[Federal Register Volume 61, Number 21 (Wednesday, January 31, 1996)]
[Rules and Regulations]
[Pages 3226-3266]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 96-1432]



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SMALL BUSINESS ADMINISTRATION
13 CFR Parts 108, 116, 120, 122, 131


Business Loan Programs

Agency: Small Business Administration (SBA).

Action: Final rule.

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Summary: SBA has completed an extensive review of all of its 
regulations, and it has decided to eliminate some regulations and 
consolidate, clarify, and simplify the remainder. This final rule 
consolidates five current CFR parts into one Part to be known as Part 
120. This surviving Part 120 covers virtually all policies and 
regulations, other than size standards, applicable to SBA's business 
(non-disaster) loan programs. Almost all provisions have been reworded, 
renumbered, and relocated. There are a few new or revised policies. 
Several sections have been deleted. However, most of the revisions 
merely streamline and clarify the regulations and do not represent 
substantive change.

DATES: This rule is effective March 1, 1996. This rule applies with 
respect to all applications for financial assistance filed on or after 
March 1, 1996.


[[Page 3227]]

FOR FURTHER INFORMATION CONTACT: John R. Cox, (202) 205-6490.

SUPPLEMENTARY INFORMATION: On December 15, 1995, SBA published in the 
Federal Register (60 FR 64356) a notice of proposed rulemaking with 
respect to the consolidation of five current CFR parts into one Part to 
be known as Part 120. SBA received and considered 136 timely comments 
in response to the proposed rule. SBA has adopted many of the comments 
in issuing this final rule. Each of the significant comments is 
addressed below. In addition, SBA has made technical changes and 
clarifications in this final rule, where appropriate.
    This final rule combines Parts 108, 116, 120, 122 and 131 of 13 CFR 
into one new Part to be known as Part 120. This new Part 120 will 
regulate all of SBA's non-disaster financial assistance to small 
businesses under its general business loan program (``7(a) loans''), 
its microloan demonstration program (``Microloans''), and its 
development company program (``504 loans'').
    Many repetitive and overlapping sections from the current 
regulations are eliminated in this final rule. Formerly, provisions 
applicable to a business loan program were often located in different 
Parts. Sometimes unintended differences developed between the loan 
programs in the interpretation or implementation of similar program 
policies because of minor inconsistencies in the language of the 
provisions in the several Parts. These inconsistencies have been 
eliminated.
    In this final rule, the basic requirements that apply to all of the 
business loan programs are located in subpart A. These include elements 
currently found in portions of Parts 108, 116 and 120. Policies 
specific to a particular program are in the separate subpart applying 
to that program. Rules specific to 7(a) loans are in subpart B and 
include elements currently in portions of Parts 116, 120, and 122. 
Regulations applying to SBA's special purpose loans currently in Part 
122 and a portion of Part 116 are in Subpart C. Subparts D, E, and F 
contain rules regarding lenders, program administration, and the 
secondary market currently found in Part 120. The loan moratorium 
provisions presently in Part 131 are located in subpart E. Subpart G 
contains rules specific to Microloans currently in Part 122. 
Regulations applying to 504 loans currently located in Part 108 are in 
subpart H.

Definitions

    Many comments were received which addressed the definition of 
Associate in Sec. 120.10. Most commenters expressed the opinion that 
the definition was too broad and, if promulgated, would adversely 
affect the ability of small businesses to use SBA's lending programs. 
Of particular concern was the inclusion of a ``Close Relative'' of a 
principal of an entity in the definition of Associate of a small 
business, Lender or CDC. As a result of the comments, SBA re-examined 
this definition and modified it. An Associate of a Lender or CDC will 
include a holder of 20 percent or more of the value of a Lender's or 
CDC's stock or debt instruments, as well as an entity in which the 
Close Relative of an Officer, Director, key employee, or holder of at 
least a 20 percent interest in the Lender or CDC. The definition of an 
Associate of a small business was amended to include an owner of more 
than 20 percent of the equity of the small business, but not an entity 
in which a Close Relative of such an owner is also an owner.

Subpart A

    Numerous commenters indicated that Sec. 120.101, pertaining to the 
unavailability of credit, needed clarification with respect to the 
substantiation required to support a Lender's or CDC's certification. 
SBA is promulgating this section as proposed because it plans to 
provide information on how to provide the required substantiation in 
its Standard Operating Procedures (SOPs).
    Proposed Sec. 120.102, which imposed a requirement that the 
personal resources of the owners of an applicant for a business loan be 
injected into the applicant generated more than 80 comments from the 
public. The overwhelming majority of the responses objected to the 
application of a personal resources test to the 504 program because 
that program is an economic development program. After considering the 
responses received, SBA has revised the final rule to require an 
injection of personal resources at a level dependent on the amount of a 
total financing package which includes an SBA business loan. This means 
that the injection of personal resources will bear a designated 
correlation to the total financing package of SBA and non-SBA 
assistance. This regulation will ensure that applicants for SBA 
financial assistance will be able to ascertain the demand on their 
personal resources, with some certainty, before they seek SBA financial 
assistance.
    Section 120.110 lists types of businesses which are not eligible 
for SBA financial assistance. Several commenters suggested SBA further 
explain when a business is engaged in a religious activity for purposes 
of ineligibility under Sec. 120.110(k), and to eliminate the proposed 
requirement that a business be principally engaged in the activity. SBA 
has decided to retain the prohibition on providing assistance to a 
business principally engaged in a religious activity. SBA believes that 
this standard comports with Constitutional requirements. SBA intends to 
administer the standard in a manner which balances the needs of small 
businesses with applicable legal requirements. However, given the 
uncertainty of the state of legal precedent relative to the 
Establishment Clause, SBA will continue to review this issue, and may 
make such prospective changes in the regulation as may be required.
    In addition, for purposes of consistency SBA will use a standard of 
no more than one-third of gross annual revenue derived from the 
prescribed activity to determine the eligibility of businesses engaged 
in legal gambling activities or packaging SBA loans for purposes of 
Secs. 120.110 (g) and (m).
    Proposed Sec. 120.111 would permit an Eligible Passive Company to 
be eligible for 7(a) and 504 loan assistance if it leases real or 
personal property to an otherwise eligible small business. SBA received 
many comments suggesting that it permit a revocable or irrevocable 
trust to be such an entity. SBA has decided to delete the requirement 
that when a trust is an Eligible Passive Company it must be an 
irrevocable trust in favor of one permitting eligibility for revocable 
trusts in prescribed circumstances. In order to be eligible, the 
trustor must warrant and certify that the trust will not be revoked or 
substantially amended without SBA's consent, and the trustor's personal 
guarantee will be required to provide adequate assurances of continuity 
and financial support. SBA will monitor its experience with revocable 
trusts and make modification to this provision if such experience 
warrants it.
    Under current rules, an Eligible Passive Company may not use the 
proceeds of a business loan for working capital. Only an active company 
may obtain working capital as part of a business loan. SBA recognizes 
that this requirement has been burdensome and has caused some 
applicants to obtain two separate loans for the benefit of the same 
Operating Company. Accordingly, Sec. 120.120(b) will allow an Eligible 
Passive Company to use part of business loan funds for the working 
capital of the Operating Company if the Operating Company is a co-
Borrower.
    With respect to proposed Sec. 120.195, which required the reporting 
of fees 

[[Page 3228]]
paid in connection with obtaining business loan assistance by a Lender, 
CDC, Intermediary Lender, and Borrower, SBA has decided to retain only 
a requirement relating to the Borrower since other regulations cover 
the obligation by the other parties to report fees. By eliminating a 
reference to other parties, SBA avoids unnecessary duplication.

Subpart B

    Proposed Sec. 120.200 specified that bonding is required as 
collateral for a 7(a) loan in which construction is financed. Two 
commenters recommended that a minimum amount of construction should be 
designated in Sec. 120.200 before payment and performance bonds and 
builder's risk insurance would be required. Another commenter expressed 
concern that the proposed regulation would require formal waivers of 
bonding and insurance requirements on a case-by-case basis. Another 
comment noted that the revised provision does not appear to cover 
direct loans approved by SBA. SBA has made minor changes in the 
language of the provision to clarify that the provision covers direct 
and guaranteed loans. SBA has decided not to establish a specific size 
limit on the construction project which would trigger the bonding and 
insurance requirements, electing instead to address the specific 
construction project size in an SOP.
    One commenter suggested that the proposed revised language in 
Sec. 120.201 was so restrictive as to disqualify any refinancing of 
unsecured or undersecured debt regardless of circumstances. That was 
not the intent of the proposal. However, the final regulation specifies 
that SBA will not permit 7(a) financing to be used to shift a 
creditor's potential loss to SBA.
    SBA has decided to delete proposed Sec. 120.203 relating to 
revolving credit, as unnecessary. Revolving line of credit financing is 
currently authorized under Sec. 120.390 for the CapLines program, and 
the Agency wants the flexibility to consider special finance needs of 
small business, such as ``floor plan'' financing, at a later date.
    With respect to proposed Sec. 120.213, SBA carefully considered 
suggestions to add language to the regulation pertaining to preemptive 
federal interest rates and the quarterly publication by SBA of maximum 
allowable fixed interest rates in the Federal Register. SBA has decided 
that it is unnecessary to address in the regulations the legal 
conclusion that maximum interest rates prescribed by SBA are exempt by 
statute from any maximum rates established under state law. It is SBA's 
intent to publish on a quarterly basis in the Federal Register notice 
of the maximum fixed interest rate permitted on guaranteed and direct 
loans. The final rule retains the language in the proposed rule.
    Proposed Sec. 120.214(f) has been rewritten in order to clarify 
that SBA has the authority to establish higher interest for smaller 
loans, and that the authority applies to both variable and fixed rate 
loans. The proposal has been finalized at Sec. 120.215. Proposed 
Sec. 120.214(g), has been renumbered and is now Sec. 120.214(f).
    A number of commenters suggested that SBA should amend proposed 
Sec. 120.220(b), claiming that the policy of terminating a guarantee 
for nonpayment of the guarantee fee is too harsh. SBA has considered 
the comments, but has decided to retain the present policy of 
terminating guarantees for nonpayment of guarantee fees as one means of 
assuring timely submission of guarantee fees. In addition, under the 
Lender's agreement with SBA, payment of the guarantee fee is the 
consideration necessary to support SBA's guarantee commitment. Minor 
editorial changes have been made in this section to reflect that a 
guarantee fee payment may be reimbursed to the Lender from funds 
allocated in the working capital portion of a guaranteed loan.
    Two commenters suggested that SBA should clarify in Sec. 120.220(c) 
that the annual fee payable by a Lender cannot be charged to a 
Borrower. SBA has adopted the suggestion.
    SBA has deleted proposed Sec. 120.221(b), relating to commitment 
fees for Export Working Capital loans. This provision was based on the 
former Export Revolving Line of Credit program and is no longer 
applicable to any program.
    A commenter suggested that SBA define the term ``Extraordinary 
servicing'' as proposed in Sec. 120.221(c). SBA believes that any 
further description of special or extraordinary servicing practices 
would be more appropriate for its SOPs, and therefore declines to adopt 
the suggestion. The suggestion to permit prepayment fees, which were 
prohibited under proposed Sec. 120.221(e), has not been adopted by SBA. 
The Agency believes that a small business should be allowed to prepay a 
7(a) loan without incurring additional costs, and the prohibition on 
charging prepayment fees is a positive marketing tool for making 7(a) 
financial assistance available to small business.
    SBA has added referral fees to the list of fees in Sec. 120.222(b) 
which a Lender or Associate may not charge a Borrower since such fees 
are not fees which relate to services normally provided by a Lender. 
SBA has included a Service Provider as an entity in Sec. 120.222(d) 
with which a Lender or Associate cannot share a premium received from 
the sale of an SBA guaranteed loan in the secondary market. The 
inclusion of a Service Provider in the prohibition reduces further the 
possibility of a conflict of interest or the appearance thereof.

Subpart C

    Two commenters noted that under the provisions of proposed 
Sec. 120.314, SBA was precluded from requiring personal guarantees for 
DAL-2 financial assistance. SBA intended the prohibition for requiring 
personal guarantees to be applicable only to DAL-1 financial 
assistance, and the provision has been corrected to reflect that 
intent.
    One commenter suggested that SBA should state in the provisions 
pertaining to the Export Working Capital Program (EWCP) that limits on 
lender fees and interest rates are not prescribed. In final 
Sec. 120.344, SBA has addressed the issue of extraordinary fees and 
interest rates pertaining to the EWCP. SBA does not set a maximum rate 
of interest which may be charged for this program.
    At the suggestion of a commenter, the reference to loan proceeds to 
develop or penetrate foreign markets has been deleted from Sec. 120.342 
and moved to Sec. 120.347, pertaining to eligible use of proceeds for 
International Trade Loans. EWCP loan proceeds are to be used only to 
finance export transactions.
    Two commenters noted that proposed Sec. 120.348 did not address a 
limitation on the fixed-asset portion of International Trade Loans. The 
provision has been amended to specify limitations on portions of loan 
amounts allocated for fixed assets and non-fixed assets.
    At the suggestion of one commenter, SBA has clarified Sec. 120.377 
to provide that only a manufacturing concern may use loan proceeds for 
working capital for this particular loan program.
    Two commenters suggested SBA should address the DELTA loan program 
in Sec. 120.380. While the DELTA loan program is not a permanently 
funded SBA program, SBA has elected to briefly describe it in 
Sec. 120.381(c).

Subpart D

    Although Sec. 120.420, which allows nondepository lenders to pledge 
notes evidencing SBA guaranteed loans or to sell the unguaranteed 
portions is not new, two commenters asked that depository lenders be 
allowed the same 

[[Page 3229]]
option. SBA has rejected this suggestion. This option is not available 
to depository lenders because they have a depository base which 
provides liquidity, whereas the nondepository lenders have no such 
base. They have only a capital base which must be left unimpaired. To 
provide them with some liquid assets, SBA allows them to sell the 
unguaranteed portions of SBA guaranteed loans.
    Two commenters wrote that a conflict exists between 
Secs. 120.420(a) and 120.453(c). SBA adopted the commenter's suggestion 
to include language which makes clear that nondepository lenders who 
are also PLP lenders may sell the entire unguaranteed portion, not just 
90 percent, of SBA guaranteed loans with SBA's consent.
    Section 120.420(b)(2) concerning retention of economic risk, has 
been revised to require a nondepository lender which has sold the 
unguaranteed portion of a loan, to establish a sufficient reserve fund 
at the time of sale. The two other options available in the current 
regulations have not been used and are not being retained, and SBA has 
only approved proposals that have included a reserve fund.
    One commenter proposed that Sec. 120.441, concerning the Certified 
Lenders Program, be amended to permit certification of individual loan 
officers rather than the lending institution. SBA has considered this 
idea previously. SBA relies on the capability of its lenders, not 
individual loan officers. Therefore, SBA has decided not to alter the 
present procedure at this time. The current selection criteria already 
permit consideration of the experience of individual loan officers in 
certifying lenders.
    Concerning the provision at Sec. 120.442 which sets forth grounds 
for suspension or revocation of eligibility to participate in the CLP 
program, one commenter suggested including ethics violations as a basis 
for suspension or revocation. SBA will consider including this in its 
SOP which, if violated, would fall within the language ``violations of 
applicable * * * published SBA policies and procedures.'' SBA will 
follow suit with the PLP program, which has a similar revocation and 
suspension provision. SBA also emphasizes that the reasons listed in 
Sec. 120.442 are simply examples of causes for suspension or revocation 
and not an exclusive list.
    One commenter requested that PLP lenders be allowed to process 
loans which refinance interim loans under Sec. 120.452(a)(2). SBA has 
decided to permit such loans if made for other than construction 
purposes and if the interim loan was approved by the lender within 90 
days of receipt of the PLP loan number or the refinancing.
    SBA received two comments requesting clarification on whether a 
lender was required to be a CLP lender before being eligible to apply 
for PLP status. Both commenters approved of the eligibility 
requirement. In the final rule, SBA is eliminating this requirement. It 
is not necessary to develop lenders into PLP lenders in stages. If a 
lender does not perform well as a PLP lender, SBA can revoke its PLP 
status.
    Several commenters suggested that SBLCs be allowed to extend credit 
through other programs. SBA has been considering this for some time and 
has decided to amend Sec. 120.470 by allowing SBLCs to provide SBA 
guaranteed loans to Intermediaries participating in the SBA Microloan 
program.
    A commenter suggested raising the minimum bond coverage a Small 
Business Lending Company is required to have, from $25,000 to $500,000. 
SBA agrees with the commenter that $25,000 is too low and is adopting 
the suggestion by amending Sec. 120.470(b)(10).

Subpart E

    SBA received several comments concerning Sec. 120.524(a) which sets 
forth grounds under which SBA may deny liability. The commenters 
opposed the proposed language which would allow SBA to deny liability 
upon any failure of a lender to take certain actions, as compared to 
the current language of the regulation which allows SBA to deny 
liability only upon substantial failure. SBA has decided not to adopt 
this suggestion. The final regulation makes it clear that SBA may deny 
liability on the basis of any material noncompliance with SBA's 
regulations or the terms of applicable loan documentation.
    The provisions of Sec. 120.532 et seq., which describe the loan 
moratorium program, have been deleted from this final rule and will be 
inserted into the Agency's SOPs. The requirements of this program are 
already provided for by statute and the regulations are therefore 
redundant. SBA has retained in the regulations a short description of 
the program, and provides notice that complete information concerning 
moratoriums is available at local SBA district offices.
    One commenter opined that Sec. 120.540(a) requires additional 
language concerning when SBA or a lender may liquidate collateral 
securing a loan. SBA agrees and is including language that allows 
liquidation if the loan is in default.
    One commenter suggested that Sec. 120.540(c)(1) be revised to allow 
lenders to liquidate collateral as they normally would, rather than 
having to attempt to sell at auction. SBA has adopted the commenter's 
suggestion and the section now allows a lender to use negotiated sales 
if consistent with its usual practice for liquidating non-SBA-related 
assets.
    One commenter discussed the revisions to the homestead protection 
provisions found at Sec. 120.550 et seq. Much of the details have been 
removed with the intention of publishing them in an SOP. The writer was 
concerned that persons interested in these provisions will not know 
what is needed to comply with the requirements of this program. With 
the publication of the procedures in an SOP, persons wishing to know 
more about this program will be able to obtain the information easily 
from any local SBA district office.

Subpart F

    Only one comment was received on Subpart F. The commenter requested 
that a definition of ``Associates of a Pool Assembler'' be added to the 
definitional section. This comment was not adopted since ``Associate'' 
is defined in Sec. 120.10 and there is no need for a different 
definition for this Subpart. Minor changes were made to this Subpart 
for clarification.

Subpart G

    Only one comment was received on Subpart G. The commenter suggested 
that proposed Sec. 120.707(d) be revised to require Intermediaries to 
assign all guarantees and liens from their Microloans to SBA. This 
comment was not adopted. SBA believes that it is adequately protected 
by the current requirement that the Intermediary pledge to SBA a first 
lien position in the Microloan Revolving Fund, Loan Loss Reserve Fund, 
and all notes receivable. Minor changes were made to this Subpart for 
clarification.

Subpart H

    Sec. 120.801. SBA received several comments regarding this 
introductory section describing the 504 program in general terms. All 
pointed out that a small business must apply for 504 financing through 
a CDC servicing the area in which the Project is located, not in which 
the business is located. SBA concurs and makes the correction in this 
final rule. SBA also has made several other minor revisions to this 
section in response to comments. 

