cardin and Representative Chu have been seeking to
diligently codify the CA program, and I thank you for your
dedication to these communities that are often overlooked.
Equally, I think Ranking Member Ernst, whose leadership and
commitment to increasing access for rural small businesses,
with the mission of the CA program.
Just an example of one of our CA borrowers, Dr. Zuniga and
Dr. Espinosa, they were five-year doctors. They had been
practicing under a physician, and they wanted to buy their
building, or they wanted to do a small business loan to start
their practice, but they couldn't with their bank that they
thought they had a relationship with.
So, they came to us. They were turned down because they a
startup. They had a lot of student loans, and they had recently
purchased their home. But because of our work as a Community
Advantage lender, we were able to give them a loan because of
the transformational work of the community advantage reforms
that happened back in March.
And that really made a difference and I believe was the
first and necessary step for the rulemaking process in
considering this CA, SBLC, and other SBLC licenses. You will
have more details in my written remarks, but I want to close by
highlighting my recommendations in my remarks.
First, I believe we need to shift the narrative from
either, or to welcoming all efforts to improve access to SBA's
lending programs for underserved communities, which was
intended in the Small Business Act.
Second, Congress should pass your bill, Chairman Cardin,
and the House bill to make Community Advantage a permanent
offering of SBA. Third, Congress should capitalize on
challenges faced by mission-based lenders in accessing capital
to provide to underserved communities.
And finally, SBA should apply provisions from Chairman
Cardin's bill in areas where the SBA, SBLC, and SBLC rules lack
clarity, such as target market cap, capital requirements, loan
loss, reserve requirements. Lenders need a bright line and
metrics so that we can collectively know what success looks
like.
AmPac and the mission lending community will continue
helping businesses access capital through the SBA's lending
programs, and we look forward to working with the committee and
SBA to create more opportunities for underserved businesses.
Thank you.
[The prepared statement of Ms. Kennedy follows:]
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The Chairman. Thank you very much for your testimony. Mr.
Pilkerton.
STATEMENT OF CHRIS PILKERTON, CHIEF LEGAL OFFICER, ACCION
OPPORTUNITY FUND, TILGHMAN, MARYLAND
Mr. Pilkerton. Thank you, Chairman Cardin, and thank you,
the Ranking Member, Ernst, for holding this committee meeting
today.
I am honored to be with Ms. Kennedy and to receive the
invitation to this hearing, because I believe the thoughtful
support for small businesses must be a bipartisan priority.
Over the last several years, I have spent my career focusing on
issues related to the small business community, with a
particular focus on underserved populations.
I served as the GC at the U.S. Small Business
Administration under Linda McMahon, serving from 2017 to 2020,
as well as the Acting Administrator of the agency from April
2019 into early 2020.
During my tenure as Acting Administrator, I was
particularly proud of our efforts to lead workforce development
programs, for far too often, marginalized citizens, such as
those returning from incarceration, young adults aging out of
foster care, as well as workforce opportunities for disabled
individuals.
In March of 2020, I was asked to join the White House to
lead a program called the Opportunity Now Initiative, which
included significant outreach to underserved communities on the
topics of access to capital and technical assistance through
State and local officials, as well as webinars with minority
focused trades such as the National Minority Supplier Diversity
Council.
Since leaving Government, I have continued this work in
various capacities. First and foremost, I serve as the Chief
Legal Officer for Accion Opportunity Fund, the leading
nonprofit community development financial institution focused
on small business lending to communities of color, low income--
low to moderate income borrowers all across the country, and
women.
I have also co-founded and developed an initiative called
the Small Business Corps, a private sector led program to
provide underserved small businesses with specific, goal
focused technical support provided by fellows who are recent
college and business school graduates.
That program is housed at the Georgetown University
McDonough School of Business and includes DMV engagement from
schools such as Georgetown, Johns Hopkins, Old Dominion, as
well as HBCUs, Howard, Morgan State and Norfolk State.
I have also worked closely with the performing artist Ice
Cube and his work to identify and secure opportunities for
black owned businesses in the corporate supply chain.