[[Page 3230]]

    Sec. 120.810. Several comments suggested minor changes in one or 
more definitions that apply to the 504 program. SBA disagrees with all 
of the comments, except one regarding Substantial Increase in 
Unemployment. The commenter questioned the need for such a definition, 
questioning the SBA's ability to quantify the increases mentioned in 
the definition. SBA concurs and has deleted the definition (see 
Sec. 120.881).
    Sec. 120.827. As a result of a comment, SBA amended this section to 
make it clear that a CDC may itself provide financial and technical 
assistance to small businesses, as well as help small businesses to 
obtain such assistance from other sources.
    Sec. 120.828. SBA received 13 comments on this section. As 
discussed more thoroughly in the following discussion of expansion into 
additional Areas of Operation, small businesses in some areas of the 
country receive excellent 504 assistance measured, at least, by loan 
activity, while in other areas, few, if any, small businesses have 
received assistance. SBA attempted to address this fact by, among other 
things, designating a minimum number of loan approvals which a CDC must 
process in order to retain certification. The present rule requires a 
minimum of 2 loan approvals averaged over the preceding 2 years. In the 
proposed rule, SBA altered the requirement to be ``the minimum number 
of 504 loans set by SBA in an annual program announcement.'' The 
purpose of the proposed change was to give SBA the flexibility to 
adjust the number as required to reflect an expected increase in loan 
volumes.
    Without exception, every comment opposed this change, believing it 
imposed a burden both on the industry and SBA to adjust the standard 
every year in a program announcement. The industry trade association 
recommended changing the annual language to ``from time to time.'' Most 
of the other comments suggested that SBA retain its existing 
regulation. Based upon such comments, SBA has decided to retain the 
standard of 2 per year. The only change from the existing regulation is 
that SBA feels it is no longer necessary to use an average of the 
previous two years.
    Many of the comments confused this issue with the performance 
standard for expansion into another Area of Operation. SBA wishes to 
emphasize that the standard in Sec. 120.828 has nothing to do with 
expansion or competition.
    Sec. 120.829. Three comments were received regarding this section. 
Title V of the Small Business Investment Act requires a CDC's portfolio 
to reflect a Job Opportunity Average. At the present time, the 
requirement is one Job Opportunity per $35,000 of 504 funding. That 
figure has been in effect for many years. The current regulation 
permits the AA/FA to allow a CDC's average to be up to 25 percent 
higher in certain areas. In the proposed rule, SBA rounded the 25 
percent maximum ($43,875) up to $45,000. Otherwise SBA retained the 
current rule.
    SBA received comments suggesting that SBA increase both the base 
$35,000 and the exception because of inflation. In addition, one 
comment recommended that SBA delete all of the exceptions in 
Sec. 120.829 except Alaska and Hawaii because the rule is impossible to 
administer. SBA rejects both suggestions, principally because it is not 
aware that the industry has been having any problem complying with the 
Job Opportunity Average requirement at its present level. However, SBA 
does agree that redevelopment areas as defined in 42 U.S.C. 3161 should 
be deleted from the provision. The purpose of the 25 percent 
differential was to assist distressed geographical areas needing 
development. However, once designated, redevelopment areas remain so 
designated forever. Because they have become so common, the effect 
would be to increase the Job Opportunity Average for entire Areas of 
Operations to $45,000 rather than $35,000, if the CDC and SBA followed 
the regulation exactly. From a review of the Job Opportunity Averages 
submitted by CDCs in their annual reports, it is clear that the 
increased average in redevelopment areas is not required by CDCs or is 
not being followed. Furthermore, areas that were once distressed, but 
no longer are, would continue to be eligible for the higher average, 
even though it is no longer needed. For these reasons, SBA has 
determined that redevelopment areas be deleted from the section.
    Sec. 120.830. Several comments objected that the definition of 
``Associates'' would cause increased and burdensome reporting 
requirements. SBA believes that the amended definition of Associate 
cures this problem.
    Sec. 120.831. The proposed rule included a new requirement that a 
CDC disclose to SBA and the Borrower any referral fees or other payment 
made or received by the CDC from the Lender or other party to the 504 
transaction. A comment from the industry trade association indicated 
that it understood that SBA may want this disclosure, but that it 
should be required of all SBA guaranteed lenders, not just CDCs. In the 
interest of program consistency, SBA agrees, has broadened the language 
to include all lenders, and has consolidated the section with 
Sec. 120.195 so that it applies to all business loans.
    Sec. 120.835. Throughout the history of the 504 program there has 
been a great divergence among CDCs in the number of loan approvals each 
year. While some CDCs have exhibited continued growth measured by their 
loan approvals and ability to package, process and service loans, other 
CDCs have lagged behind. There are many complicated reasons for this, 
but the net result has been a patchwork of 504 service (measured by 
loan approvals) across the country, with many small businesses in some 
areas receiving 504 assistance while in other areas few, if any, small 
businesses have received such assistance.
    SBA attempted to address this issue by permitting CDCs to expand 
temporarily into adjacent areas, and, then, in 1993, by designating a 
minimum number of loan approvals per year which a CDC must average over 
the previous two fiscal year periods to retain certification as a CDC. 
The current number of required loan approvals is two. SBA also 
established the status of an Associate Development Company (``ADC''). 
Those CDCs unable or unwilling to meet the minimum number of loan 
approvals may become ADCs, thereby continuing to participate in the 
program goals of economic and community development without having to 
make loans. A number of CDCs have been decertified as a result of this 
policy and have opted for ADC status.
    However, a focus on removal from CDC status does not address the 
real question of adequacy of service within an Area of Operations. What 
constitutes adequate service within a community? The statutory 
objectives of the 504 program are to provide a portion of long term 
fixed-asset financing for small business projects that provide jobs and 
result in economic development. Clearly, these goals cannot be met in 
an Area of Operations unless loans are being packaged, processed, 
approved, closed and serviced by one or more CDCs. Unfortunately, SBA 
is aware of too many locations across the country in which present CDCs 
are unable or unwilling to meet the small business demand for 504 
loans. Transferring an existing CDC to ADC status does not address this 
inadequacy. SBA has concluded that the answer lies not in 
decertification, but in competition and customer service.
    Therefore, SBA proposed in Sec. 120.835 that existing CDCs be 
permitted to expand into Areas of Operations that are not being 
adequately serviced. Under 

[[Page 3231]]
the proposed rule, the expanding CDC would have to show that the 
proposed Area of Operations is not being adequately served by the 
existing CDCs and that the expanding CDC is well-qualified to serve it. 
SBA did not propose any geographic or size limitation on CDCs applying 
to service a location, but suggested that such factors would be 
considered in evaluating the application. As proposed, a CDC would 
apply in writing to the SBA district office serving the geographic area 
in which the CDC proposes to expand.
    In the proposed rule, SBA solicited comment on the factors to be 
considered in determining whether an area is being adequately serviced. 
As a result of many discussions with industry members, SBA had 
concluded that, in general, the starting point for any determination 
would be the number of loan approvals averaged by the existing CDCs in 
the Area of Operations over the last two fiscal years. Even if the 
number of loan approvals does not accurately represent the competence 
of a CDC, it does accurately reflect the market penetration of 504 
financing in the proposed area of expansion.
    SBA had also concluded that there is no minimum loan approval 
number appropriate to every CDC in every location across the country. A 
small CDC with a rural Area of Operations and slow economic activity 
may be providing adequate service at a low level of approvals while a 
larger CDC in a metropolitan region with much economic activity may be 
providing inadequate service, despite having a greater number of loan 
approvals. In the proposed rule, SBA advanced the population of an Area 
of Operations as the base factor, but indicated that industry members 
had suggested other possibilities such as the number of small 
businesses in the Area of Operations.
    As a result of numerous consultations with the industry and small 
businesses, SBA had also concluded at the time of the proposed rule 
that adequate service includes other factors in addition to the number 
of loan approvals, including adequate servicing of loans. Thus, in the 
proposed rule, SBA indicated that any CDC seeking to expand will have 
to show that it has a history of adequate experience and expertise in 
both loan packaging and servicing, and that the existing CDCs in the 
proposed area of expansion have not been adequately packaging or 
servicing loans.
    In the proposed rule, SBA solicited comments and recommendations 
regarding the factors that should be included in a determination of 
whether the existing CDCs are adequately servicing an Area of 
Operations. SBA asked commenters to particularly focus on how to 
incorporate a servicing component into its approach.
    SBA received 35 comments in response to its solicitation. Only two 
opposed the policy proposed by SBA. The remainder supported SBA's 
efforts to assure availability of 504 financing everywhere in the 
country by establishing limited competition. Most of the comments 
discussed various factors which the commenter believed should be 
incorporated into SBA's decision making process upon receipt of an 
application for extension of one CDC into another's Area of Operations. 
Among the comments received was a proposal submitted by the industry's 
trade association, as well as many recommendations from individual CDCs 
and financial institutions.
    As a result of the comments received, SBA has determined to amend 
its proposed rule in several respects. The proposed rule provided that 
SBA would consider an Area of Operations inadequately served if the 
existing CDCs in the Area of Operation have not averaged, over the last 
two fiscal years, sufficient loan approvals for the population in the 
CDCs' Area of Operation, as set by SBA in an annual program 
announcement. All of the comments which were addressed to the issue 
were concerned about the annual development of a standard. Commenters 
expressed the opinion that annually revisiting the standard would 
create a ``moving target'' for the industry to achieve and introduce 
uncertainty and instability into the industry. Most indicated support 
for a reviewable standard consistent with national performance levels.
    Most comments were opposed to judging performance solely on the 
number of loan approvals based upon population levels as suggested by 
SBA in the proposed rule (along with a servicing component). The 
comment submitted by the industry's trade association did utilize the 
number of loan approvals per million of general population (and a 
servicing component) as the criterion for determining that the CDCs in 
an Area of Operations are adequately serving the area. However, many 
individual CDCs presented numerous other elements which they 
recommended be considered as part of the performance level ``formula''. 
In addition to the number of loan approvals per population of the Area 
of Operation, the various factors included: The number of small 
businesses in the Area of Operations; the number of deals closed, 
rather than approved (showing that the deals are ``real'' and the CDC 
is capable of following through); the density of small businesses in 
the Area of Operation; the character of the Area of Operations (urban, 
suburban, or rural); the types of small businesses; the economic 
conditions prevailing in the Area of Operations; amount loaned per 
small business population; jobs created/retained; servicing record and 
capabilities; currency rate; loss rates; other services provided to 
small businesses (technical and financial assistance); relationship 
with the local SBA office; ties to the local community and its 
resources; and knowledge of the area and its economic and business 
climate. In short, solely looking at loan approval volume is an 
inadequate measure of a CDC's service to the community.
    Several commenters pointed out potential problems that could result 
from basing CDC performance solely on ``packaging'' and loan approval 
volume.
    SBA agrees with several commenters that level of activity is 
probably an accurate barometer of past and future performance. However, 
SBA has determined that loan approval volume based upon general 
population alone should not be the sole determination of whether an 
area is being adequately served.
    Based upon the comments received, SBA has decided to amend its 
proposed rule to delete the reference to any one factor determining 
that an Area of Operations is being inadequately served. Rather, SBA 
has determined that loan approval volume should be utilized only as a 
benchmark upon which to support the application of a CDC to expand into 
an Area of Operation which it presently does not serve. If the loan 
approval volume of the existing CDCs in the area does not reach the 
benchmark figure, the applying CDC will be able to proceed with its 
application.
    The application to expand must be in writing to the SBA District 
Office serving the geographic area in which the CDC proposes to expand. 
It must demonstrate to the satisfaction of SBA that the CDC is capable 
of providing the additional territory the full range of services 
expected of a CDC, including the ability to process, close, service, 
and, if authorized, liquidate 504 loans. The existing CDC or CDCs in 
the expansion area will then have at least 30 days in which to respond 
to the District Office. The ``burden of proof'' shall be upon the 
existing CDC or CDCs to explain why the SBA should not grant the 
application for extension. In its deliberations, the SBA District 
Office may, in its discretion, consider any factor presented to it, but 
SBA will 

[[Page 3232]]
consider particularly relevant information concerning the various 
factors suggested in the comments to the proposed rule and previously 
set forth in this preamble. The SBA District Office shall submit its 
recommendation within 30 days of the end of the comment period to the 
AA/FA for a final decision within 30 days of receipt of the District 
Office's recommendation.
    Seven comments cautioned that expansion should be permitted only 
into contiguous areas, referencing the problems experienced by the 
banking industry when interstate banking was first permitted. These 
commenters suggested that ``leapfrogging'' financial institutions may 
not know their new markets, leading to potential loan losses and damage 
to the program. Two other commenters were concerned with ``cherry 
picking'' of valuable markets to the detriment of markets where 
business potential was less.
    These are both matters which SBA will consider very carefully. The 
expanding CDC's application must specify the exact territory into which 
it proposes to expand. SBA will compare the loan approval volume of the 
existing CDC or CDCs in that exact territory to the benchmark figure. 
The expanding CDC will not be able to use an existing CDC's loan 
approval volume for its entire Area of Operations (presumably lower) to 
justify expansion into a smaller, valuable market, which is being 
adequately served by the existing CDC or CDCs. If the more valuable 
market is not being adequately served, then the expanding CDC is 
justified in attempting to expand into it. SBA will at all times 
maintain its focus on the ultimate customers, the small businesses 
which both SBA and the CDC industry serve. If small businesses in a 
``prime'' area are not being adequately served, the existing CDC or 
CDCs will not be supported by SBA in any argument that the area is 
being ``cherry picked''. If a CDC is concerned about potential 
expansion into its territory, SBA believes, as do many of the 
commenters, that competition will cause that CDC to better serve its 
community.
    Although sensitive to the advantages resulting from regional 
experience and knowledge, SBA has determined not to limit applications 
for expansion to contiguous areas. SBA will, however, require that an 
expanding CDC have a local presence in a non-contiguous territory. As 
part of its application, the expanding CDC must indicate how it intends 
to provide that local presence, and must agree to have a local presence 
in place before submitting any 504 loans for approval.
    Finally, the comments presented to SBA several suggestions which it 
has considered for establishing the benchmark figure. SBA recognizes 
that each number suggested by any of the commenters was somewhat 
arbitrary. Several comments presented data on loan approval volume in 
the country or in specific regions. Based on the figures provided by 
the industry trade association in its comment, total loan approvals for 
FY 1993 were 2,388 resulting in an average loans per million of general 
population of 5.37. In FY 1994 and 1995, the corresponding figures were 
3,685 (8.29 loans per million) and 4,398 (9.89 per million). The 
industry trade association suggested that an average of 5 loans per 
million of general population, for the previous two years, or 2, 
whichever is greater, be the standard. (In the proposed rule, the 
standard would have been absolute and determined that a CDC was not 
adequately serving its Area of Operation.)
    SBA prefers to set a higher target. Unlike the performance standard 
in Sec. 120.828, failure to attain the standard will not disqualify a 
CDC in any way or cause it to be subject to decertification. So long as 
a CDC provides 2 loan approvals per year, it will continue as an active 
CDC if it so chooses. The standard in Sec. 120.835 is merely a 
benchmark to determine whether another CDC may be able to expand into 
the CDC's Area of Operations in order to compete with the CDC in order 
to better serve the small business community.
    Therefore, SBA has adopted the suggestions contained in the comment 
of an individual CDC and has established in this final rule the 
benchmark standard of one approved loan per 100,000 of general 
population averaged over the last year 2 years. Both the industry and 
SBA expect the number of loans approved to grow sharply over the next 
several years. As discussed earlier in this preamble, the industry 
prefers and SBA agrees that the benchmark remain constant and not 
change on an annual basis so that CDCs will know that they have a 
constant ``target'' to attain. SBA does not want to establish a 
benchmark which is already outdated. The industry average is nearly 10 
loan approvals per million (or one per 100,000). By adopting the 
comment of 1 per 100,000, SBA feels it has established a figure which 
may remain in effect for the foreseeable future and is already exceeded 
by a majority of the industry. Further, the benchmark applies to a 
total loan volume of all CDCs existing in an Area of Operations, not 
each individual CDC.
    SBA will continue to work with the industry to refine the 
benchmark. One or more of the factors discussed previously may 
supplement or ultimately replace loan approvals per 100,000 of general 
population (such as small business population, job creation/retention, 
loans closed, or dollar amount of loan volume).
    Sec. 120.838. In the proposed rule, SBA determined that all 
existing, temporary expansions of Areas of Operations would expire 
automatically 6 months after the effective date of these regulations, 
unless a CDC applies for permanent expansion into that Area before the 
expiration date. SBA believed that CDCs will best serve the small 
business community by making a permanent commitment to an Area of 
Operations. SBA received several comments in support of this provision 
and none in opposition. Therefore, SBA adopts the proposed provision 
without change in this final rule.
    Sec. 120.839. In the proposed rule, SBA provided for a CDC, upon 
showing good cause, to apply to SBA to make an individual loan for a 
Project outside its Area of Operations in an area not being adequately 
served by other CDCs. The SBA also proposed to permit an applicant 
small business to write to the AA/FA to request the assistance of a CDC 
not currently serving the area. SBA added this provision to give a 
small business more flexibility if it had a concern about the ability 
of a particular CDC to provide service.
    SBA received 12 comments concerning this proposal, none of which 
opposed the provision. Several supported the provision as proposed. 
Others concurred that case-by-case extensions can help to assure access 
to 504 financing, but should be limited to specific situations. Others 
felt that the proposed regulations were too vague and permitted too 
much discretion on the part of decision-makers. Most commenters favored 
more explicit directions and alternatives.
    SBA has determined to adopt, in most part, the suggestions of the 
industry trade association in its comment. Provided that the applicant 
CDC can demonstrate that it can adequately service the loan, a CDC may 
apply to make an individual loan outside its Area of Operations if (1) 
the applicant CDC has previously assisted the business to obtain a 504 
loan, (2) the applicant small business or CDC can document in writing 
to the AA/FA specific circumstances that would prevent the existing CDC 
or CDCs serving the area from assisting the business adequately, or (3) 
the existing CDC or CDCs serving the area agree to 

[[Page 3233]]
permit the applicant CDC to make the loan. SBA has deleted from its 
proposed rule the reference to an area not adequately served by other 
CDCs. As discussed previously with respect to Sec. 120.835, this final 
rule does not establish a standard of performance, but only a 
benchmark. Thus, it would not be possible to establish that an area is 
inadequately served without going through the entire process set forth 
in Sec. 120.835, which is not SBA's intent in this section. Further, 
the focus in this section is on the particular Project in question and 
that is covered sufficiently by the situation (2) as recommended by the 
industry trade association. The second circumstance in SBA's proposed 
rule, Borrower initiation of the request, is also subsumed into 
situation (2) in this final rule.
    Sec. 120.840. SBA received one comment regarding this section, 
pointing out that the section set forth only basic eligibility 
standards for a CDC to become an Accredited Lender, which standards did 
not refer to servicing or portfolio quality in any way. SBA concurs 
with the comment and has amended the section to include additional 
eligibility requirements, including that an applicant must have been a 
CDC for a minimum of 12 months.
    Sec. 120.845. SBA received two comments regarding this section. One 
comment pointed out that the proposed language appeared to suggest that 
SBA approved Premier Certified Lender loans in the same manner as any 
other 504 loan. SBA has adopted the language of the comment, clarifying 
that SBA's final approval is limited to eligibility of the guarantee. 
The other comment requested SBA to include in the regulation the 
specific amounts and payment schedule of contributions to the loss 
reserve. SBA has concluded that this is not necessary. The schedule is 
in the statute and will be expounded upon in SBA's SOP, to which PCLPs 
will have access. Therefore, SBA declines to adopt this comment.
    Sec. 120.862. This section sets forth community development and 
public policy goals, the achievement of any one of which causes a 
Project to be eligible for 504 financing if a CDC's overall portfolio 
of 504 loans, including the subject loan, meets or exceeds the CDC's 
Job Opportunity average. Also, qualifying under a public policy goal 
makes a Project subject to an increased amount of funding. One comment 
pointed out that assisting businesses in Labor Surplus Areas had been a 
community development goal in the current regulation, but had been 
included as a public policy goal. Another comment pointed out that 
there must be a written revitalization plan in order to invoke 
revitalizing a business district as a public policy goal. A third 
comment pointed out that the rule should include assisting businesses 
located in areas affected by Federal budget reduction, not just 
businesses affected by such matters. SBA concurs in all three comments 
and has made the revisions in this final rule. A fourth comment 
contended that assisting manufacturing firms was a public policy goal, 
not a community development goal. However, assisting manufacturing 
firms has always been a community development goal in SBA's 
regulations, and SBA declines to change this long-standing placement.
    Sec. 120.871. Both the 7(a) and 504 loan programs limit the amount 
of the rentable property which can be leased to a third-party, whether 
the loan or Project involves new construction or an existing building. 
Currently, there are minor differences between the programs in the 
amount of space permitted to be leased. The 504 limitation is currently 
set forth in a regulation, while the 7(a) limitations are set forth in 
an SOP. Several commenters noted the differences between the programs 
and suggested that the proposed regulation be made applicable to all 
SBA business loan programs. SBA concurs with the comments and has moved 
Secs. 120.871 and 120.872 from Part H to Part A as Secs. 120.131 and 
120.132.
    Sec. 120.880. SBA received five comments pointing out that the size 
standard for 504 eligibility set forth in the proposed rule omitted the 
word ``tangible'' to modify net worth. SBA concurs and adds the word 
``tangible'' in this final rule.
    Sec. 120.881. This section sets forth types of Projects ineligible 
only for 504 loans (as opposed to 7(a) loans). In the current 
regulation, a Project is ineligible, if the relocation of any of the 
operations of the small business will cause a substantial increase in 
unemployment in any area of the country or a net reduction of one-third 
or more in the workforce of the relocating small business. In the 
proposed rule, SBA attempted to limit the effect to distressed areas 
rather than the entire country by creating a defined term. As discussed 
earlier, commenters pointed out that SBA's proposed definition may have 
been unworkable. Therefore, SBA has dropped the proposed change and 
returned the relocation limitation to the language in the current 
regulation.
    One commenter pointed out that speculative projects are ineligible 
in all business loan programs, not just 504. SBA concurs and has moved 
Sec. 120.881(c) to Sec. 120.110(s).
    Sec. 120.882. In the current regulations, costs incurred by a 
Borrower in anticipation of receiving a 504 loan are not eligible to be 
included in Project costs unless the applicant has filed a written 
notices with the CDC and SBA within 60 days of incurring the expense 
and SBA gives written approval. As a result, CDCs and SBA receive 
notices from many potential borrowers considering 504 financing who 
desire to maximize potential financing. Many of these businesses never 
actually apply or their applications are denied. In those cases, the 
written notices are a useless paperwork burden on SBA, the CDC and the 
applicant. Therefore, SBA proposed in Sec. 120.882(a)(2) to eliminate 
the requirement for written notice and allow as an eligible Project 
cost any expense incurred toward a Project within six months of receipt 
by SBA of a complete loan application.
    SBA received 16 comments opposing the 6 month limit. Commenters 
pointed out that in actual practice the time it takes to reach the 
point of application is often far greater than 6 months. In many 
metropolitan areas, the zoning use permits, building permits, and other 
clearances can take 9 to 12 months. Often engineering plans and 
architectural drawings may need to be completed or redone, and lengthy 
environmental studies may be required. In states like Minnesota with 
long winters, the delay between site preparations and construction may 
span more than 6 months.
    The intent of the proposed rule was to alleviate unnecessary 
paperwork. It was not intended to limit eligible costs. Therefore, SBA 
increases the limit in this final rule to 9 months and adopts a comment 
suggesting a waiver of the limit by the SBA District Office for good 
cause, which waiver should not be unreasonably withheld.
    Sec. 120.883. This section sets forth eligible administrative costs 
which may be paid with the proceeds of the 504 loan, thereby allowing 
the small business to borrow the cost of the item so that it does not 
have to be paid out of the Borrower's own resources. One of the 
permitted costs is the CDC processing fee. Seven commenters pointed out 
that in streamlining the language of the regulation, SBA had deleted 
language in the current regulation describing at what point in time the 
fee is considered earned and may be collected. SBA agrees that this is 
important information for Borrowers to know and adds the requested 
language in this final rule. 