Our most recent success was a commitment from the National
Football League to provide $150 million in contract
opportunities to several black owned businesses, including
Fearless, a technology company located in Baltimore, Maryland,
that has gone on to incubate other minority and women owned
companies in that city.
We all agree that increased access to capital for
underserved communities is important, but like anything, there
is the goal and the execution of the plan to achieve that goal.
I will begin by addressing the rule regarding the lifting of
the SBLC moratorium and the creation of the new mission based
SBLC category.
While I understand the intention of the rule, it does not
speak to the critical need to establish a consistent approach
to responsible under review, but rather highlights that the
agency needs flexibility in its lender evaluation to address
unforeseen circumstances.
While I appreciate the need to be flexible on certain
components of such a program, underserved borrowers need that
certainty of publicly articulated standards to ensure they are
dealing with responsible and vetted lenders.
As SBA Inspector General Hannibal said, for whom I have
tremendous respect, in a House hearing last week in response to
this issue, he said he has concerns with the inclusion of any
lender that doesn't have clear rules, an internal control
structure, and a proper oversight mechanism.
In short, appropriate inspection and oversight on the front
end can limit investigations, enforcement proceedings, and harm
to borrowers on the back end.
As such, I recommend that in consultation with Congress,
the implementation of this rule will be delayed until there has
been an independent study, a business plan, if you will, about
the necessary guidelines and procedures that should be in place
in order to secure a safe and responsible lending environment
for those businesses and provide clear and consistent rules for
those participating lenders that may, in fact, be new to the
SBA landscape.
When it comes to lending to underserved communities, we
have frameworks to examine, such as the Treasury's CDFI pending
certification program rules that are already in place and would
serve as valuable data points for consideration.
All this as set forth in the Responsible Business Lending
Coalition letter for comment on this rule. I also have concerns
with the bandwidth of the agency to oversee the influx of
program participants contemplated in this rule.
The SBA career staff are some of the most dedicated public
servants I have ever worked with, but with limited resources,
they may very well be stretched beyond their capacity. The
agency needs to ensure that the staff has the resources they
need to implement a program that can sensibly be regulated in a
consistent fashion.
I believe a thoughtful, independent analysis could
calculate the required resources and provide necessary
confidence to the marketplace. As to the rule on affiliation,
Senator Cardin, I share your concern. I think it is important
that this body consider the potential unintended consequences
of removing this standard from SBA's analysis.
The reason the rules are in place is to ensure that
taxpayer guarantees are truly going to the statutorily
mandated, independently owned and operated small businesses
that need this unique Government program, and that it is not a
subsidy program for larger corporations who already have a
competitive advantage.
The combination of these changes to the program as
currently written, coupled with the trusted imprimatur of SBA,
could undoubtedly result in a significant flow of capital.
But I believe a thoughtful, independent study around these
programs would help ensure the integrity of the admitted
lenders, maximize the flow of responsible loans to small
businesses, and minimize the potential for fraud.
The results of such an analysis could ensure that Congress,
the agency, and the American taxpayer have clarity on how the
scope of this program can truly support our country's
underserved communities in a way that is both responsive and
responsible. Thank you very much.
[The prepared statement of Mr. Pilkerton follows:]
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The Chairman. Well, let me thank both of you. Mr.
Pilkerton, good staff work. You mentioned Fearless. That was
a--you got my attention early in your testimony.
To both of you, your testimonies are extremely helpful. And
I thank you for your patience because I think your
contributions are so valuable.
Ms. Kennedy, I want to agree with you. Look, the Biden
Administration extended the CA program and gave it greater
life. So, we are very appreciative of what they have done. This
rule has the benefit of finding a home for the CA program,
which is something that I think is important.
That is why I have introduced legislation that I did. So, I
think we are all in the same path here. It is not either or, it
is how we get it done right.
So, I appreciate the way that you said that. And Mr.
Pilkerton, flexibility versus certainty. You are absolutely
right. I can tell you certainty is critically important. If you
are going to be in this business, you need to know what the
rules are.
You can't say, well, we want this to go right, and we will
look at your individual case by case and determine whether we
think it meets that standard. That is not the way you can get
partners that are your partners. You are not going to enter
that field.