[[Page 3234]]

    Another grouping of costs traditionally allowed by SBA to be paid 
out of the proceeds of the 504 loan are closing costs. Currently, SBA 
interprets closing costs to include fees of professionals, such as 
engineers and attorneys, involved in the Project (see Sec. 120.961(a)).
    Typically, many of the legal services required to close the 504 
financing are provided by the CDC's counsel, who is usually experienced 
in closing 504 loans and thus, is able to do so cost effectively. 
Sometimes, a Borrower will also retain an attorney. Under the current 
regulations, the CDC may charge the Borrower up to $2,500 to reimburse 
the CDC for the legal expenses resulting from services performed by the 
CDC counsel relating to the 504 financing. The Borrower must pay the 
legal fees of Borrower's counsel, if retained. If CDC counsel desires 
to charge the CDC more than $2,500, the CDC may only do so if SBA 
approves the higher fee, in which case, the CDC must pay the difference 
to the CDC counsel and may not be reimbursed by the Borrower. The CDC 
collects the fee (up to $2,500) at closing and forwards it to the 
closing attorney.
    The $2,500 figure in the current regulation has engendered much 
debate within the industry. Many CDCs feel the figure establishes a 
minimum base for attorney fees and is, therefore, anti-competitive. On 
the other hand, during the past year, SBA has conducted several 
expedited closing training sessions for CDC counsel. Many attorneys 
feel that the figure establishes a ceiling for attorney services and 
is, therefore, anti-competitive. There appears to be a wide range of 
fees charged by CDC counsel for closing services.
    Most CDCs try to minimize counsel fees to reduce costs to the 
Borrower. One of the ways is for the CDC to use in-house counsel. 
Another way is to use in-house paralegals and staff to prepare the 
closing documents, close the loan, and present a completed loan closing 
package after closing to outside counsel solely for review and legal 
opinion. However, the current regulations allow a CDC to charge the 
Borrower only for the legal bill of outside CDC counsel. A CDC that 
retains its own counsel in-house or employs paralegals and other staff 
to prepare and close the loan cannot recover its costs for providing 
that service.
    In the proposed regulation, SBA omitted reference to any legal fee 
amount in either Sec. 120.883(d) or Sec. 120.961(a). Whether it is 
viewed as a ceiling or a base, the $2,500 reference certainly appears 
to have had an effect on legal fees charged. SBA believes legal fees 
should be determined by the competitive market. There is no reason for 
SBA to influence the market rate by referring to a specific fee level 
in its regulation.
    SBA received 15 comments concerning legal fees from the industry. 
All but one strongly objected to the deletion of the $2,500 reference 
from the regulations. In addition, several comments requested SBA to 
allow CDCs to recover the staff and in-house counsel costs of closing a 
loan.
    SBA concurs with the comments recommending that CDCs be allowed to 
charge the Borrower for the in-house costs of preparing the loan 
documents and closing the loan. Since both the CDCs and SBA desire to 
reduce the level of legal fees incurred by the Borrowers, it is self-
defeating to require CDCs to utilize outside counsel in order to 
recover legal costs. Allowing the CDC to recover in-house costs from 
the Borrower will still result in a savings to the Borrower because the 
costs of CDC staff and in-house counsel are less than outside counsel. 
Therefore, proposed rule Sec. 120.961(a) (which is Sec. 120.971(a)(2)) 
in this final rule has been amended to allow the CDC to charge the 
Borrower an amount sufficient to reimburse it for reasonable legal 
expenses of outside counsel, and in-house counsel and staff related to 
closing the 504 financing.
    Despite the near unanimous opposition to the deletion of the $2,500 
reference, SBA declines to amend either Sec. 120.883(d) or 
Sec. 120.971(a)(2) (Sec. 120.961(a) in the proposed rule). None of the 
comments presented any persuasive arguments to cause SBA to change its 
convictions. Many of the comments referred to the $2,500 reference as a 
``cap'' which kept legal fees to the Borrower in line. Whether it 
functioned more to inhibit or increase fees is open for discussion. But 
exceeding the ``cap'' certainly did not affect the Borrower. If SBA 
approved, the CDC paid the attorney without reimbursement. Thus, if the 
reference functioned as a ``cap'', it did so to benefit the CDC, not 
the Borrower.
    As more attorneys become designated to perform expedited 504 loan 
closings, as more attorneys become familiar with the 504 closing 
process (because of the expected large increase in loan volume), and as 
additional CDCs use in-house counsel or paralegal staff to prepare 
documents and close loans, SBA expects competitive pressures to limit 
increases in legal fees. In any event, SBA does not belong in the 
business of setting or suggesting legal fees. That is a function of the 
competitive market.
    The comment process caused SBA to review carefully the whole issue 
of legal fees as treated in the 504 program compared to commercial 
lending generally. A number of comments present information concerning 
CDC efforts to reduce Borrowers' legal costs. SBA has previously 
interpreted legal fees to be eligible costs, either as Project costs or 
administrative costs. Most of the legal fees for which a Borrower is 
responsible are eligible Project costs directly attributable and 
essential to the Project.
    Legal fees associated with the closing of the 504 loan are not 
eligible as Project costs. They are not directly attributable and 
essential to the Project. If they are eligible at all, they would have 
to be eligible administrative costs.
    All of the eligible administrative costs in Sec. 120.883, with the 
exception of legal fees, are fees imposed upon the Borrower by the 
financing process itself over which the Borrower has no control. All 
are defined by regulation or other government entities (recording fees, 
for example). The only variable cost is legal fees.
    Closing legal fees are not usually financed by commercial loan 
proceeds. Closing legal fees are current costs. Why should they be 
financed over 20 years? Legal fees are not usually financed over time. 
SBA suspects that if claims are true that closing legal fees have been 
maintained at an artificially high level, it is because the fees have 
been able to be financed over a lengthy period of time and have been 
``hidden'' in the Debenture. SBA has concluded that closing legal fees 
should not be eligible administrative costs for 504 loans. CDCs and 
Borrowers will now have a real incentive to reduce fees. Therefore, in 
this final rule, SBA has eliminated legal fees from the eligible 
administrative costs for 504 loans in Sec. 120.883(d).
    Finally, several commenters recommended that the specific fees for 
the items in Sec. 120.883 be identified. SBA concurs. These fees have 
been set forth with specific numbers in Sec. 120.971.
    Sec. 120.891. This section of the proposed rule required the 
interim lender to certify to the amount of the interim loan disbursed 
and the CDC to certify that the Project was completed in accordance 
with the plans and specifications. Three comments noted that the 
wording of the first requirement implied that the interim lender must 
certify to much more than just the amount disbursed. SBA concurs that 
the language could be misleading. In this final rule, SBA clarifies 
that the interim lender must certify only the amount disbursed. 

[[Page 3235]]

    Sec. 120.892. This sections deals with certifications to SBA by the 
CDC, interim lender, and Borrower that there has been no adverse change 
in the ability of the Borrower to repay the 504 loan. For over 15 years 
the standard phrase used was ``unremedied substantial adverse change.'' 
In the proposed rule, SBA substituted ``adverse change,'' believing 
that if there were insubstantial adverse changes or remedied changes, 
it did not affect whether the Borrower could repay the loan. However, 
after receiving seven comments requesting a return to the familiar 
language, SBA amends the three subsections of Sec. 120.892 to insert in 
this final rule ``unremedied substantial adverse change.''
    Sec. 120.911. The current regulations state that the Borrower's 
contribution to the permanent financing may be land or cash. The 
regulations have never permitted the value of buildings or other 
structures on the land to be counted toward the Borrower's 
contribution. SBA did not propose any change in this section in the 
proposed rule.
    However, SBA received 10 comments suggesting that SBA consider 
including the value of site improvements such as buildings on 
contributed property if the Project is for the purpose of renovating 
the building or constructing an addition to the building. According to 
the comments, older buildings that need renovation are often not 
financed under the 504 program due to this restriction. SBA sees no 
reason why it should not agree to these suggestions. Whatever the 
original purpose of the restriction may have been, it appears to have 
no logical reason, credit or otherwise, for continuing it. Therefore, 
SBA adopts the comments in this final rule and allows Borrowers to 
contribute the value of buildings, structures and other site 
improvements which will be part of the Project Property, previously 
acquired by the Borrower or CDC.
    Sec. 120.921. As a result of comments received, two subsections 
have been added to Sec. 120.921. First, Sec. 120.923(b) in the proposed 
rule has become Sec. 120.921(d). The language of the proposed rule has 
been changed to clarify that a Third-Party lienholder must subordinate 
to the CDC/SBA lien any future advance in excess of the outstanding 
principal balance and accrued interest of the Third-Party Loan at the 
time of such advance. The new Sec. 120.921(e) prohibits a Third-Party 
lender from escalating the rate of interest upon default to an amount 
greater than the maximum rate in Sec. 120.921(b).
    Sec. 120.930. SBA received five comments pointing out that the 
language was confusing. In the proposed rule, SBA attempted to indicate 
what happens if the cost of the completed Project is less than the 
Debenture amount. Since five commenters all felt the language was 
confusing, SBA returns in this final rule to the language in the 
present regulation.
    Sec. 120.938. This section defines when SBA will look to the CDC 
for recourse in the event it defaults on a Debenture. SBA received 6 
comments contending that negligence is too high a standard. SBA 
examined the Debenture which CDCs sign. The language in the Debenture 
includes fraud, negligence, or misrepresentation. Therefore, SBA has 
adopted the language in the Debenture.
    Sec. 120.961(b). SBA received 4 comments contending that the 
referral fee which a CDC may charge a Third-Party lender is excessive. 
However, none of the comments presented any reasons or support for such 
assertions. Therefore, SBA declines to change the proposed rule. 
However, commenters did point out an error in the section in that the 
fee applies to the Third-Party loan, not the 504 loan. In addition, SBA 
refers to the fee in the final rule as a referral fee, rather than a 
finder's fee. SBA further indicates in this final rule that a CDC 
receiving such a fee must comply with the regulations under Part 103 of 
this chapter.
    Sec. 120.971. In this final rule, SBA has consolidated into this 
section the fees which were previously set forth in Sec. 120.883, so 
that a Borrower may find in one section all allowable fees to which it 
may be subject.

Compliance With Executive Orders 12612, 12778, and 12866, the 
Regulatory Flexibility Act (5 U.S.C. 601, et seq.), and the Paperwork 
Reduction Act (44 U.S.C. Ch. 35)

    SBA certifies that this final rule involves internal administrative 
procedures and does not constitute a significant rule within the 
meaning of Executive Order 12866 and does not have a significant 
economic impact on a substantial number of small entities within the 
meaning of the Regulatory Flexibility Act, 5 U.S.C. 601, et seq. It is 
not likely to have an annual economic effect of $100 million or more, 
result in a major increase in costs or prices, or have a significant 
adverse effect on competition or the United States economy.
    For purposes of the Paperwork Reduction Act, 44 U.S.C. Ch. 35, SBA 
certifies that this final rule contains no new reporting or record 
keeping requirements.
    For purposes of Executive Order 12612, SBA certifies that this rule 
has no federalism implications warranting the preparation of a 
Federalism Assessment.
    For purposes of Executive Order 12778, SBA certifies that this rule 
is drafted, to the extent practicable, in accordance with the standards 
set forth in Section 2 of that Order.

List of Subjects

13 CFR Part 108

    Equal employment opportunity, Loan programs-business, Reporting and 
recordkeeping requirements, Small businesses.

13 CFR Part 116

    Coastal Zone, Flood insurance, Flood plains, Lead poisoning, Small 
businesses, Veterans.

13 CFR Part 120

    Loan programs-business, Reporting and recordkeeping requirements, 
Small businesses.

13 CFR Part 122

    Community development, Employee benefit plans, Energy conservation, 
Environmental protection, Exports, Individuals with disabilities, Loan 
programs-business, Loan programs-energy, Loan programs-veterans, 
Microloans, Reporting and recordkeeping requirements, Small businesses, 
Solar energy, Trusts and trustees, Veterans.

13 CFR Part 131

    Loan programs-business, Small businesses.

    Accordingly, pursuant to the authority set forth in sections 
5(b)(1) and (b)(6) of the Small Business Act, 15 U.S.C. 634(b)(6) and 
636(a) and (h), SBA hereby amends Chapter I of Title 13, Code of 
Federal Regulations (CFR), as follows:
    1. Part 120 is revised to read as follows:

PART 120--BUSINESS LOANS

General Descriptions of SBA'S Business Loan Programs
Sec.
120.1  Which loan programs does this part cover?
120.2  Descriptions of the business loan programs.
120.3  Pilot programs.

Definitions

120.10  Definitions. 

[[Page 3236]]


Subpart A--Policies Applying to All Business Loans

Eligibility Requirements

120.100  What are the basic eligibility requirements for all 
applicants for SBA business loans?
120.101  Credit not available elsewhere.
120.102  Funds not available from alternative sources, including 
personal resources of principals.
120.103  Are farm enterprises eligible?
120.104  Are businesses financed by SBICs eligible?
120.105  Special consideration for veterans.

Ineligible Businesses and Eligible Passive Companies

120.110  What businesses are ineligible for SBA business loans?
120.111  What conditions must an Eligible Passive Company satisfy?

Uses of Proceeds

120.120  What are eligible uses of proceeds?
120.130  Restrictions on uses of proceeds.
120.131  Leasing part of new construction or existing building to 
another business.

Ethical Requirements

120.140  What ethical requirements apply to participants?

Credit Criteria for SBA Loans

120.150  What are SBA's lending criteria?
120.151  What is the statutory limit for total loans to a Borrower?
120.160  Loan conditions.

Requirements Imposed Under Other Laws and Orders

120.170  Flood insurance.
120.171  Compliance with child support obligations.
120.172  Flood-plain and wetlands management.
120.173  Lead-based paint.
120.174  Earthquake hazards.
120.175  Coastal barrier islands.
120.176  Compliance with other laws.

Enforceability Despite Rule Changes

120.180  Are rules enforceable if they are changed later?

Loan Applications

120.190  Where does an applicant apply for a loan?
120.191  The contents of a business loan application.
120.192  Approval or denial.
120.193  Reconsideration after denial.

Computerized SBA Forms

120.194  Use of computer forms.

Reporting of Fees

120.195  Disclosure of Fees.

Subpart B--Policies Specific to 7(a) Loans

Bonding Requirements

120.200  What bonding requirements exist during construction?

Limitations on Use of Proceeds

120.201  Refinancing unsecured or undersecured loans.
120.202  Restrictions on loans for changes in ownership.

Maturities; Interest Rates; Loan and Guarantee Amounts

120.210  What percentage of a loan may SBA guarantee?
120.211  What limits are there on the amounts of direct loans?
120.212  What limits are there on loan maturities?
120.213  What fixed interest rates may a Lender charge?
120.214  What conditions apply for variable interest rates?
120.215  What interest rates apply to smaller loans?

Fees for Guaranteed Loans

120.220  Fees that Lender pays SBA.
120.221  Fees which the Lender may collect from a loan applicant.
120.222  Fees which the Lender or Associate may not collect from the 
Borrower or share with third parties.

Subpart C--Special Purpose Loans

120.300  Statutory authority.

Disabled Assistance Loan Program (DAL)

120.310  What assistance is available for the disabled?
120.311  Definitions.
120.312  DAL-1 use of proceeds and other program conditions.
120.313  DAL-2 use of proceeds and other program conditions.
120.314  Resolving doubts about creditworthiness.
120.315  Interest rate and loan limit.

Businesses Owned by Low Income Individuals

120.320  Policy.

Energy Conservation

120.330  Who is eligible for an energy conservation loan?
120.331  What devices or techniques are eligible for a loan?
120.332  What are the eligible uses of proceeds?
120.333  Are there any special credit criteria?

Export Working Capital Program (EWCP)

120.340  What is the Export Working Capital Program?
120.341  Who is eligible?
120.342  What are eligible uses of proceeds?
120.343  Collateral.
120.344  Unique requirements of the EWCP.

International Trade Loans

120.345  Policy.
120.346  Eligibility.
120.347  Use of proceeds.
120.348  Amount of guarantee.

Qualified Employee Trusts (ESOP)

120.350  Policy.
120.351  Definitions.
120.352  Use of proceeds.
120.353  Eligibility.
120.354  Creditworthiness.

Veterans Loan Program

120.360  Which veterans are eligible?
120.361  Other conditions of eligibility.

Pollution Control Program

120.370  Policy.

Loans to Participants in the 8(a) Program

120.375  Policy.
120.376  Special requirements.
120.377  Use of proceeds.

Defense Economic Transition Assistance

120.380  Program.
120.381  Eligibility.
120.382  Repayment ability.
120.383  Restrictions on loan processing.

Caplines Program

120.390  Revolving credit.

Builders Loan Program

120.391  What is the Builders Loan Program?
120.392  Who may apply?
120.393  Are there special application requirements?
120.394  What are the eligible uses of proceeds?
120.395  What is SBA's collateral position?
120.396  What is the term of the loan?
120.397  Are there any special restrictions?

Subpart D--Lenders

120.400  Loan Guarantee Agreements.

Participation Criteria

120.410  Requirements for all participating Lenders.
120.411  Preferences.
120.412  Other services Lenders may provide Borrowers.
120.413  Advertisement of relationship with SBA.

Pledging Notes or Transferring Unguaranteed Portion

120.420  Financings by Nondepository Lenders.

Miscellaneous Provisions

120.430  SBA access to Lender files.
120.431  Suspension or revocation of eligibility to participate.

Certified Lenders Program (CLP)

120.440  What is the Certified Lenders Program?
120.441  How does a Lender become a CLP Lender?
120.442  Suspension or revocation of CLP status.

Preferred Lenders Program (PLP)

120.450  What is the Preferred Lenders Program?
120.451  How does a Lender become a PLP Lender?
120.452  What are the requirements of PLP loan processing?
120.453  What are the requirements of a PLP Lender in servicing and 
liquidating SBA guaranteed loans?
120.454  PLP performance review.
120.455  Suspension or revocation of PLP status.