So, I agree with the points that both of you have reached.
But here is my point. I am trying to make this as distinct as
possible. This rule is going into effect and most likely will
remain in effect.
I think we have a responsibility to do exactly what the two
of you have said, and that is by legislation. And we are going
to work very hard to get legislation done.
So, to Mrs. Kennedy, how do we--what additions would you
like to see Congress impose to make sure that we are focusing
on those who need, the underserved--focusing on the smaller of
the small businesses?
What changes would you like to see Congress entertain in
order to make that possible? I appreciate your support of my
legislation. I think we should make the CA program permanent.
It is not inconsistent with the rule.
So, I think we can do that--we can consider that, but what
else should we be doing to make sure that we are focused on the
goal of helping those who really need the help?
Ms. Kennedy. Thank you, Senator--Chairman Cardin. I think
that you--it is also in the legislation, really codifying
standards.
You know, lenders do need a bright line test. We do need to
document how do we know we have been successful. So, the
elements of loan loss reserve, the elements of the cash
required, and then the definition of underserved, especially
the definition of underserved.
The fact is Community Advantage today does have a
threshold--60 percent of your loan portfolio has to go to
underserved communities. And I just believe if you aim at
nothing, you will hit it every time.
So, if you don't have guidelines, you are going to hit
that. But if you do have guidelines, you are going to hit that.
And that is what CA does today, and that is what has to happen
going forward.
So, codifying that legislatively is the right way to move
that forward because discretion is discretion. And so, in the
next Administration, that discretion may look different, but if
we have the legislation to back that up, I think it is hugely
significant and I appreciate the direction and your commitment
to that.
The Chairman. Thank you. Mr. Pilkerton, let me ask you a
question of what would you recommend as we should take up for
certainty?
I mean, you mentioned the concern about knowing the rules.
What rules are important for Congress to weigh in, to make
clear that is not in the proposed rule? And then the second
question I would ask deals with the affiliation rules.
There are some good things in the affiliation rule, trying
to make it streamlined just a little bit. What do you think--
what protections do we need to add to make it clear that we
don't want the big corporations being able to come in under
this revised rule?
Mr. Pilkerton. So, I will start with what the agency I
think should be looking at, as far as making loans in
underserved communities. I think that this rule as written is
going to have a lot of capital that goes into the system. And I
think everybody touched on this.
My biggest concern about these rules is OCRM, right, the
Office of Credit Risk Management. They are the cop on the beat.
You saw the Inspector General here today. They are the cop
after the fact.
So, giving OCRM what they need is really, really critical.
And I think that is where an independent study could be
incredibly helpful. Let's think about what just happened to the
agency.
For the last two years, the SBA became the tip of the spear
on almost $1 trillion program. You have 2,000 people or so that
work there. Many of them worked there for decades, and they
were ready to retire in 2019, into 2020. They didn't. They
didn't because they wanted to actually make it through PPP,
help their colleagues, and help the American people. But they
have retired.
And so, you have got a lot of institutional knowledge,
decades, I mean, probably hundreds and hundreds of years of SBA
experience that has left because they have, you know, obviously
had the right to and it has been good for them to retire. I
really think OCRM should be a huge focus of this committee, in
part too, because the rule doesn't address a lot of these rules
that were put in place.
I had the opportunity to listen to the earlier testimony. I
learned stuff about what is going to be happening in these
programs. And without putting that information into the notice
and comment period, the public doesn't have the opportunity to
opine on that.
So, I think that is going to be a critical piece for the
agency and for this committee. The second thing I will say
about affiliation. I want to give you an example of something
that we did in 2018. It was called the Franchise Directory, and
Mr. Kelley made reference to it.
Basically, what was happening was these borrowers were
doing these eligibility reviews and you were getting
inconsistent analysis. The people in my office when I was in
the Office of General Counsel ended up putting together a list
that got, I believe it was over 4,000 different franchises.
We reviewed all of those agreements, and if the agreements
didn't meet the standard that franchises were separate from the
franchisors, then they would actually sign an addendum to the
agreement to ensure that they were eligible. The thing about
franchises is there a huge opportunity for underserved
communities.