Small Business Lending Companies (SBLC)

120.470  What is an SBLC?
120.471  Records.
120.472  Reports to SBA.
120.473  Change of ownership or control.
120.474  Prohibited financing. 

[[Page 3237]]

120.475  Audits.
120.476  Suspension or revocation.

Subpart E--Loan Administration

120.500  General.

Servicing

120.510  Servicing direct and immediate participation loans.
120.511  Servicing guaranteed loans.
120.512  Who services the loan after SBA honors its guarantee?
120.513  What servicing actions require the prior written consent of 
SBA?

SBA'S Purchase of a Guaranteed Portion

120.520  When does SBA honor its guarantee?
120.521  What interest rate applies after SBA purchases its 
guaranteed portion?
120.522  How much accrued interest does SBA pay to the Lender or 
Registered Holder when SBA purchases the guaranteed portion?
120.523  What is the ``earliest uncured payment default''?
120.524  When is SBA released from liability on its guarantee?

Deferment, Extension of Maturity and Loan Moratorium

120.530  Deferment of payment.
120.531  Extension of maturity.
120.532  What is a loan Moratorium?

Liquidation of Collateral

120.540  What are SBA's policies concerning liquidation of 
collateral?

Homestead Protection for Farmers

120.550  What is homestead protection for farmers?
120.551  Who is eligible for homestead protection?
120.552  Lease.
120.553  Appeal.
120.554  Conflict of laws.

Subpart F--Secondary Market

Fiscal and Transfer Agent (FTA)

120.600  Definitions.
120.601  SBA Secondary Market.

Certificates

120.610  Form and terms of Certificates.
120.611  Pools backing Pool Certificates.
120.612  Loans eligible to back Certificates.
120.613  Secondary Participation Guarantee Agreement.

The SBA Guarantee of a Certificate

120.620  SBA guarantee of a Pool Certificate.
120.621  SBA guarantee of an Individual Certificate.

Pool Assemblers

120.630  Qualifications to be a Pool Assembler.
120.631  Suspension or termination of Pool Assembler.

Miscellaneous Provisions

120.640  Administration of the Pool and Individual Certificates.
120.641  Disclosure to purchasers.
120.642  Requirements before the FTA issues Pool Certificates.
120.643  Requirements before the FTA issues Individual Certificate.
120.644  Transfers of Certificates.
120.645  Redemption of Certificates.
120.650  Registration duties of FTA in Secondary Market.
120.651  Claim to FTA by Registered Holder to replace Certificate.
120.652  FTA fees.

Suspension or Revocation of Participant in Secondary Market

120.660  Suspension or revocation.

Subpart G--Microloan Demonstration Program

120.700  What is the Microloan Program?
120.701  Definitions.
120.702  Are there limitations on who can be an Intermediary or on 
where an Intermediary may operate?
120.703  How does an organization apply to become an Intermediary?
120.704  How are applications evaluated?
120.705  What is a Specialized Intermediary?
120.706  What are the terms and conditions of an Intermediary SBA 
loan?
120.707  What conditions apply to loans by Intermediaries to 
Microloan borrowers?
120.708  What is the Intermediary's financial contribution?
120.709  What is the Microloan Revolving Fund?
120.710  What is the Loan Loss Reserve Fund?
120.711  What rules govern Intermediaries?
120.712  How does an Intermediary get a grant to assist Microloan 
Borrowers?
120.713  Does SBA provide technical assistance to Intermediaries?
120.714  How does a non-Intermediary get a grant?
120.715  Does SBA guarantee any loans an Intermediary obtains from 
another source?

Subpart H--Development Company Loan Program (504)

120.800  What is the purpose of the 504 program?
120.801  How is a 504 Project financed?
120.802  Definitions.

Certification Procedures to Become a CDC

120.810  Applications for certification as a CDC.
120.811  Public notice of CDC certification application.
120.812  Probationary period for newly certified CDCs.

Requirements for CDC Certification and Operation

120.820  CDC non-profit status.
108.821  CDC Area of Operations.
120.822  CDC membership.
120.823  CDC Board of Directors.
120.824  Professional management and staff.
120.825  Financial ability to operate.
120.826  Basic requirements for operating a CDC.
120.827  Services a CDC provides to small businesses.
120.828  Minimum level of CDC lending activity.
120.829  Job Opportunity average a CDC must maintain.
120.830  Reports a CDC must submit.

Extending a CDC's Area of Operations

120.835  Application to extend an Area of Operations.
120.836  Public notice and opportunity for response.
120.837  SBA decision on application for extension.
120.838  Expiration of existing, temporary expansions.
120.839  Case-by-case extensions.

Accredited Lenders Program

120.840  Accredited Lenders Program (ALP).

Premier Certified Lenders Program

120.845  Premier Certified Lenders Program.

Associate Development Companies (ADCs)

120.850  ADC functions.
120.851  ADC eligibility and operating requirements.
120.852  Suspension and revocation of ADCs.

Ethical Requirements

120.855  CDC and ADC ethical requirements.

Project Economic Development Goals

120.860  Required objectives.
120.861  Job creation or retention.
120.862  Other economic development objectives.

Leasing Policies Specific to 504 Loans

120.870  Leasing Project Property.
120.871  Leasing part of an existing building to another business.

Loan-Making Policies Specific to 504 Loans

120.880  Basic eligibility requirements.
120.881  Ineligible Projects for 504 loans.
120.882  Eligible Project costs for 504 loans.
120.883  Eligible administrative costs for 504 loans.
120.884  Ineligible costs for 504 loans.

Interim Financing

120.890  Source of interim financing.
120.891  Certifications of disbursement and completion.
120.892  Certifications of no adverse change.

Permanent Financing

120.900  What are the sources of permanent financing?

The Borrower's Contribution

120.910  How much must the Borrower contribute?
120.911  Land contributions.
120.912  Borrowed contributions.
120.913  May an SBIC provide the contribution?

Third Party Loans

120.920  The first lien position.
120.921  Terms of Third Party loans.
120.922  Pre-existing debt on the Project Property.
120.923  What are the policies on subordination?
120.924  Prepayment of subordinate financing.
120.925  Preferences.
120.926  Referral fees.

504 Loans and Debentures

120.930  Amount.
120.931  504 lending limits. 

[[Page 3238]]

120.932  Interest rate.
120.933  Maturity.
120.934  Collateral.
120.935  Deposit.
120.936  Subordination to CDC.
120.937  Assumption.
120.938  Default.
120.939  Borrower prohibition.
120.940  Prepayment of the 504 loan or Debenture.
120.941  Certificates.

Debenture Sales and Service Agents

120.950  SBA and CDC must appoint agents.
120.951  Selling agent.
120.952  Fiscal agent.
120.953  Trustee.
120.954  Central Servicing Agent.
120.955  Agent bonds and records.
120.956  Suspension or revocation of brokers and dealers.

Closings

120.960  Responsibility for closing.
120.961  Construction escrow accounts.

Servicing and Fees

120.970  Servicing of 504 loans and Debentures.
120.971  Allowable fees paid by Borrower.
120.972  Oversight and evaluation of CDCs and ADCs.

CDR Transfer, Suspension and Revocation

120.980  Transfer of CDC to ADC status.
120.981  Voluntary transfer and surrender of CDC certification.
120.982  Correcting CDC servicing deficiencies.
120.983  Transfer of CDC servicing to SBA or another CDC.
120.984  Suspension or revocation of CDC certification.

Enforceability of 501, 502 and 503 Loans and Other Laws

120.990  501, 502 and 503 loans.
120.991  Effect of other laws.

    Authority: 15 U.S.C 634(b)(6) and 636(a) and (h).

General Descriptions of SBA's Business Loan Programs


Sec. 120.1  Which loan programs does this part cover?

    This Part regulates SBA's financial assistance to small businesses 
under its general business loan programs (``7(a) loans'') authorized by 
section 7(a) of the Small Business Act (``the Act''), 15 U.S.C. 636(a), 
its microloan demonstration loan program (``Microloans'') authorized by 
section 7(m) of the Act, 15 U.S.C. 636(m), and its development company 
program (``504 loans'') authorized by Title V of the Small Business 
Investment Act, 15 U.S.C. 695 to 697f (``Title V''). These three 
programs constitute the business loan programs of the SBA.


Sec. 120.2  Descriptions of the business loan programs.

    (a) 7(a) loans. (1) 7(a) loans provide financing for general 
business purposes and may be:
    (i) A direct loan by SBA;
    (ii) An immediate participation loan by a Lender and SBA; or
    (iii) A guaranteed loan (deferred participation) by which SBA 
guarantees a portion of a loan made by a Lender.
    (2) A guaranteed loan is initiated by a Lender agreeing to make an 
SBA guaranteed loan to a small business and applying to SBA for SBA's 
guarantee under a blanket guarantee agreement (participation agreement) 
between SBA and the Lender. If SBA agrees to guarantee (authorizes) a 
portion of the loan, the Lender funds and services the loan. If the 
small business defaults on the loan, SBA's guarantee requires SBA to 
purchase its portion of the outstanding balance, upon demand by the 
Lender and subject to specific conditions. Regulations specific to 7(a) 
loans are found in subpart B of this part.
    (b) Microloans. SBA makes loans and loan guarantees to non-profit 
Intermediaries that make short-term loans up to $25,000 to eligible 
small businesses for general business purposes, except payment of 
personal debts. SBA also makes grants to Intermediaries for use in 
providing management assistance and counseling to small businesses. 
Regulations specific to these loans are found in subpart G of this 
part.
    (c) 504 loans. Projects involving 504 loans require long-term 
fixed-asset financing for small businesses. A Certified Development 
Company (CDC) provides the final portion of this financing with a 504 
loan made from the proceeds of a Debenture issued by the CDC, 
guaranteed 100 percent by SBA (with the full faith and credit of the 
United States), and sold to investors. The regulations specific to 
these loans are found in subpart H of this part.


Sec. 120.3  Pilot programs.

    The Administrator of SBA may from time to time suspend, modify, or 
waive rules for a limited period of time to test new programs or ideas. 
The Administrator shall publish a document in the Federal Register 
explaining the reasons for these actions.

Subpart A--Policies Applying to All Business Loans

Definitions


Sec. 120.10  Definitions.

    The following terms have the same meaning wherever they are used in 
this part. Defined terms are capitalized wherever they appear.
    Associate. (1) An Associate of a Lender or CDC is:
    (i) An officer, director, key employee, or holder of 20 percent or 
more of the value of the Lender's or CDC's stock or debt instruments, 
or an agent involved in the loan process;
    (ii) Any entity in which one or more individuals referred to in 
paragraphs (1)(i) of this definition or a Close Relative of any such 
individual owns or controls at least 20 percent.
    (2) An Associate of a small business is:
    (i) An officer, director, owner of more than 20 percent of the 
equity, or key employee of the small business;
    (ii) Any entity in which one or more individuals referred to in 
paragraphs (2)(i) of this definition owns or controls at least 20 
percent; and
    (iii) Any individual or entity in control of or controlled by the 
small business (except a Small Business Investment Company (``SBIC'') 
licensed by SBA).
    (3) For purposes of this definition, the time during which an 
Associate relationship exists commences six months before the following 
dates and continues as long as the certification, participation 
agreement, or loan is outstanding:
    (i) For a CDC, the date of certification by SBA;
    (ii) For a Lender, the date of application for a loan guarantee on 
behalf of an applicant; or
    (iii) For a small business, the date of the loan application to 
SBA, the CDC, the Intermediary, or the Lender.
    Authorization is SBA's written agreement providing the terms and 
conditions under which SBA will make or guarantee business loans. It is 
not a contract to make a loan.
    Borrower is the obligor of an SBA business loan.
    Certified Development Company (``CDC'') is an entity authorized by 
SBA to deliver 504 financing to small businesses.
    Close Relative is a spouse; a parent; or a child or sibling, or the 
spouse of any such person.
    Eligible Passive Company is a small entity or trust which does not 
engage in regular and continuous business activity, which leases real 
or personal property to an Operating Company for use in the Operating 
Company's business, and which complies with the conditions set forth in 
Sec. 120.111.
    Intermediary is the entity in the Microloan program that receives 
SBA financial assistance and makes loans to small businesses in amounts 
up to $25,000. 

[[Page 3239]]

    Lender is an institution that has executed a participation 
agreement with SBA under the guaranteed loan program.
    Loan Instruments are the Authorization, note, instruments of 
hypothecation, and all other agreements and documents related to a 
loan.
    Operating Company is an eligible small business actively involved 
in conducting business operations now or about to be located on real 
property owned by an Eligible Passive Company, or using or about to use 
in its business operations personal property owned by an Eligible 
Passive Company.
    Preference is any arrangement giving a Lender or a CDC a preferred 
position compared to SBA relating to the making, servicing, or 
liquidation of a business loan with respect to such things as 
repayment, collateral, guarantees, control, maintenance of a 
compensating balance, purchase of a Certificate of deposit or 
acceptance of a separate or companion loan, without SBA's consent.
    Rural Area is a political subdivision or unincorporated area in a 
non-metropolitan county (as defined by the Department of Agriculture), 
or, if in a metropolitan county, any such subdivision or area with a 
resident population under 20,000 which is designated by SBA as rural.
    Service Provider is an entity that contracts with a Lender or CDC 
to perform management, marketing, legal or other services.

Subpart A--Policies Applying to All Business Loans

Eligibility Requirements


Sec. 120.100  What are the basic eligibility requirements for all 
applicants for SBA business loans?

    To be eligible for an SBA business loan, a small business applicant 
must:
    (a) Be an operating business (except for loans to Eligible Passive 
Companies);
    (b) Be organized for profit;
    (c) Be located in the United States;
    (d) Be small under the size requirements of Part 121 of this 
chapter (including affiliates). See subpart H of this part for the size 
standards of Part 121 of this chapter which apply only to 504 loans; 
and
    (e) Be able to demonstrate a need for the desired credit.


Sec. 120.101  Credit not available elsewhere.

    SBA provides business loan assistance only to applicants for whom 
the desired credit is not otherwise available on reasonable terms from 
non-Federal sources. SBA requires the Lender or CDC to certify or 
otherwise show that the desired credit is unavailable to the applicant 
on reasonable terms and conditions from non-Federal sources without SBA 
assistance, taking into consideration the prevailing rates and terms in 
the community in or near where the applicant conducts business, for 
similar purposes and periods of time. Submission of an application to 
SBA by a Lender or CDC constitutes certification by the Lender or CDC 
that it has examined the availability of credit to the applicant, has 
based its certification upon that examination, and has substantiation 
in its file to support the certification.


Sec. 120.102  Funds not available from alternative sources, including 
personal resources of principals.

    (a) An applicant for a business loan must show that the desired 
funds are not available from the personal resources of any owner of 20 
percent or more of the equity of the applicant. SBA will require the 
use of personal resources from any such owner as an injection to reduce 
the SBA funded portion of the total financing package (i.e., any SBA 
loans and any other financing, including loans from any other source) 
when that owner's liquid assets exceed the amounts specified in 
paragraphs (a)(1) through (3) of this section. When the total financing 
package:
    (1) Is $250,000 or less, each 20 percent owner of the applicant 
must inject any personal liquid assets which are in excess of two times 
the total financing package or $100,000, whichever is greater;
    (2) Is between $250,001 and $500,000, each 20 percent owner of the 
applicant must inject any personal liquid assets which are in excess of 
one and one-half times the total financing package or $500,000, 
whichever is greater;
    (3) Exceeds $500,000, each 20 percent owner of the applicant must 
inject any personal liquid assets which are in excess of one times the 
total financing package or $750,000, whichever is greater.
    (b) Any liquid assets in excess of the applicable amount set forth 
in paragraph (a) of this section must be used to reduce the SBA portion 
of the total financing package. These funds must be injected prior to 
the disbursement of the proceeds of any SBA financing.
    (c) For purposes of this section, liquid assets means cash or cash 
equivalent, including savings accounts, CDs, stocks, bonds, or other 
similar assets. Equity in real estate holdings and other fixed assets 
are not to be considered liquid assets.


Sec. 120.103  Are farm enterprises eligible?

    Federal financial assistance to agricultural enterprises is 
generally made by the United States Department of Agriculture (USDA), 
but may be made by SBA under the terms of a Memorandum of Understanding 
between SBA and USDA. Farm-related businesses which are not 
agricultural enterprises are eligible businesses under SBA's business 
loan programs.


Sec. 120.104  Are businesses financed by SBICs eligible?

    SBA may make or guarantee loans to a business financed by an SBIC 
if SBA's collateral position will be superior to that of the SBIC. SBA 
may also make or guarantee a loan to an otherwise eligible small 
business which temporarily is owned or controlled by an SBIC under the 
regulations in part 107 of this chapter. SBA neither guarantees SBIC 
loans nor makes loans jointly with SBICs.


Sec. 120.105  Special consideration for veterans.

    SBA will give special consideration to a small business owned by a 
veteran or, if the veteran chooses not to apply, to a business owned or 
controlled by one of the veteran's dependents. If the veteran is 
deceased or permanently disabled, SBA will give special consideration 
to one survivor or dependent. SBA will process the application of a 
business owned or controlled by a veteran or dependent promptly, 
resolve close questions in the applicant's favor, and pay particular 
attention to maximum loan maturity. For SBA loans, a veteran is a 
person honorably discharged from active military service.

Ineligible Businesses and Eligible Passive Companies


Sec. 120.110  What businesses are ineligible for SBA business loans?

    The following types of businesses are ineligible:
    (a) Non-profit businesses (for-profit subsidiaries are eligible);
    (b) Financial businesses primarily engaged in the business of 
lending, such as banks, finance companies, and factors (pawn shops, 
although engaged in lending, may qualify in some circumstances);
    (c) Passive businesses owned by developers and landlords that do 
not actively use or occupy the assets acquired or improved with the 
loan proceeds (except Eligible Passive Companies under Sec. 120.111); 

[[Page 3240]]

    (d) Life insurance companies;
    (e) Businesses located in a foreign country (businesses in the U.S. 
owned by aliens may qualify);
    (f) Pyramid sale distribution plans;
    (g) Businesses deriving more than one-third of gross annual revenue 
from legal gambling activities;
    (h) Businesses engaged in any illegal activity;
    (i) Private clubs and businesses which limit the number of 
memberships for reasons other than capacity;
    (j) Government-owned entities (except for businesses owned or 
controlled by a Native American tribe);
    (k) Businesses principally engaged in teaching, instructing, 
counseling or indoctrinating religion or religious beliefs, whether in 
a religious or secular setting;
    (l) Consumer and marketing cooperatives (producer cooperatives are 
eligible);
    (m) Loan packagers earning more than one third of their gross 
annual revenue from packaging SBA loans;
    (n) Businesses with an Associate who is incarcerated, on probation, 
on parole, or has been indicted for a felony or a crime of moral 
turpitude;
    (o) Businesses in which the Lender or CDC, or any of its Associates 
owns an equity interest;
    (p) Businesses which:
    (1) Present live performances of a prurient sexual nature; or
    (2) Derive directly or indirectly more than de minimis gross 
revenue through the sale of products or services, or the presentation 
of any depictions or displays, of a prurient sexual nature;
    (q) Unless waived by SBA for good cause, businesses that have 
previously defaulted on a Federal loan or Federally assisted financing, 
resulting in the Federal government or any of its agencies or 
Departments sustaining a loss in any of its programs, and businesses 
owned or controlled by an applicant or any of its Associates which 
previously owned, operated, or controlled a business which defaulted on 
a Federal loan (or guaranteed a loan which was defaulted) and caused 
the Federal government or any of its agencies or Departments to sustain 
a loss in any of its programs. For purposes of this section, a 
compromise agreement shall also be considered a loss;
    (r) Businesses primarily engaged in political or lobbying 
activities; and
    (s) Speculative businesses (such as oil wildcatting).


Sec. 120.111  What conditions must an Eligible Passive Company satisfy?