A number of folks that actually work in a franchise, a
really high percentage of those will go on to own a franchise.
And the reason it was good policy was because if I wanted to
open up a restaurant, for example, as a borrower, I could see
there is that sandwich shop I want to open up and I could go
into an SBA lender and say, look, it is on the franchise
directory, so you have to make me that loan, assuming I meet
all the other requirements.
And that lender had the certainty of knowing that if I
defaulted on that loan, they would get the SBA guarantee. So, I
think it is really important. And the way the rules written
now, I am very concerned that there is a bit of a slippery
slope, particularly in that space.
The Chairman. Thank you. Senator Ernst.
Senator Ernst. Yes, thank you. This has been just a great
discussion this afternoon. And I thank you both for being here
and sharing your thoughts with us. Mr. Pilkerton, you have
already answered a number of my questions.
Senator Cardin had asked a number of those as well. So, I
will move on to you, Ms. Kennedy. As part of the SBA's defense
of the affiliation rule, part of that defense has been the 504
lenders welcome the underwriting and affiliation changes.
It is important for all of us to differentiate between what
is a 504 and what is a 7(a) loan program. The 504 loan program
is an economic development program with job creation goals, and
nearly every 504 loan receives approval from SBA before those
funds are disbursed.
So, this rule will create a more of a one size fits all
approach to underwriting all of those SBA 7(a) loans and 504
loans. So, can you walk us through the 504 underwriting
process, and why these changes might be acceptable for 504 but
not for 7(a)?
Ms. Kennedy. Thank you, Ranking Member Ernst. I want to
thank you for this question because it is a really important
question and a really critical distinction between the 504
program and the 7(a) program, the 7(a) being more of a general
purpose loan program--the 7(a) program, and the 504 being
targeted for job creation and economic development through
ownership of commercial real estate and equipment.
And that is significantly a difference with the 504
program, in that we are required statutorily to be an economic
development and job creation program. And there are five
components.
There are several other differences between the programs,
but I am going to focus on your question related to
underwriting. There are five components of the underwriting
program for 504 in this public private, partnership.
So, there is a first trust deed lender, and then there is
the SBA second. That is where the CDC, or certified development
company--both lenders, underwrite the loans. So, the first
trusted lender underwrites their portion of the loan.
Typically, up to 50 percent of the loan amount, could be
more. And it has to go through their underwriting, and
underwriting policies according to their regulations. The SBA
504 portion by the CDC is underwritten by the CDC, and then it
goes to an independent loan committee of the CDC that must have
at least two commercially licensed bankers on that committee.
And then that loan is sent to the SBA to review for
eligibility and credit matters. So you can see it has several
different steps in the underwriting process to ensure that it
meets all of the eligibility requirements of the program, and
so addressing those matters associated with the affiliation,
there is no compromise of the loan in terms of eligibility and
credit, and in terms of meeting the SBA size standards so that
we are really targeting those businesses that are small under
the SBA size standards.
Senator Ernst. Yes. Thank you very much. And, Mr. Chair, I
will go ahead and yield back the rest of my time. Thank you.
The Chairman. Once again, let me thank both of you. We are
going to be reaching out to you as we are working together.
There is going to be a process in regards to this rule, and I
think both of you can be extremely helpful to us.
So, I hope that we can have communications beyond this
hearing as we try to deal with this, because I think we all
have the same objectives. We are all trying to achieve the same
thing.
I think Senator Ernst and I want to see more certainty. We
want to see more direction. We think it is our responsibility.
We are disappointed that the rule didn't provide that.
And we understand the Administration will correct some of
that on the SOPs, but it would be better, the more definitive
legislations. The best second best is by regulation. So, we are
going to try to correct that as we go forward.
We will keep the record of the committee open for seven
days for additional questions that may be asked by members of
the committee.
I expect that that will be more directed towards the first
two witnesses and the second two witnesses, but we would ask
that they be promptly responded to that.
And if there is no further business, the committee will
stand adjourned, with thanks.
Senator Ernst. Thank you very much.
[Whereupon, at 5:30 p.m., the hearing was adjourned.]
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