    An Eligible Passive Company must use loan proceeds to acquire or 
lease, and/or improve or renovate real or personal property (including 
eligible refinancing) that it leases to an Operating Company for the 
conduct of the Operating Company's business. Any ownership structure or 
legal form may qualify as an Eligible Passive Company.
    (a) Conditions that apply to all legal forms:
    (1) The Operating Company must be an eligible small business, and 
the proposed use of the proceeds must be an eligible use if the 
Operating Company were obtaining the financing directly;
    (2) The Eligible Passive Company (with the exception of a trust) 
and the Operating Company each must be small under the appropriate size 
standards in part 121 of this chapter;
    (3) The lease between the Eligible Passive Company and the 
Operating Company must be in writing and must be subordinated to SBA's 
mortgage, trust deed lien, or security interest on the property. Also, 
the Eligible Passive Company (as landlord) must furnish as collateral 
for the loan an assignment of all rents paid under the lease;
    (4) The lease between the Eligible Passive Company of the Operating 
Company, including options to renew exercisable solely by the Operating 
Company, must have a remaining term at least equal to the term of the 
loan;
    (5) The Operating Company must be a guarantor or a co-borrower 
(with the Eligible Passive Company) of the loan (in a 7(a) loan 
including working capital, the Operating Company must be a co-
borrower); and
    (6) Each holder of an ownership interest constituting at least 20 
percent of the Eligible Passive Company and the Operating Company must 
guarantee the loan (the trustee shall execute the guarantee on behalf 
of any trust).
    (b) Additional conditions that apply to trusts. The eligibility 
status of the trustor will determine trust eligibility. All donors to 
the trust will be deemed to have trustor status for eligibility 
purposes. A trust qualifying as an Eligible Passive Company may engage 
in other activities as authorized by its trust agreement. The trustee 
must warrant and certify that the trust will not be revoked or 
substantially amended for the term of the loan without the consent of 
SBA. The trustor must guarantee the loan. For purposes of this section, 
the trustee shall certify to SBA that:
    (1) The trustee has authority to act;
    (2) The trust is not regarded as a grantor trust for tax purposes;
    (3) The trust has the authority to borrow funds, pledge trust 
assets, and lease the property to the Operating Company;
    (4) The trustee has provided accurate, pertinent language from the 
trust agreement confirming the above; and
    (5) The trustee has provided and will continue to provide SBA with 
a true and complete list of all trustors and donors.

Uses of Proceeds


Sec. 120.120  What are eligible uses of proceeds?

    A small business must use an SBA business loan for sound business 
purposes. The uses of proceeds are prescribed in each loan's 
Authorization.
    (a) A Borrower may use loan proceeds from any SBA loan to:
    (1) Acquire land (by purchase or lease);
    (2) Improve a site (e.g., grading, streets, parking lots, 
landscaping), including up to 5 percent for community improvements such 
as curbs and sidewalks;
    (3) Purchase one or more existing buildings;
    (4) Convert, expand or renovate one or more existing buildings;
    (5) Construct one or more new buildings; and/or
    (6) Acquire (by purchase or lease) and install fixed assets (for a 
504 loan, these assets must have a useful life of at least 10 years and 
be at a fixed location, although short-term financing for equipment, 
furniture, and furnishings may be permitted where essential to and a 
minor portion of the 504 Project).
    (b) A Borrower may also use 7(a) and microloan proceeds for:
    (1) Inventory;
    (2) Supplies;
    (3) Raw materials; and
    (4) Working capital (if the Operating Company is a co-Borrower with 
an Eligible Passive Company, part of the loan proceeds may be applied 
for working capital if used for that purpose only by the Operating 
Company).
    (c) A Borrower may use 7(a) loan proceeds for refinancing certain 
outstanding debts.


Sec. 120.130  Restrictions on uses of proceeds.

    SBA will not authorize nor may a Borrower use loan proceeds for the 
following purposes (including the replacement of funds used for any 
such purpose):
    (a) Payments, distributions or loans to Associates of the applicant 
(except for ordinary compensation for services rendered);
    (b) Refinancing a debt owed to a Small Business Investment Company 
(``SBIC'');
    (c) Floor plan financing or other revolving line credit, except 
under Sec. 120.390; 

[[Page 3241]]

    (d) Investments in real or personal property acquired and held 
primarily for sale, lease, or investment (except for a loan to an 
Eligible Passive Company or to a small contractor under Sec. 120.310);
    (e) A purpose which does not benefit the small business; or
    (f) Any use restricted by Secs. 120.201 through 120.203 and 120.884 
(specific to 7(a) loans and 504 loans respectively).


Sec. 120.131  Leasing part of new construction or existing building to 
another business.

    (a) If the SBA business loan involves the construction of a new 
building, a Borrower may lease up to 33% of the square footage of 
rentable property (total square footage of all buildings or facilities 
used for business operations) for a short term to any third party if 
reasonable growth projections show that the Borrower will need 
additional space within three years and will use all of the additional 
space within ten years. If the Borrower is an Eligible Passive Company 
leasing 100 percent of the Project space to an Operating Company, the 
Operating Company may sublease up to 33 percent to a third party under 
the same conditions.
    (b) If the SBA business loan involves the acquisition, renovation, 
or reconstruction of an existing building, the Borrower (or Operating 
Company, if the Borrower is an Eligible Passive Company) must occupy at 
least 51 percent of the Rentable Property. The balance of the Rentable 
Property may be leased out to any third party, if the loan proceeds 
were not used to remodel or convert the space to be leased out. (For 
504 loans, see also Sec. 120.871.)

Ethical Requirements


Sec. 120.140  What ethical requirements apply to participants?

    Lenders, Intermediaries, CDCs, and Associate Development Companies 
(``ADCs'') (in this section, collectively referred to as 
``Participants''), must act ethically and exhibit good character. 
Ethical indiscretion of an Associate of a Participant or a member of a 
CDC will be attributed to the Participant. A Participant must promptly 
notify SBA if it obtains information concerning the unethical behavior 
of an Associate. The following are examples of such unethical behavior. 
A Participant may not:
    (a) Self-deal;
    (b) Have a real or apparent conflict of interest with a small 
business with which it is dealing (including any of its Associates or 
an Associate's Close Relatives) or SBA;
    (c) Own an equity interest in a business that has received or is 
applying to receive SBA financing (during the term of the loan or 
within 6 months prior to the loan application);
    (d) Be incarcerated, on parole, or on probation;
    (e) Knowingly misrepresent or make a false statement to SBA;
    (f) Engage in conduct reflecting a lack of business integrity or 
honesty;
    (g) Be a convicted felon, or have an adverse final civil judgment 
(in a case involving fraud, breach of trust, or other conduct) that 
would cause the public to question the Participant's business 
integrity, taking into consideration such factors as the magnitude, 
repetition, harm caused, and remoteness in time of the activity or 
activities in question;
    (h) Accept funding from any source that restricts, prioritizes, or 
conditions the types of small businesses that the Participant may 
assist under an SBA program or that imposes any conditions or 
requirements upon recipients of SBA assistance inconsistent with SBA's 
loan programs or regulations;
    (i) Fail to disclose to SBA all relationships between the small 
business and its Associates (including Close Relatives of Associates), 
the Participant, and/or the lenders financing the Project of which it 
is aware or should be aware;
    (j) Fail to disclose to SBA whether the loan will:
    (1) Reduce the exposure of a Participant or an Associate of a 
Participant in a position to sustain a loss;
    (2) Directly or indirectly finance the purchase of real estate, 
personal property or services (including insurance) from the 
Participant or an Associate of the Participant;
    (3) Repay or refinance a debt due a Participant or an Associate of 
a Participant; or
    (4) Require the small business, or an Associate (including Close 
Relatives of Associates), to invest in the Participant (except for 
institutions which require an investment from all members as a 
condition of membership, such as a Production Credit Association);
    (k) Issue a real estate forward commitment to a builder or 
developer; or
    (l) Engage in any activity which taints its objective judgment in 
evaluating the loan.

Credit Criteria for SBA Loans


Sec. 120.150  What are SBA's lending criteria?

    The applicant (including an Operating Company) must be 
creditworthy. Loans must be so sound as to reasonably assure repayment. 
SBA will consider:
    (a) Character, reputation, and credit history of the applicant (and 
the Operating Company, if applicable), its Associates, and guarantors;
    (b) Experience and depth of management;
    (c) Strength of the business;
    (d) Past earnings, projected cash flow, and future prospects;
    (e) Ability to repay the loan with earnings from the business;
    (f) Sufficient invested equity to operate on a sound financial 
basis;
    (g) Potential for long-term success;
    (h) Nature and value of collateral (although inadequate collateral 
will not be the sole reason for denial of a loan request); and
    (i) The effect any affiliates (as defined in part 121 of this 
chapter) may have on the ultimate repayment ability of the applicant.


Sec. 120.151  What is the statutory limit for total loans to a 
Borrower?

    The aggregate amount of the SBA portions of all loans to a single 
Borrower, including the Borrower's affiliates as defined in part 121 of 
this chapter, may not exceed a guarantee amount of $750,000, except as 
otherwise authorized by statute for a specific loan program. The amount 
of any loan received by an Eligible Passive Company applies to the loan 
limit of both the Eligible Passive Company and the Operating Company.


Sec. 120.160  Loan conditions.

    The following requirements are normally required by SBA for all 
business loans:
    (a) Personal guarantees. Holders of at least a 20 percent ownership 
interest generally must guarantee the loan. SBA, in its discretion, 
consulting with the Participating Lender, may require other appropriate 
individuals to guarantee the loan as well, except SBA will not require 
personal guarantees from those owning less than 5% ownership.
    (b) Appraisals. SBA may require professional appraisals of the 
applicant's and principals' assets, a survey, or a feasibility study.
    (c) Hazard Insurance. SBA requires hazard insurance on all 
collateral.
    (d) Taxes. The applicant may not use any of the proceeds to pay 
past-due Federal and state payroll taxes.

Requirements Imposed Under Other Laws and Orders


Sec. 120.170  Flood insurance.

    Under the Flood Disaster Protection Act of 1973 (Sec. 205(b) of 
Pub. L. 93-234; 87 Stat. 983 (42 U.S.C. 4000 et seq.)), a loan 
recipient must obtain flood insurance if any building (including 

[[Page 3242]]
mobile homes), machinery, or equipment acquired, installed, improved, 
constructed, or renovated with the proceeds of SBA financial assistance 
is located in a special flood hazard area. The requirement applies also 
to any inventory (business loan program), fixtures or furnishings 
contained or to be contained in the building. Mobile homes on a 
foundation are buildings. SBA, Lenders, CDCs, and Intermediaries must 
notify Borrowers that flood insurance must be maintained.


Sec. 120.171  Compliance with child support obligations.

    Any holder of 50% or more of the ownership interest in the 
recipient of an SBA loan must certify that he or she is not more than 
60 days delinquent on any obligation to pay child support arising 
under:
    (a) An administrative order;
    (b) A court order;
    (c) A repayment agreement between the holder and a custodial 
parent; or
    (d) A repayment agreement between the holder and a State agency 
providing child support enforcement services.


Sec. 120.172  Flood-plain and wetlands management.

    (a) All loans must conform to requirements of Executive Orders 
11988, ``Flood Plain Management'' (3 CFR, 1977 Comp., p. 117) and 
11990, ``Protection of Wetlands'' (3 CFR, 1977 Comp., p. 121). Lenders, 
Intermediaries, CDCs, and SBA must comply with requirements applicable 
to them. Applicants must show:
    (1) Whether the location for which financial assistance is proposed 
is in a floodplain or wetland;
    (2) If it is in a floodplain, that the assistance is in compliance 
with local land use plans; and
    (3) That any necessary construction or use permits will be issued.
    (b) Generally, there is an 8-step decision making process with 
respect to:
    (1) Construction or acquisition of anything, other than a building;
    (2) Repair and restoration equal to more than 50% of the market 
value of a building; or
    (3) Replacement of destroyed structures.
    (c) SBA may determine for the following types of actions, on a 
case-by-case basis, that the full 8-step process is not warranted and 
that only the first step (determining if a proposed action is in the 
base floodplain) need be completed:
    (1) Actions located outside the base floodplain;
    (2) Repairs, other than to buildings, that are less than 50% of the 
market value;
    (3) Replacement of building contents, materials, and equipment;
    (4) Hazard mitigation measures;
    (5) Working capital loans; or
    (6) SBA loan assistance of $1,500,000 or less.


Sec. 120.173  Lead-based paint.

    If loan proceeds are for the construction or rehabilitation of a 
residential structure, lead-based paint may not be used on any interior 
surface, or on any exterior surface that is readily accessible to 
children under the age of seven years.


Sec. 120.174  Earthquake hazards.

    When loan proceeds are used to construct a new building or an 
addition to an existing building, the construction must conform with 
the ``National Earthquake Hazards Reduction Program (``NEHRP'') 
Recommended Provisions for the Development of Seismic Regulations for 
New Buildings'' (which can be obtained from the Federal Emergency 
Management Agency, Publications Office, Washington, D.C.) or a code 
identified by SBA as being substantially equivalent.


Sec. 120.175  Coastal barrier islands.

    SBA and Intermediaries may not make or guarantee any loan within 
the Coastal Barrier Resource System.


Sec. 120.176  Compliance with other laws.

    All SBA loans are subject to all applicable laws, including 
(without limitation) the civil rights laws (see Parts 112, 113, 117 and 
136 of this chapter), prohibiting discrimination on the grounds of 
race, color, national origin, religion, sex, marital status, disability 
or age. SBA requests agreements or evidence to support or document 
compliance with these laws, including reports required by applicable 
statutes or the regulations in this chapter.

Enforceability Despite Rule Changes


Sec. 120.180  Are rules enforceable if they are changed later?

    Regulations and contractual provisions in effect at the time of a 
transaction govern an SBA loan financing transaction, notwithstanding 
subsequent rule or contract changes. SBA may conduct an enforcement 
action regarding any violation of provisions of regulations or 
contracts applicable at the time, but no longer in effect or in use.

Loan Applications


120.190  Where does an applicant apply for a loan?

    An applicant for a business loan should apply to:
    (a) A Lender for a guaranteed or immediate participation loan;
    (b) A CDC for a 504 loan;
    (c) An Intermediary for a Microloan; or
    (d) SBA for a direct loan.


Sec. 120.191  The contents of a business loan application.

    For most business loans, SBA requires that an application for a 
business loan contain, among other things, a description of the history 
and nature of the business, the amount and purpose of the loan, the 
collateral offered for the loan, current financial statements, 
historical financial statements (or tax returns if appropriate) for the 
past three years, IRS tax verification, and a business plan, when 
applicable. Personal histories and financial statements will be 
required from principals of the applicant (and the Operating Company, 
if applicable).


Sec. 120.192  Approval or denial.

    Applicants receive notice of approval or denial by the Lender, CDC, 
Intermediary, or SBA, as appropriate. Notice of denial will include the 
reasons. If a loan is approved, an Authorization will be issued.


Sec. 120.193  Reconsideration after denial.

    An applicant or recipient of a business loan may request 
reconsideration of a denied loan or loan modification request within 6 
months of denial. Applicants denied due to a size determination can 
appeal that determination under part 121 of this chapter. All others 
must be submitted to the office that denied the original request. To 
prevail, the applicant must demonstrate that it has overcome all 
legitimate reasons for denial. Six months after denial, a new 
application is required. If the reconsideration is denied, a second and 
final reconsideration may be considered by the Associate Administrator 
for Financial Assistance (AA/FA), whose decision is final.

Computerized SBA Forms


Sec. 120.194  Use of computer forms.

    Any Applicant or Participant may use computer generated SBA 
application forms, closing forms, and other forms designated by SBA if 
the forms are exact reproductions of SBA forms.

Reporting of Fees 

[[Page 3243]]



Sec. 120.195  Disclosure of fees.

    An Applicant for a business loan must identify to SBA the name of 
each Agent as defined in part 103 of this chapter that helped the 
applicant obtain the loan, describing the services performed, and 
disclosing the amount of each fee paid or to be paid by the applicant 
to the Agent in conjunction with the performance of those services.

Subpart B--Policies Specific to 7(a) Loans

Bonding Requirements


Sec. 120.200  What bonding requirements exist during construction?

    On 7(a) loans which finance construction, the Borrower must supply 
a 100 percent payment and performance bond and builder's risk 
insurance, unless waived by SBA.

Limitations on Use of Proceeds


Sec. 120.201  Refinancing unsecured or undersecured loans.

    A Borrower may not use 7(a) loan proceeds to pay any creditor in a 
position to sustain a loss causing a shift to SBA of all or part of a 
potential loss from an existing debt.


Sec. 120.202  Restrictions on loans for changes in ownership.

    A Borrower may not use 7(a) loan proceeds to purchase a portion of 
a business or a portion of another owner's interest. One or more 
current owners may use loan proceeds to purchase the entire interest of 
another current owner, or a Borrower can purchase ownership of an 
entire business.

Maturities; Interest Rates; Loan and Guarantee Amounts


Sec. 120.210  What percentage of a loan may SBA guarantee?

    SBA's guarantee percentage must not exceed the applicable 
percentage established in section 7(a) of the Act. The maximum 
allowable guarantee percentage on a loan will be determined by the loan 
amount. As of October 12, 1995, the percentages are: Loans of $100,000 
or less may receive a maximum guarantee of 80 percent. All other loans 
may receive a maximum guarantee of 75 percent, not to exceed $750,000, 
unless otherwise authorized by SBA.


Sec. 120.211  What limits are there on the amounts of direct loans?

    (a) The statutory limit for direct loans made under the authority 
of section 7(a)(1)-(19) of the Small Business Act is $350,000. SBA has 
established an administrative limit of $150,000 for direct loans. The 
AA/FA may authorize acceptance of an application up to the statutory 
limit.
    (b) The statutory limit for direct loans made under the authority 
of section 7(a)(20) is $750,000. SBA has established an administrative 
limit of $150,000. The Associate Administrator for Minority Enterprise 
Development may authorize the acceptance of an application that exceeds 
the administrative limit.
    (c) The statutory limit on SBA's portion of an immediate 
participation loan is $350,000. The administrative limit is the lesser 
of 75 percent of the loan or $150,000. The AA/FA may authorize 
exceptions to the administrative limit up to $350,000.


Sec. 120.212  What limits are there on loan maturities?

    The term of a loan shall be:
    (a) The shortest appropriate term, depending upon the Borrower's 
ability to repay;
    (b) Ten years or less, unless it finances or refinances real estate 
or equipment with a useful life exceeding ten years; and
    (c) A maximum of 25 years, including extensions. (A portion of a 
loan used to acquire or improve real property may have a term of 25 
years plus an additional period needed to complete the construction or 
improvements.)


Sec. 120.213  What fixed interest rates may a Lender charge?

    (a) Fixed Rates for Guaranteed Loans. A loan may have a reasonable 
fixed interest rate. SBA periodically publishes the maximum allowable 
rate in the Federal Register.
    (b) Direct loans. A statutory formula based on the cost of money to 
the Federal government determines the interest rate on direct loans. 
SBA publishes the rate periodically in the Federal Register.


Sec. 120.214  What conditions apply for variable interest rates?

    A Lender may use a variable rate of interest, upon SBA's approval. 
SBA's maximum allowable rates apply only to the initial rate on the 
date SBA received the loan application. SBA shall approve the use of a 
variable interest rate under the following conditions:
    (a) Frequency. The first change may occur on the first calendar day 
of the month following initial disbursement, using the base rate (see 
paragraph (c) of this section) in effect on the first business day of 
the month. After that, changes may occur no more often than monthly.
    (b) Range of fluctuation. The amount of fluctuation shall be equal 
to the movement in the base rate. The difference between the initial 
rate and the ceiling rate may be no greater than the difference between 
the initial rate and the floor rate.
    (c) Base rate. The base rate shall be the prime rate in effect on 
the first business day of the month, printed in a national financial 
newspaper published each business day, or the SBA Optional Peg Rate 
which SBA publishes quarterly in the Federal Register.
    (d) Maturities under 7 years. For loans with maturities under seven 
years, the maximum interest rate shall not exceed two and one-quarter 
(2 1/4 ) percentage points over the base rate.
    (e) Maturities of 7 years or more. For loans with maturities of 
seven or more years, the maximum interest rate shall not exceed two and 
three-quarters (2 3/4 ) percentage points over the base rate.
    (f) Amortization. Initial amortization of principal and interest 
may be recomputed and reassessed as interest rates fluctuate, as 
directed by SBA. With prior approval of SBA, the Lender may use certain 
other amortization methods, except that SBA does not allow balloon 
payments.


Sec. 120.215  What interest rates apply to smaller loans?

    For a loan over $25,000 but not exceeding $50,000, the interest 
rate may be one percent more than the maximum interest rate described 
above. For a variable rate loan of $25,000 or less, the maximum 
interest rate described above may be increased by two percentage 
points.

Fees for Guaranteed Loans


Sec. 120.220  Fees that Lender pays SBA.

    (a) The Lender pays a guarantee fee to SBA for each loan as 
follows:

----------------------------------------------------------------------------------------------------------------
                                   Fee measured as                        Lender may get                        
  Guaranteed portion of loan        percentage of        When payable        fee from       When SBA refunds fee
                                  guaranteed portion                         borrower          from borrower    
----------------------------------------------------------------------------------------------------------------
12 Months or less.............  25%..................  With Guarantee    When SBA          If Application       
                                                        Application.      Approves Loan.    Withdrawn or        
                                                                                            Denied.\1\          

[[Page 3244]]
                                                                                                                
More Than 12 months and Total   2.0% of Guaranteed     Within 90 days    After First       If Loan Cancelled and
 Guaranteed Portion Is $80,000   Portion.               of SBA Approval.  Disbursement.     Never Disbursed.    
 or Less.                                                                                                       
More Than 12 Months and Amount  3%...................  Within 90 Days    After First       If Loan Cancelled and
 of Guaranteed Portion of Loan                          of SBA Approval.  Disbursement.     Never Disbursed.    
 That Is $250,000 or Less.                                                                                      
More Than 12 Months and Amount  3.0% of 1st $250,000   Within 90 Days    After First       If Loan Cancelled and
 of Guaranteed Portion of Loan   plus 3.5% of balance.  of SBA Approval.  Disbursement.     Never Disbursed.    
 Between $250,000 and $500,000.                                                                                 
More Than 12 Months and Amount  3.0% of 1st $250,000   Within 90 Days    After First       If Loan Cancelled and
 of Guaranteed Portion of Loan   plus 3.5% of next      of SBA Approval.  Disbursement.     Never Disbursed.    
 Exceeding $500,000.             $250,000 plus 3.875%                                                           
                                 of the Amount                                                                  
                                 Exceeding $500,000.                                                            
----------------------------------------------------------------------------------------------------------------
\1\ Also, if SBA substantially changes the Lender's loan terms and approves the loan, but the modified terms are
  unacceptable to the Borrower or Lender. (The Lender must request refund in writing within 30 calendar days of 
  the approval).                                                                                                


    (b) If the guarantee fee is not paid, SBA may terminate the 
guarantee. The Borrower may use working capital loan proceeds to 
reimburse the Lender for the guarantee fee. Acceptance of the guarantee 
fee by SBA shall not waive any right of SBA arising from the Lender's 
misconduct or violation of any provision of this part, the guarantee 
agreement, the Authorization, or other loan documents.
    (c) The Lender shall also pay SBA an annual service fee equal to 
0.5 percent of the outstanding balance of the guaranteed portion of 
each loan. The service fee cannot be charged to the Borrower. SBA may 
institute a late fee charge for delinquent payments of the annual 
service fee to cover administrative costs associated with collecting 
delinquent fees.


Sec. 120.221  Fees which the Lender may collect from a loan applicant.

    (a) Service and packaging fees. The Lender may charge an applicant 
reasonable fees (customary for similar Lenders in the geographic area 
where the loan is being made) for packaging and other services. The 
Lender must advise the applicant in writing that the applicant is not 
required to obtain or pay for unwanted services. The applicant is 
responsible for deciding whether fees are reasonable. SBA may review 
these fees at any time. Lender must refund any such fee considered 
unreasonable by SBA.
    (b) Extraordinary servicing. Subject to prior written SBA approval, 
if all or part of a loan will have extraordinary servicing needs, the 
Lender may charge the applicant a service fee not to exceed 2 percent 
per year on the outstanding balance of the part requiring special 
servicing.
    (c) Out-of-pocket expenses. The Lender may collect from the 
applicant necessary out-of-pocket expenses such as filing or recording 
fees.
    (d) Late payment fee. The Lender may charge the Borrower a late 
payment fee not to exceed 5 percent of the regular loan payment.
    (e) No prepayment fee. The Lender may not charge a fee for full or 
partial prepayment of a loan.


Sec. 120.222  Fees which the Lender or Associate may not collect from 
the Borrower or share with third parties.

    The Lender or its Associate may not:
    (a) Require the applicant or Borrower to pay the Lender, an 
Associate, or any party designated by either, any fees or charges for 
goods or services, including insurance, as a condition for obtaining an 
SBA guaranteed loan (unless permitted by this part);
    (b) Charge an applicant any commitment, bonus, broker, commission, 
referral or similar fee;
    (c) Charge points or add-on interest;
    (d) Share any premium received from the sale of an SBA guaranteed 
loan in the secondary market with a Service Provider, packager, or 
other loan-referral source; or
    (e) Charge the Borrower for legal services, unless they are hourly 
charges for requested services actually rendered.

Subpart C--Special Purpose Loans


Sec. 120.300  Statutory authority.

    Congress has authorized several special purpose programs in various 
subsections of section 7(a) of the Act. Generally, 7(a) loan policies, 
eligibility requirements and credit criteria enumerated in Subpart B of 
this part apply to these programs. The sections of this subpart 
prescribe the special conditions applying to each special purpose 
program. As with other business loans, special purpose loans are 
available only to the extent funded by annual appropriations.

Disabled Assistance Loan Program (DAL)


Sec. 120.310  What assistance is available for the disabled?

    Section 7(a)(10) of the Act authorizes SBA to guarantee or make 
direct loans to the disabled. SBA distinguishes two kinds of 
assistance:
    (a) DAL-1. DAL-1 Financial Assistance is available to non-profit 
public or private organizations for disabled individuals that employ 
such individuals; or
    (b) DAL-2. DAL-2 Financial Assistance is available to:
    (1) Small businesses wholly owned by disabled individuals; and
    (2) Disabled individuals to establish, acquire, or operate a small 
business.


Sec. 120.311  Definitions.

    (a) Organization for the disabled means one which:
    (1) Is organized under federal or state law to operate in the 
interest of disabled individuals;
    (2) Is non-profit;
    (3) Employs disabled individuals for seventy-five percent of the 
time needed to produce commodities or services for sale; and
    (4) Complies with occupational and safety standards prescribed by 
the Department of Labor.
    (b) Disabled individual means a person who has a permanent 
physical, mental or emotional impairment, defect, ailment, disease or 
disability which limits the type of employment for which the person 
would otherwise be qualified.


Sec. 120.312  DAL-1 use of proceeds and other program conditions.

    (a) DAL-1 applicants must submit appropriate documents to establish 
program eligibility. 

[[Page 3245]]

    (b) Generally, applicants may use loan proceeds for any 7(a) loan 
purposes. Loan proceeds may not be used:
    (1) To purchase or construct facilities if construction grants and 
mortgage assistance are available from another Federal source; or
    (2) For supportive services (expenses incurred by a DAL-1 
organization to subsidize wages of low producers, health and 
rehabilitation services, management, training, education, and housing 
of disabled workers).
    (c) SBA does not consider a DAL-1 organization to have a conflict 
of interest if one or more of its Associates is an Associate of the 
Lender.


Sec. 120.313  DAL-2 use of proceeds and other program conditions.

    (a) The DAL-2 loan proceeds may be used for any 7(a) loan purposes.
    (b) An applicant may use DAL-2 loan proceeds to acquire an eligible 
small business without complying with the change of ownership 
conditions in Sec. 120.202.
    (c) A DAL-2 applicant must submit evidence from a physician, 
psychiatrist, or other qualified professional as to the permanent 
nature of the disability and the limitation it places on the applicant.


Sec. 120.314  Resolving doubts about creditworthiness.

    For the purpose of the DAL Program, SBA shall resolve doubts 
concerning the creditworthiness of an applicant in favor of the 
applicant. However, the applicant must present satisfactory evidence of 
repayment ability. Personal guarantees of Associates are not required 
for purposes of DAL-1 financial assistance.


Sec. 120.315  Interest rate and loan limit.

    The interest rate on direct DAL loans is three percent. There is an 
administrative limit of $150,000 on a direct DAL loan.

Businesses Owned by Low Income Individuals


Sec. 120.320  Policy.

    Section 7(a)(11) of the Act authorizes SBA to guarantee or make 
direct loans to establish, preserve or strengthen small business 
concerns:
    (a) Located in an area having high unemployment according to the 
Department of Labor;
    (b) Located in an area in which a high percentage of individuals 
have a low income inadequate to satisfy basic family needs; and
    (c) More than 50 percent owned by low income individuals.

Energy Conservation


Sec. 120.330  Who is eligible for an energy conservation loan?

    SBA may make or guarantee loans to assist a small business to 
design, engineer, manufacture, distribute, market, install, or service 
energy devices or techniques designed to conserve the Nation's energy 
resources.


Sec. 120.331  What devices or techniques are eligible for a loan?

    Eligible energy conservation devices or techniques include:
    (a) Solar thermal equipment;
    (b) Photovoltaic cells and related equipment;
    (c) A product or service which increases the energy efficiency of 
existing equipment, methods of operation or systems which use fossil 
fuels, and which is on the Energy Conservation Measures list of the 
Secretary of Energy;
    (d) Equipment producing energy from wood, biological waste, grain 
or other biomass energy sources;
    (e) Equipment for cogeneration of energy, district heating or 
production of energy from industrial waste;
    (f) Hydroelectric power equipment;
    (g) Wind energy conversion equipment; and
    (h) Engineering, architectural, consulting, or other professional 
services necessary or appropriate for any of the devices or techniques 
in paragraphs (a) through (g) of this section.


Sec. 120.332  What are the eligible uses of proceeds?

    (a) Acquire property. The Borrower may use the loan proceeds to 
acquire land necessary for imminent plant construction, buildings, 
machinery, equipment, furniture, fixtures, facilities, supplies, and 
material needed to accomplish any of the eligible program purposes in 
Sec. 120.330.
    (b) Research and development. Up to 30% of loan proceeds may be 
used for research and development:
    (1) Of an existing product or service; or
    (2) A new product or service.
    (c) Working capital. The Borrower may use proceeds for working 
capital for entering or expanding in the energy conservation market.


Sec. 120.333  Are there any special credit criteria?

    In addition to regular credit evaluation criteria, SBA shall weigh 
the greater risk associated with energy projects. SBA shall consider 
such factors as quality of the product or service, technical 
qualifications of the applicant's management, sales projections, and 
financial status.

Export Working Capital Program (EWCP)


Sec. 120.340  What is the Export Working Capital Program?

    Under the EWCP, SBA guarantees short-term working capital loans 
made by participating lenders to exporters (section 7(a)(14) of the 
Act). Loan maturities may be for up to three years with annual 
renewals. Proceeds can be used only to finance export transactions. 
Loans can be for single or multiple export transactions. An export 
transaction is the production and payment associated with a sale of 
goods or services to a foreign buyer.


Sec. 120.341  Who is eligible?

    In addition to the eligibility criteria applicable to all 7(a) 
loans, an applicant must be in business for one full year at the time 
of application, but not necessarily in the exporting business. SBA may 
waive this requirement if the applicant has sufficient export trade 
experience or other managerial experience.


Sec. 120.342  What are eligible uses of proceeds?

    Loan proceeds may be used:
    (a) To acquire inventory;
    (b) To pay the manufacturing costs of goods for export;
    (c) To purchase goods or services for export;
    (d) To support standby letters of credit;
    (e) For pre-shipment working capital; and
    (f) For post-shipment foreign accounts receivable financing.


Sec. 120.343  Collateral.

    A Borrower must give SBA a first security interest sufficient to 
cover 100 percent of the EWCP loan amount (such as insured accounts 
receivable or letters of credit). Collateral must be located in the 
United States, its territories or possessions.


Sec. 120.344  Unique requirements of the EWCP.

    (a) An applicant must submit cash flow projections to support the 
need for the loan and the ability to repay. After the loan is made, the 
loan recipient must submit continual progress reports.
    (b) SBA does not limit the amount of extraordinary servicing fees, 
as referenced in Sec. 120.221(b), under the EWCP.
    (c) SBA does not prescribe the interest rates for the EWCP, but 
will monitor these rates for reasonableness.

International Trade Loans

[[Page 3246]]



Sec. 120.345  Policy.

    Section 7(a)(16) of the Act authorizes SBA to guarantee loans to 
small businesses that are:
    (a) Engaged or preparing to engage in international trade; or
    (b) Adversely affected by import competition.


Sec. 120.346  Eligibility.

    (a) An applicant must establish that:
    (1) The loan proceeds will significantly expand an existing export 
market or develop new export markets; or
    (2) The applicant business is adversely affected by import 
competition; and
    (3) Upgrading facilities or equipment will improve the applicant's 
competitive position.
    (b) The applicant must have a business plan reasonably supporting 
its projected export sales.


Sec. 120.347  Use of proceeds.

    The Borrower may use loan proceeds to acquire, construct, renovate, 
modernize, improve, or expand facilities and equipment to be used in 
the United States to produce goods or services involved in 
international trade, and to develop and penetrate foreign markets.


Sec. 120.348  Amount of guarantee.

    SBA can guarantee up to $1,250,000 for a combination of fixed-asset 
financing and working capital, supplies and EWCP assistance. The fixed-
asset portion of the loan cannot exceed $1,000,000 and the non-fixed-
asset portion cannot exceed $750,000.

Qualified Employee Trusts (ESOP)


Sec. 120.350  Policy.

    Section 7(a)(15) of the Act authorizes SBA to guarantee a loan to a 
qualified employee trust (``ESOP'') to:
    (a) Help finance the growth of its employer's small business; or
    (b) Purchase ownership or voting control of the employer.


Sec. 120.351  Definitions.

    All terms specific to ESOPs have the same definition for purposes 
of this section as in the Internal Revenue Service (IRS) Code (title 26 
of the United States Code) or regulations (26 CFR chapter I).


Sec. 120.352  Use of proceeds.

    Loan proceeds may be used for two purposes.
    (a) Qualified employer securities. A qualified employee trust may 
relend loan proceeds to the employer by purchasing qualified employer 
securities. The small business concern may use these funds for any 
general 7(a) purpose.
    (b) Control of employer. A qualified employee trust may use loan 
proceeds to purchase a controlling interest (51 percent) in the 
employer. Ownership and control must vest in the trust by the time the 
loan is repaid.


Sec. 120.353  Eligibility.

    SBA may assist a qualified employee trust (or equivalent trust) 
that meets the requirements and conditions for an ESOP prescribed in 
all applicable IRS, Treasury and Department of Labor (DOL) regulations. 
In addition, the following conditions apply:
    (a) The small business must provide the funds needed by the trust 
to repay the loan; and
    (b) The small business must provide adequate collateral.


Sec. 120.354  Creditworthiness.

    In determining repayment ability, SBA shall not consider the 
personal assets of the employee-owners of the trust. SBA shall consider 
the earnings history and projected future earnings of the employer 
small business. SBA may consider the business and management experience 
of the employee-owners.

Veterans Loan Program


Sec. 120.360  Which veterans are eligible?

    SBA may guarantee or make direct loans to a small business 51 
percent owned by one or more of the following eligible veterans:
    (a) Vietnam-era veterans who served for a period of more than 180 
days between August 5, 1964, and May 7, 1975, and were discharged other 
than dishonorably;
    (b) Disabled veterans of any era with a minimum compensable 
disability of 30 percent; or
    (c) A veteran of any era who was discharged for disability.


Sec. 120.361  Other conditions of eligibility.

    (a) Management and daily operations of the business must be 
directed by one or more of the veteran owners whose veteran status was 
used to qualify for the loan.
    (b) This direct loan program is available only if private sector 
financing and guaranteed loans are not available.
    (c) A veteran may qualify only once for this program on a direct 
loan basis.

Pollution Control Program


Sec. 120.370  Policy.

    Section 7(a)(12) of the Act authorizes SBA to guarantee loans up to 
$1,000,000 to an eligible small business to plan, design or install a 
pollution control facility. An applicant must meet the eligibility 
requirements for 7(a) loans.

Loans to Participants in the 8(a) Program


Sec. 120.375  Policy.

    Section 7(a)(20) of the Act authorizes SBA to provide direct 
(unilaterally or together with Lenders) or guaranteed loans to firms 
participating in the 8(a) Program.


Sec. 120.376  Special requirements.

    The following special conditions apply (otherwise, 7(a) loan 
eligibility criteria apply):
    (a) The Associate Administrator of Minority Enterprise Development 
(``MED'') may waive the direct loan administrative ceiling of $150,000, 
and raise it to $750,000.
    (b) The SBA portion of a guaranteed loan must not exceed $750,000.
    (c) The interest rate on a guaranteed loan shall be the same as on 
7(a) guaranteed business loans. The interest rate on a direct loan 
shall be one percent less than on a regular direct loan.
    (d) For a direct loan or SBA's portion of an immediate 
participation loan, SBA shall subordinate its security interest on all 
collateral to other debt of the applicant.


Sec. 120.377  Use of proceeds.

    The loan proceeds shall not be used for debt refinancing. Only a 
manufacturing concern may use loan proceeds for working capital.

Defense Economic Transition Assistance


Sec. 120.380  Program.

    Section 7(a)(21) of the Act authorizes SBA to guarantee loans to 
help eligible small businesses transition from defense to civilian 
markets, or eligible individuals adversely impacted by base closures or 
defense cutbacks to acquire or open and operate a small business.


Sec. 120.381  Eligibility.

    (a) Eligible small businesses. A small business is eligible if it 
has been detrimentally impacted by the closure (or substantial 
reduction) of a Department of Defense installation, or the termination 
(or substantial reduction) of a Department of Defense Program on which 
the small business was a prime contractor, subcontractor, or supplier 
at any tier.
    (b) Eligible individual. An eligible individual, for purposes of 
this program, includes the following persons involuntarily separated 
from their position or voluntarily terminated under a program offering 
inducements to encourage early retirement:

[[Page 3247]]

    (1) A member of the Armed Forces of the United States (honorably 
discharged);
    (2) A civilian employee of the Department of Defense; or
    (3) An employee of a prime contractor, sub-contractor, or supplier 
at any tier of a Department of Defense program.
    (c) Defense loan and technical assistance (DELTA). The DELTA 
program provides financial and technical assistance to defense 
dependent small businesses which have been adversely affected by 
defense reductions. The goal of the program is to assist these 
businesses to diversify into the commercial market while remaining part 
of the defense industrial base. Complete information on eligibility and 
other rules is available from each SBA district office.


Sec. 120.382  Repayment ability.

    SBA shall resolve reasonable doubts concerning the small business' 
proposed business plan for transition to non-defense-related markets in 
favor of the loan applicant in determining the sound value of the 
proposed loan.


Sec. 120.383  Restrictions on loan processing.

    Since greater risk may be associated with a loan to an applicant 
under this program, a Certified Lender or Preferred Lender shall not 
make a defense economic assistance loan under the PLP or CLP programs.

CapLines Program


Sec. 120.390  Revolving credit.

    (a) CapLines finances eligible small businesses' short-term, 
revolving and non-revolving working-capital needs. SBA regulations 
governing the 7(a) loan program govern business loans made under this 
program. Under CapLines, SBA generally can guarantee up to $750,000.
    (b) CapLines proceeds can be used to finance the cyclical, 
recurring, or other identifiable short-term operating capital needs of 
small businesses. Proceeds can be used to create current assets or used 
to provide financing against the current assets that already exist.

Builders Loan Program


Sec. 120.391  What is the Builders Loan Program?

    Under section 7(a)(9) of the Act, SBA may make or guarantee loans 
to finance small general contractors to construct or rehabilitate 
residential or commercial property for resale. This program provides an 
exception under specified conditions to the general rule against 
financing investment property. ``Construct'' and ``rehabilitate'' mean 
only work done on-site to the structure, utility connections and 
landscaping.


Sec. 120.392 Who may apply?

    A construction contractor or home-builder with a past history of 
profitable construction or rehabilitation projects of comparable type 
and size may apply. An applicant may subcontract the work. Subcontracts 
in excess of $25,000 may require 100 percent payment and performance 
bonds.


Sec. 120.393  Are there special application requirements?

    (a) An applicant must submit documentation from:
    (1) A mortgage lender indicating that permanent mortgage money is 
available to qualified purchasers to buy such properties;
    (2) A real estate broker indicating that a market exists for the 
proposed building and that it will be compatible with its neighborhood; 
and
    (3) An architect, appraiser or engineer agreeing to make 
inspections and certifications to support interim disbursements.
    (b) The Borrower may substitute a letter from a qualified Lender 
for one or more of the letters.


Sec. 120.394  What are the eligible uses of proceeds?

    A Borrower must use the loan proceeds solely to acquire, construct 
or substantially rehabilitate an individual residential or commercial 
building for sale. ``Substantial'' means rehabilitation expenses of 
more than one-third of the purchase price or fair market value at the 
time of the application. A Borrower may use up to 20 percent of the 
proceeds to acquire land, and up to 5 percent for community 
improvements such as curbs and sidewalks.


Sec. 120.395  What is SBA's collateral position?

    SBA will require a lien on the building which must be in no less 
than a second position.


Sec. 120.396  What is the term of the loan?

    The loan must not exceed sixty (60) months plus the estimated time 
to complete construction or rehabilitation.


Sec. 120.397  Are there any special restrictions?

    The borrower must not use loan proceeds to purchase vacant land for 
possible future construction or to operate or hold rental property for 
future rehabilitation. SBA may allow rental of the property only if the 
rental will improve the ability to sell the property. The sale must be 
a legitimate change of ownership.

Subpart D--Lenders


Sec. 120.400  Loan Guarantee Agreements.

    SBA may enter into a Loan Guarantee Agreement with a Lender to make 
deferred participation (guaranteed) loans. Such an agreement does not 
obligate SBA to participate in any specific proposed loan that a Lender 
may submit. The existence of a Loan Guarantee Agreement does not limit 
SBA's rights to deny a specific loan or establish general policies. See 
also Secs. 120.441(b) and 120.451(d) concerning Supplemental Guarantee 
Agreements.

Participation Criteria


Sec. 120.410  Requirements for all participating Lenders.

    A Lender must:
    (a) Have a continuing ability to evaluate, process, close, 
disburse, service and liquidate small business loans;
    (b) Be open to the public for the making of such loans (not be a 
financing subsidiary, engaged primarily in financing the operations of 
an affiliate);
    (c) Have continuing good character and reputation, and otherwise 
meet and maintain the ethical requirements of Sec. 120.140; and
    (d) Be supervised and examined by a State or Federal regulatory 
authority, satisfactory to SBA.


Sec. 120.411  Preferences.

    An agreement to participate under the Act may not establish any 
Preferences in favor of the Lender.


Sec. 120.412  Other services Lenders may provide Borrowers.

    Subject to Sec. 120.140 Lenders, their Associates or the designees 
of either may provide services to and contract for goods with a 
Borrower only after full disbursement of the loan to the small business 
or to an account not controlled by the Lender, its Associate, or the 
designee. A Lender, an Associate, or a designee providing such services 
must do so under a written contract with the small business, based on 
time and hourly charges, and must maintain time and billing records for 
examination by SBA. Fees cannot exceed those charged by established 
professional consultants providing similar services. See also 
Sec. 120.195.


Sec. 120.413  Advertisement of relationship with SBA.

    A Lender may refer in its advertising to its participation with 
SBA. The advertising may not:
    (a) State or imply that the Lender, or any of its Borrowers, has or 
will receive preferential treatment from SBA;

[[Page 3248]]

    (b) Be false or misleading; or
    (c) Make use of SBA's seal.

Pledging Notes or Transferring Unguaranteed Portion


Sec. 120.420  Financings by Nondepository Lenders.

    (a) A Small Business Lending Company regulated by SBA or a Business 
and Industrial Development Company (``Nondepository Lender'') may 
pledge the notes evidencing SBA guaranteed loans or sell the 
unguaranteed portions of such loans if SBA, notwithstanding the 
provisions of Sec. 120.453(c), in its sole discretion, gives its prior 
written consent. The Lender must be secure financially and have a 
history of compliance with SBA's regulations and any other applicable 
state or Federal statutory and regulatory requirements.
    (b) The Nondepository Lender, SBA, and any third party involved in 
the transaction, as determined by SBA in its sole discretion, must 
enter into a written agreement satisfactory to SBA acknowledging SBA's 
interest as guarantor of the subject loans and accepting that all 
relevant third parties agree to recognize and uphold those interests 
under the Act, this part, and the contractual provisions of SBA's Loan 
Guarantee Agreement. In any such agreement, the parties must agree to 
the following conditions:
    (1) The Nondepository Lender, SBA, or a third party custodian 
agreeable to SBA, will hold all pertinent Loan Instruments, and the 
Nondepository Lender will continue to service the loans after the 
pledge or transfer is made; and
    (2) The Nondepository Lender must retain an economic risk in and 
bear the ultimate risk of loss on the unguaranteed portions. This must 
be demonstrated to SBA's satisfaction by establishing a sufficient 
reserve fund at the time of sale of the unguaranteed portions and, in 
the case of pledging notes, by retaining all of the economic interest 
in the unguaranteed portion of any loan which a note evidences.
    (c) The Nondepository Lender may not use SBA guaranteed loans or 
the collateral supporting such loans as collateral for any borrowing 
not related to financing of the guaranteed or unguaranteed portion of 
SBA loans.

Miscellaneous Provisions


Sec. 120.430  SBA access to Lender files.

    A Lender must allow SBA's authorized representatives, during normal 
business hours, access to its files to review, inspect and copy all 
records and documents relating to SBA guaranteed loans.


Sec. 120.431  Suspension or revocation of eligibility to participate.

    SBA may suspend or revoke the eligibility of a Lender to 
participate in the 7(a) program because of a violation of SBA 
regulations, a breach of any agreement with SBA, a change of 
circumstance resulting in the Lender's inability to meet operational 
requirements, or a failure to engage in prudent lending practices. 
Proceedings for such purposes will be conducted in accordance with the 
provisions of part 134 of this chapter. A suspension or revocation will 
not invalidate a guarantee previously provided by SBA.

Certified Lenders Program (CLP)


Sec. 120.440  What is the Certified Lenders Program?

    Under the Certified Lenders Program (CLP), designated Lenders 
process, close, service, and may liquidate, SBA guaranteed loans. SBA 
gives priority to applications and servicing actions submitted by 
Lenders under this program, and attempts to respond within three days 
of submission to SBA. All other rules in this part 120 relating to the 
operations of Lenders apply to CLP Lenders.


Sec. 120.441  How does a Lender become a CLP Lender?

    (a) An SBA field office may nominate a Lender or a Lender may 
request a field office to consider it for CLP status. SBA district 
directors may approve and renew a Lender's CLP status. The district 
director will consider whether the Lender:
    (1) Has the ability to process, close, service and liquidate loans;
    (2) Has a satisfactory performance history with SBA, including the 
submission of complete and accurate loan guarantee application 
packages;
    (3) Has an acceptable SBA purchase rate; and
    (4) Has shown the ability to work well with the local SBA office.
    (b) If the district director does not approve a request for CLP 
status, the Lender may appeal to the AA/FA, whose decision will be 
final. If SBA grants CLP status, it applies only in the field office 
that processed the CLP designation. A CLP Lender must execute a 
Supplemental Guarantee Agreement that will specify a term not to exceed 
two years.


Sec. 120.442  Suspension or revocation of CLP status.

    The AA/FA may suspend or revoke CLP status upon written notice 
providing the reasons at least 10 business days prior to the effective 
date of the suspension or revocation. Reasons for suspension or 
revocation may include a loan performance record unacceptable to SBA, 
failure to make the required number of loans under the expedited 
procedures, or violations of applicable statutes, regulations or 
published SBA policies and procedures. A CLP Lender may appeal the 
suspension or revocation made under this section under procedures found 
in part 134 of this chapter. The action of the AA/FA remains in effect 
pending resolution of the appeal.

Preferred Lenders Program (PLP)


Sec. 120.450  What is the Preferred Lenders Program?

    Under the Preferred Lenders Program (PLP), designated Lenders 
process, close, service, and liquidate SBA guaranteed loans with 
reduced requirements for documentation to and prior approval by SBA.


Sec. 120.451  How does a Lender become a PLP Lender?

    (a) An SBA field office serving the area in which a Lender's office 
is located can nominate the Lender, or a Lender can request a field 
office to consider it for PLP status. The SBA field office will forward 
its recommendation to an SBA centralized loan processing center which 
will submit its recommendation and supporting documentation to the AA/
FA for final decision.
    (b) In making its decision, SBA considers whether the Lender:
    (1) Has the required ability to process, close, service and 
liquidate loans;
    (2) Has the ability to develop and analyze complete loan packages; 
and
    (3) Has a satisfactory performance history with SBA.
    (c) If the Lender is approved, the AA/FA will designate the area in 
which it can make PLP loans.
    (d) Before it can operate as a PLP Lender, the approved Lender must 
execute a Supplemental Guarantee Agreement, which will specify a term 
not to exceed two years.
    (e) When a PLP's Supplemental Guarantee Agreement expires, SBA may 
recertify it as a PLP Lender for an additional term not to exceed two 
years. Prior to recertification, SBA will review a PLP Lender's loans, 
policies and procedures. The recertification decision of the AA/FA is 
final.
    (f) A PLP Lender may request an expansion of the territory in which 
it can process PLP loans by submitting its request to a loan processing 
center. The center will obtain the recommendation of each SBA office in 
the area into which the PLP Lender would like to expand its PLP 
operations. The center 

[[Page 3249]]
will forward the recommendations to the AA/FA for final decision. If a 
PLP Lender is not a CLP Lender in a territory into which it seeks to 
expand its PLP status, it automatically obtains CLP status in that 
territory when it is granted PLP status for the territory.


Sec. 120.452  What are the requirements of PLP loan processing?

    (a) Subparts A and B of this part govern the making of PLP loans, 
except for the following:
    (1) Certain types of businesses, loans, and loan programs are not 
eligible for PLP, as detailed in published SBA policy and procedures.
    (2) A Lender may not make a PLP business loan which reduces its 
existing credit exposure for any Borrower, except in cases where an 
interim loan(s) has been made for other than real estate construction 
purposes to the Borrower which was approved by the Lender within 90 
days of receipt of the issuance fo a subsequent PLP loan number.
    (3) SBA will not guarantee more than the specified statutory 
percentage of any PLP loan.
    (b) A PLP Lender notifies SBA of its approval of a PLP loan by 
submitting to SBA's loan processing center appropriate documentation 
signed by two of the PLP's authorized representatives. SBA will attach 
the SBA guarantee and notify the PLP Lender of the SBA loan number (if 
it does not identify a problem with eligibility, and funds are 
available).
    (c) The PLP Lender is responsible for all PLP loan decisions 
regarding eligibility (including size) and creditworthiness. The PLP 
Lender is also responsible for confirming that all PLP loan closing 
decisions are correct, and that it has complied with all requirements 
of law and SBA regulations.


Sec. 120.453  What are the requirements of a PLP Lender in servicing 
and liquidating SBA guaranteed loans?

    The PLP Lender must service and liquidate its SBA guaranteed loan 
portfolio (including its non-PLP loans) using generally accepted 
commercial banking standards employed by prudent lenders. The PLP 
Lender must liquidate any defaulted SBA guaranteed loan in its 
portfolio unless SBA advises in writing that SBA will liquidate the 
loan. The PLP Lender must submit a liquidation plan to SBA prior to 
commencing liquidation action. The PLP Lender may take any necessary 
servicing action, or liquidation action consistent with a plan, for any 
SBA guaranteed loan in its portfolio, except it may not:
    (a) Take any action that confers a Preference on the Lender;
    (b) Accept a compromise settlement without prior written SBA 
consent; and
    (c) Sell or pledge more than 90 percent of a PLP loan.


Sec. 120.454  PLP performance review.

    SBA may review the performance of a PLP Lender. SBA may charge the 
PLP Lender a fee to cover the costs of this review.


Sec. 120.455  Suspension or revocation of PLP status.

    The AA/FA may suspend or revoke PLP status upon written notice 
providing the reasons at least 10 business days prior to the effective 
date of the suspension or revocation. Reasons for suspension or 
revocation may include loan performance unacceptable to SBA, failure to 
make the required number of loans under the expedited procedures, or 
violations of applicable statutes, regulations or published SBA 
policies and procedures. A PLP Lender may appeal the suspension or 
revocation made under this section under procedures found in part 134 
of this chapter. The action of the AA/FA remains in effect pending 
resolution of the appeal.

Small Business Lending Companies (SBLC)


Sec. 120.470  What is an SBLC?

    A Small Business Lending Company (SBLC) is a nondepository lending 
institution licensed by SBA. SBA supervises, examines, and regulates 
SBLCs. An SBLC is subject to all applicable SBA regulations, including 
those governing Lenders. SBA has imposed a moritorium on licensing new 
SBLC's since January, 1982.
    (a) An SBLC may only make:
    (1) Loans under section 7(a) (except section 7(a)(13)) of the Act 
in participation with SBA; and/or
    (2) SBA guaranteed loans to micro-Lenders in the SBA Microloan 
program (see subpart G of this part). Such loans are subject to the 
same conditions as guaranteed loans made to SBA-designated microlenders 
by SBA participating Lenders.
    (b) In addition to complying with Secs. 120.400 through 120.413, an 
SBLC must meet the following requirements:
    (1) Business structure. It must be a corporation (profit or non-
profit).
    (2) Written agreement. It must sign a written agreement with SBA.
    (3) Capital structure. It must have unencumbered paid-in capital 
and paid-in surplus of at least $1,000,000, or ten percent of the 
aggregate of its share of all outstanding loans, whichever is more.
    (4) Capital impairment. It must avoid capital impairment at all 
times. Impairment exists if the retained earnings deficit of an SBLC 
exceeds 50 percent of combined paid-in capital and paid-in-surplus, 
excluding treasury stock. An SBLC must give SBA prompt written notice 
of any capital impairment within 30 calendar days of the month-end 
financial report that first reflects the impairment. Until the 
impairment is cured, an SBLC may not present any loans to SBA for 
guarantee.
    (5) Issuance of securities. Without prior written SBA approval, it 
must not issue any securities (including stock options and debt 
securities) except stock dividends and common stock issued for cash or 
direct obligations of, or obligations fully guaranteed as to principal 
and interest by, the United States.
    (6) Voluntary capital reduction. Without prior written SBA 
approval, it must not voluntarily reduce its capital, or purchase and 
hold more than 2 percent of any class or combination of classes of its 
stock.
    (7) Reserves for losses. It must maintain a reserve in the amount 
of anticipated losses on loans and receivables.
    (8) Internal control. It must adopt a plan designed to safeguard 
its funds and other assets, to assure the reliability of its personnel, 
and to maintain the accuracy of its financial data.
    (9) Dual control. It must maintain dual control over disbursement 
of funds and withdrawal of securities. An SBLC may disburse funds only 
by checks or wire transfers authorized by signatures of two or more 
officers covered by the SBLC's fidelity bond, except that checks in an 
amount of $1,000 or less may be signed by one bonded officer. There 
must be two or more bonded officers, or one bonded officer and a bonded 
employee to open safe deposit boxes or withdraw securities from 
safekeeping. The SBLC shall furnish to each depository bank, custodian, 
or entity providing safe deposit boxes a certified copy of the 
resolution implementing these control procedures.
    (10) Fidelity insurance. It must maintain a Brokers Blanket Bond, 
Standard Form 14, or Finance Companies Blanket Bond, Standard Form 15, 
or such other form of coverage as SBA may approve, in a minimum amount 
of $500,000 executed by a surety holding a certificate of authority 
from the Secretary of the Treasury pursuant to 31 U.S.C. 9304-9308.
    (11) Common control. It must not control, be controlled by, or be 
under common control with, another SBLC. Without prior written SBA 
approval, an 

[[Page 3250]]
Associate of one SBLC shall not be an Associate of another SBLC or of 
any entity which directly or indirectly controls or is under common 
control with another SBLC.
    (12) Management. An SBLC must employ full time professional 
management.
    (13) Borrowed funds. Without SBA's prior written approval, it must 
not be capitalized with borrowed funds. Shareholders owning 10 percent 
or more of any class of its stock shall not use borrowed funds to 
purchase the stock unless the net worth of the shareholders is at least 
twice the amount borrowed or unless the shareholders receive SBA's 
prior written approval for a lower ratio.


Sec. 120.471  Records.

    Each SBLC must comply with the following requirements concerning 
records:
    (a) Maintenance of Records. It must maintain accurate and current 
financial records, including books of account, minutes of stockholder, 
directors, and executive committee meetings, and all documents and 
supporting materials relating to the SBLC's transactions at its 
principal business office. Securities held by a custodian pursuant to a 
written agreement shall be exempt from this requirement.
    (b) Preservation of records. (1) It must preserve in a manner 
permitting immediate retrieval the following documentation for the 
financial statements required by Sec. 120.472 (and of the accompanying 
certified public accountant's opinion), for the following specified 
periods:
    (i) Preserve permanently:
    (A) All general and subsidiary ledgers (or other records) 
reflecting asset, liability, capital stock and surplus, income, and 
expense accounts;
    (B) All general and special journals (or other records forming the 
basis for entries in such ledgers); and
    (C) The corporate charter, bylaws, application for determination of 
eligibility to participate with SBA, and all minutes books, capital 
stock certificates or stubs, stock ledgers, and stock transfer 
registers;
    (ii) Preserve for at least 6 years following final disposition of 
the related loan:
    (A) All applications for financing;
    (B) Lending, participation, and escrow agreements;
    (C) Financing instruments; and
    (D) All other documents and supporting material relating to such 
loans, including correspondence.
    (2) Records and other documents referred to in this section may be 
preserved electronically if the original is available for retrieval 
within a reasonable period.


Sec. 120.472  Reports to SBA.

    An SBLC must submit the following to the AA/FA:
    (a) An audited financial statement prepared by a certified public 
accountant within three months after the close of each fiscal year, and 
interim financial reports when requested by SBA;
    (b) A report of any legal or administrative proceeding, by or 
against the SBLC, or against an officer, director, or employee of the 
SBLC for an alleged breach of official duty, within 10 days after 
initiating or learning of the proceeding, as well as notification of 
the terms of any settlement or final judgment (in addition to any 
reporting under applicable SBA Forms);
    (c) Copies of any report furnished to its stockholders (including 
any prospectus, letter, or other publication concerning the financial 
operations of the SBLC);
    (d) A summary of any changes in the SBLC's organization or 
financing, such as:
    (1) Any change in its name, address or telephone number;
    (2) Any change in its charter, bylaws, or its officers or directors 
(to be accompanied by a statement of personal history on an approved 
SBA form);
    (3) Any changes in capitalization (including those identified in 
Sec. 120.470);
    (4) Any changes affecting the eligibility of the SBLC to continue 
to participate as an SBLC; and
    (5) Notice of a pledge of stock within 30 calendar days of the 
transaction if 10 percent or more of the stock is pledged by any person 
(or group of persons acting in concert) as collateral for indebtedness, 
and such pledge does not involve a transfer for which prior written 
approval of SBA is required under Sec. 120.473;
    (e) Such other reports as SBA may require from time to time by 
written directive.


Sec. 120.473  Change of ownership or control.

    (a) Any change of ownership or control without prior written 
approval of SBA is prohibited. An SBLC must request approval of any 
such change from the AA/FA. Pending the approval, the SBLC may not 
register the proposed new owners on its transfer books nor permit them 
to participate in any manner in the conduct of the SBLC's affairs. 
Change of ownership or control includes:
    (1) Any transfer of 10 percent or more of any class of the SBLC's 
stock, and any agreement providing for such transfer;
    (2) Any transfer that could result in the beneficial ownership by 
any person or group of persons acting in concert of 10 percent or more 
of any class of its stock, and any agreement providing for such 
transfer;
    (3) Any merger, consolidation, or reorganization; or
    (4) Any other transaction or agreement that transfers control of 
the SBLC.
    (b) If transfer of ownership or control is subject to the approval 
of any State or Federal chartering, licensing, or other regulatory 
authority, copies of any documents filed with such authority must, at 
the same time, be transmitted to the AA/FA.


Sec. 120.474  Prohibited financing.

    An SBLC may not make a loan to a small business that has received 
financing (or a commitment for financing) from an SBIC that is an 
Associate of the SBLC.


Sec. 120.475  Audits.

    Every SBLC is subject to periodic audits by SBA's Office of 
Inspector General, Auditing Division, and the cost of such audits will 
be assessed against the SBLC, except for the first audit. Fees are 
structured based on the SBLC's assets as of the date of the latest 
audited financial statement submitted to SBA before the audit. The fee 
schedule is set forth in SBA's Standard Operating Procedures manual.


Sec. 120.476  Suspension or revocation.

    SBA may revoke or suspend an SBLC for a violation of law, these 
regulations, or any agreement with SBA. An appeal can be made following 
the procedures set forth in part 134 of this chapter.

Subpart E--Loan Administration


Sec. 120.500  General.

    This subpart outlines the general loan administration policies 
applicable to loan servicing and liquidation.

Servicing


Sec. 120.510  Servicing direct and immediate participation loans.

    SBA services the direct loans that it makes. Generally, the Lender 
services immediate participation loans that it makes and in which SBA 
participates.


Sec. 120.511  Servicing guaranteed loans.

    The Lender services guaranteed loans, holds the Loan Instruments 
and receives the Borrower's payments of principal and interest. 

[[Page 3251]]



Sec. 120.512  Who services the loan after SBA honors its guarantee?

    Generally, after SBA honors its guarantee, the Lender must continue 
to hold the Loan Instruments and service and liquidate the loan. The 
Lender must execute a Certificate of Interest showing SBA's percentage 
of the loan, and must submit a liquidation plan to SBA for each loan to 
be liquidated. If SBA elects to service or liquidate the loan, the 
Lender must assign the Loan Instruments to SBA.


Sec. 120.513  What servicing actions require the prior written consent 
of SBA?

    Except as otherwise provided in a Supplemental Guarantee Agreement 
with the Lender, SBA must give its prior written consent before the 
Lender takes any of the following actions:
    (a) Alters substantially the terms or conditions of any Loan 
Instrument (for example, any increase in the principal amount or change 
in the interest rate, or action conferring a Preference on the Lender);
    (b) Releases collateral having a cumulative value in excess of 20 
percent of the original loan amount;
    (c) Accelerates the maturity of the note;
    (d) Sues upon any Loan Instrument;
    (e) Compromises or waives any claim against any Borrower, 
guarantor, obligor or standby creditor arising out of any Loan 
Instrument; or
    (f) Increases the amount of any prior lien held by the Lender on 
the collateral securing the loan.

SBA'S Purchase of a Guaranteed Portion


Sec. 120.520  When does SBA honor its guarantee?

    (a) SBA, in its sole discretion, may purchase a guaranteed portion 
of a loan at any time. A Lender may demand in writing that SBA honor 
its guarantee if the Borrower is in default on any installment for more 
than 60 calendar days (or less if SBA agrees) and the default has not 
been cured. If a Borrower cures a default before a Lender requests 
purchase by SBA, the Lender's right to request purchase on that default 
lapses.
    (b) Purchase by SBA of the guaranteed portion does not waive any of 
SBA's rights to recover money paid on the guarantee, based upon the 
Lender's negligence, misconduct, or violation of this part, including 
those actions listed in Sec. 120.524(a), the Loan Guarantee Agreement 
or the Loan Instruments.


Sec. 120.521  What interest rate applies after SBA purchases its 
guaranteed portion?

    When SBA purchases the guaranteed portion of a fixed interest rate 
loan, the rate of interest remains as stated in the note. On loans with 
a fluctuating interest rate, the interest rate that the Borrower owes 
will be at the rate in effect at the time of the earliest uncured 
payment default, or the rate in effect at the time of purchase (where 
no default has occurred).


Sec. 120.522  How much accrued interest does SBA pay to the Lender or 
Registered Holder when SBA purchases the guaranteed portion?

    (a) Rate of interest. If SBA purchases the guaranteed portion from 
a Lender or from a Registered Holder (if sold in the Secondary Market), 
it will pay accrued interest at:
    (1) The rate in the note if it is a fixed rate loan; or
    (2) The rate in effect on the date of the earliest uncured payment 
default, or of SBA's purchase (if there has been no default).
    (b) Payment to Lender. If the Lender submits a complete purchase 
request to SBA within 120 days of the earliest uncured payment default, 
SBA will pay accrued interest to the Lender from the last interest 
paid-to-date up to the date of payment. If the Lender requests SBA to 
purchase after 120 days from the date of the earliest uncured payment 
default date, SBA will pay only 120 days of interest. For LowDoc loans, 
the interest paid to the Lender will be governed by the Supplemental 
Guarantee Agreement.
    (c) Payment to Registered Holder. SBA will pay a Registered Holder 
all accrued interest up to the date of payment.
    (d) Extension of the 120 day period. Before the 120 days expire, 
the SBA field office may extend the period if the Lender and SBA agree 
that the Borrower can cure the default within a reasonable and definite 
period of time or that the benefits from doing so otherwise will exceed 
the costs of SBA paying additional interest. If the 120 days have 
passed, only the AA/FA or designee can extend the period.


Sec. 120.523  What is the ``earliest uncured payment default''?

    The earliest uncured payment default is the date of the earliest 
failure by a Borrower to pay a regular installment of principal and/or 
interest when due. Payments made by the Borrower before a Lender makes 
its request to SBA to purchase are applied to the earliest uncured 
payment default. If the installment is paid in full, the earliest 
uncured payment default date will advance to the next unpaid 
installment date. If a Borrower makes any payment after the Lender 
makes its request to SBA to purchase, the earliest uncured payment 
default date does not change because the Lender has already exercised 
its right to request purchase.


Sec. 120.524  When is SBA released from liability on its guarantee?

    (a) SBA is released from liability on a loan guarantee (in whole or 
in part, within SBA's exclusive discretion), if any of the events below 
occur:
    (1) The Lender has failed to comply materially with any of the 
provisions of these regulations, the Loan Guarantee Agreement, or the 
Authorization;
    (2) The Lender has failed to make, close, service, or liquidate a 
loan in a prudent manner;
    (3) The Lender's improper action or inaction has placed SBA at 
risk;
    (4) The Lender has failed to disclose a material fact to SBA 
regarding a guaranteed loan in a timely manner;
    (5) The Lender has misrepresented a material fact to SBA regarding 
a guaranteed loan;
    (6) SBA has received a written request from the Lender to terminate 
the guarantee;
    (7) The Lender has not paid the guarantee fee within the period 
required under SBA rules and regulations;
    (8) The Lender has failed to request that SBA purchase a guarantee 
within 120 days after maturity of the loan;
    (9) The Lender has failed to use required SBA forms or exact 
electronic copies; or
    (10) The Borrower has paid the loan in full.
    (b) If SBA determines, after purchasing its guaranteed portion of a 
loan, that any of the events set forth in paragraph (a) of this section 
occurred in connection with that loan, SBA is entitled to recover any 
money paid on the guarantee plus interest from the Lender responsible 
for those events.
    (c) If the Lender's loan documentation indicates that one or more 
of the events in paragraph (a) of this section may have occurred, SBA 
may undertake such investigation as it deems necessary to determine 
whether to honor or deny the guarantee, and may withhold a decision on 
whether to honor the guarantee until the completion of such 
investigation.
    (d) Any information provided to SBA prior to Lender's request for 
SBA to honor its guarantee shall not prejudice SBA's right to deny 
liability for a guarantee if one or more of the events listed in 
paragraph (a) of this section occur.
    (e) Unless SBA provides written notice to the contrary, the Lender 
remains responsible for all loan servicing ad liquidation actions until 
SBA honors its guarantee in full. 

[[Page 3252]]


Deferment, Extension of Maturity and Loan Moratorium


Sec. 120.530  Deferment of payment.

    SBA may agree to defer payments on a business loan for a stated 
period of time, and use such other methods as it considers necessary 
and appropriate to help in the successful operation of the Borrower. 
This policy applies to all business loan programs, including 504 loans.


Sec. 120.531  Extension of maturity.

    SBA may agree to extend the maturity of a loan for up to 10 years 
beyond its original maturity if the extension will aid in the orderly 
repayment of the loan.


Sec. 120.532  What is a loan Moratorium?

    SBA may assume a Borrower's obligation to repay principal and 
interest on a loan by agreeing to make the payments to the Lender on 
behalf of the Borrower under terms and conditions set by SBA. This 
relief is called a ``Moratorium.'' Complete information concerning this 
program may be obtained from local SBA offices.

Liquidation of Collateral


Sec. 120.540  What are SBA's policies concerning liquidation of 
collateral?

    (a) Liquidation policy. SBA or the Lender may liquidate collateral 
securing a loan if the loan is in default or there is no reasonable 
prospect that the loan can be repaid within a reasonable period.
    (b) Sale and conversion of loans. Without the consent of the 
Borrower, SBA may:
    (1) Sell a direct loan;
    (2) Convert a guaranteed or immediate participation loan to a 
direct loan; or
    (3) Convert an immediate participation loan to a guaranteed loan or 
a loan owned solely by the Lender.
    (c) Disposal of collateral and assets acquired through foreclosure 
or conveyance. SBA or the Lender may sell real and personal property 
(including contracts and claims) pledged to secure a loan that is in 
default in accordance with the provisions of the related security 
instrument (see Sec. 120.550 for Homestead Protection for Farmers).
    (1) Competitive bids or negotiated sales. Generally, SBA will offer 
loan collateral and acquired assets for public sale through competitive 
bids at auctions or sealed bid sales. The Lender may use negotiated 
sales if consistent with its usual practice for similar non-SBA assets.
    (2) Lease of acquired property. Normally, neither SBA nor a Lender 
will rent or lease acquired property or grant options to purchase. SBA 
and the Lender will consider proposals for a lease if it appears a 
property cannot be sold advantageously and the lease may be terminated 
on reasonable notice upon receipt of a favorable purchase offer.
    (d) Recoveries and security interests shared. SBA and the Lender 
will share pro rata (in accordance with their respective interests in a 
loan) all loan payments or recoveries, all reasonable expenses 
(including advances for the care, preservation, and maintenance of 
collateral securing the loan and the payment of senior lienholders), 
and any security interest or guarantee (excluding SBA's guarantee) 
which the Lender or SBA may hold or receive in connection with a loan.
    (e) Guarantors. Guarantors of financial assistance have no rights 
of contribution against SBA on an SBA guaranteed or direct loan. SBA is 
not deemed to be a co-guarantor with any other guarantors.

Homestead Protection for Farmers


Sec. 120.550  What is homestead protection for farmers?

    SBA may lease to a farmer-Borrower the farm residence occupied by 
the Borrower and a reasonable amount of adjoining property (no more 
than 10 acres and seven farm buildings), if they were acquired by SBA 
as a result of a defaulted farm loan made or guaranteed by SBA (see the 
Consolidated Farm and Rural Development Act, 7 U.S.C. 1921, for 
qualifying loan purposes).


Sec. 120.551  Who is eligible for homestead protection?

    SBA must notify the Borrower in possession of the availability of 
these homestead protection rights within 30 days after SBA acquires the 
property. A farmer-Borrower must:
    (a) Apply for the homestead occupancy to the SBA field office which 
serviced the loan within 90 days after SBA acquires the property;
    (b) Provide evidence that the farm produces farm income reasonable 
for the area and economic conditions;
    (c) Show that at least 60 percent of the Borrower and spouse's 
gross annual income came from farm or ranch operations in at least any 
two out of the last six calendar years;
    (d) Have resided on the property during the previous six years; and
    (e) Be personally liable for the debt.


Sec. 120.552  Lease.

    If approved, the applicant must personally occupy the residence 
during the term of the lease and pay a reasonable rent to SBA. The 
lease will be for a period of at least 3 years, but no more than 5 
years. A lease of less than 5 years may be renewed, but not beyond 5 
years from the original lease date. During or at the end of the lease 
period, the lessee has a right of first refusal to reacquire the 
homestead property under terms and conditions no less favorable than 
those offered to any other purchaser.


Sec. 120.553  Appeal.

    If the application is denied, the Borrower may appeal the decision 
to the AA/FA. Until the conclusion of any appeal, the Borrower may 
retain possession of the homestead property.


Sec. 120.554  Conflict of laws.

    In the event of a conflict between the homestead provisions at 
Secs. 120.550 through 120.553 of this part, and any state law relating 
to the right of a Borrower to designate for separate sale or to redeem 
part or all of the real property securing a loan foreclosed by the 
Lender, state law shall prevail.

Subpart F--Secondary Market

Fiscal and Transfer Agent (FTA)


Sec. 120.600  Definitions.

    (a) Certificate is the document the FTA issues representing a 
beneficial fractional interest in a Pool (Pool Certificate), or an 
undivided interest in the entire guaranteed portion of an individual 
7(a) guaranteed loan (Individual Certificate).
    (b) Current means that no repayment from a Borrower to a Lender is 
over 29 days late measured from the due date of the payment on the 
records of the FTA's central registry (Pools) or the entity servicing 
the loan (individual guaranteed portion).
    (c) FTA is the SBA's fiscal and transfer agent.
    (d) Note Rate is the interest rate on the Borrower's note.
    (e) Net Rate is the interest rate on an individual guaranteed 
portion of a loan in a Pool.
    (f) Pool is an aggregation of SBA guaranteed portions of loans made 
by Lenders.
    (g) Pool Assembler is a financial institution that:
    (1) Organizes and packages a Pool by acquiring the SBA guaranteed 
portions of loans from Lenders;
    (2) Resells fractional interests in the Pool to Registered Holders; 
and
    (3) Directs the FTA to issue Certificates.
    (h) Pool Rate is the interest rate on a Pool Certificate.
    (i) Registered Holder is the Certificate owner listed in FTA's 
records.
    (j) SBA's Secondary Market Program Guide is an issuance from SBA 
which 

[[Page 3253]]
describes the characteristics of Secondary Market transactions.


Sec. 120.601  SBA Secondary Market.

    The SBA secondary market (``Secondary Market'') consists of the 
sale of Certificates, representing either the entire guaranteed portion 
of an individual 7(a) guaranteed loan or an undivided interest in a 
Pool consisting of the SBA guaranteed portions of a number of 7(a) 
guaranteed loans. By the terms of such Certificate, SBA guarantees a 
Registered Holder timely payment of principal and interest from the 
loan or loans underlying the Certificate. Transactions involving 
interests in Pools or the sale of individual guaranteed portions of 
loans are governed by the contracts entered into by the parties, SBA's 
Secondary Market Program Guide, and this subpart. See sections 5 (f), 
(g), and (h) of the Small Business Act (15 U.S.C. 634 (f), (g) and 
(h)).

Certificates


Sec. 120.610  Form and terms of Certificates.

    (a) General form and content. Each Certificate must be registered 
with the FTA. SBA must approve the terms of the Certificate.
    (b) Face amount of Pool Certificate. The face amount of a Pool 
Certificate cannot be less than a minimum amount as specified in the 
Program Guide, and the dollar amount of Certificates must be in 
increments which SBA will specify in the Program Guide (except for one 
Certificate in each Pool). SBA may change these requirements based upon 
an analysis of market conditions and program experience, and will 
publish any such change in the Federal Register.
    (c) Basis of payment for Pool Certificates. Principal installments 
and interest payments are based on the unpaid principal balance of the 
portion of the Pool represented by a Pool Certificate. All prepayments 
on loans in the Pool must be passed through to the appropriate 
Registered Holders with the regularly scheduled payments to such 
Holders.
    (d) Basis of payment for Individual Certificates. Principal 
installments and interest payments are based on the unpaid principal 
balance of the SBA guaranteed portion of the loan supporting an 
Individual Certificate. The Certificate must provide for a pass through 
to the Registered Holder of payments which the FTA receives from a 
Lender or any entity servicing the loan, less applicable fees.
    (e) Interest rate on Pool Certificate. The interest rate on a Pool 
Certificate must be equal to the lowest Net Rate on any individual 
guaranteed portion of a loan in the Pool.


Sec. 120.611  Pools backing Pool Certificates.

    (a) Pool characteristics. As set forth in the Program Guide, each 
Pool must have:
    (1) A minimum number of guaranteed portions of loans;
    (2) A minimum aggregate principal balance of the guaranteed 
portions;
    (3) A maximum percentage of the Pool which an individual guaranteed 
portion may constitute;
    (4) A maximum allowable difference between the highest and lowest 
note interest rates;
    (5) A maximum allowable difference between the remaining terms to 
maturity of the loans in the Pool; and
    (6) A minimum weighted average maturity at Pool formation.
    (b) Adjustment of Pool characteristics. SBA may adjust the Pool 
characteristics periodically based upon program experience and market 
conditions.


Sec. 120.612  Loans eligible to back Certificates.

    (a) Pool Certificates are backed by the SBA guaranteed portions of 
loans comprising the Pool. An Individual Certificate is backed by the 
SBA guaranteed portion of a single loan. Any such loan must:
    (1) Be current as of the date the Pool is formed or the individual 
guaranteed portion of a loan is initially sold in the Secondary Market;
    (2) Be guaranteed under the Act; and
    (3) Meet such other standards as SBA may determine to be necessary 
for the successful operation of the Secondary Market program.
    (b) The loans that back a Pool must meet the SBA requirements in 
effect at the time the Pool is formed.


Sec. 120.613  Secondary Participation Guarantee Agreement.

    When a Lender wants to sell the guaranteed portion of a loan, it 
enters into a Secondary Participation Guarantee Agreement (``SPGA'') 
with SBA and the prospective purchaser. The terms of sale between the 
Lender and the purchaser cannot require the Lender or SBA to repurchase 
the guaranteed portion of the loan except in accordance with the terms 
of the SPGA. Before execution of the SPGA, the Lender must:
    (a) Submit to FTA a copy of the proposed SPGA, the note, and such 
other documents as SBA may require;
    (b) Disburse to the Borrower the full amount of the loan; and
    (c) Pay SBA all guarantee fees relevant to the loan in full.

The SBA Guarantee of a Certificate


Sec. 120.620  SBA guarantee of a Pool Certificate.

    (a) Extent of Guarantee. SBA guarantees to a Registered Holder the 
timely payment of principal and interest installments and any 
prepayment or other recovery of principal to which the Registered 
Holder is entitled. If the Borrower of a loan in a Pool backing the 
Certificates does not make a required installment payment, SBA, through 
the FTA, will make advances to maintain the schedule of interest and 
principal payments to the Registered Holders.
    (b) SBA guarantee backed by full faith and credit. SBA's guarantee 
of the Pool Certificate is backed by the full faith and credit of the 
United States.


Sec. 120.621  SBA guarantee of an Individual Certificate.

    (a) Extent of SBA guarantee. With respect to Individual 
Certificates, SBA guarantees to purchase from the Registered Holder the 
guaranteed portion of the loan for an amount equal to the unpaid 
principal and accrued interest due as of the date of SBA's purchase, 
less deductions for applicable fees. Unlike the SBA guarantee with 
respect to pooled loans, SBA does not guarantee timely payment on 
Individual Certificates.
    (b) What triggers the SBA guarantee. SBA's guarantee to the 
Registered Holder may be called upon when:
    (1) The Borrower remains in uncured default for 60 days on payments 
of principal or interest due on the note;
    (2) The Lender fails to send to the FTA on a timely basis payments 
it received from the Borrower; or
    (3) The FTA fails to send to the Registered Holder on a timely 
basis any payments it has received from the Lender.
    (c) Full faith and credit. SBA's guarantee to the Registered Holder 
is backed by the full faith and credit of the United States.

Pool Assemblers


Sec. 120.630  Qualifications to be a Pool Assembler.

    (a) Application to become Pool Assembler. The application to become 
a Pool Assembler is available from the AA/FA. In order to qualify as a 
Pool Assembler, an entity must send the application to the AA/FA, with 
an application fee, and certify that it:
    (1) Is regulated by the appropriate agency as defined in section 
3(a)(34)(G) of the Securities Exchange Act of 1934 (15 U.S.C. 
78c(a)(34)(G));
    (2) Meets all financial and other applicable requirements of its 
regulatory 

[[Page 3254]]
authority and the Government Securities Act of 1986, as amended (Pub. 
L. 99-571, 100 Stat. 3208);
    (3) Has the financial capability to assemble acceptable and 
eligible guaranteed loan portions in sufficient quantity to support the 
issuance of Pool Certificates; and
    (4) Is in good standing with SBA (as the AA/FA determines), the 
Office of the Comptroller of the Currency (``OCC'') if it is a national 
bank, the Federal Deposit Insurance Corporation if it is a bank not 
regulated by the OCC, or the National Association of Securities Dealers 
if it is a member.
    (b) Approval by SBA. An entity may not submit Pool applications to 
the FTA until SBA has approved the application to become a Pool 
Assembler.
    (c) Conduct of business by Pool Assembler. An entity continues to 
qualify as a Pool Assembler so long as it:
    (1) Meets the eligibility standards in paragraph (a) of this 
section;
    (2) Conducts its business in accordance with SBA regulations and 
accepted securities or banking industry practices, ethics, and 
standards; and
    (3) Maintains its books and records in accordance with generally 
accepted accounting principles or in accordance with the guidelines of 
the regulatory body governing its activities.


Sec. 120.631  Suspension or termination of Pool Assembler.

    (a) Suspension or termination. The AA/FA may suspend a Pool 
Assembler from operating in the Secondary Market for up to 18 months or 
terminate its status as a Pool Assembler, if the Pool Assembler (and/or 
its Associates):
    (1) Does not comply with any of the requirements in Sec. 120.630 
(a) and (c);
    (2) Has been indicted or otherwise formally charged with, or 
convicted of, a misdemeanor or felony;
    (3) Has received an adverse civil judgment that it has committed a 
breach of trust or a violation of a law or regulation protecting the 
integrity of business transactions or relationships;
    (4) Has not formed a Pool for at least three years; or
    (5) Is under investigation by its regulating authority for 
activities which may affect its fitness to participate in the Secondary 
Market.
    (b) Suspension procedures. The AA/FA shall notify a Pool Assembler 
by certified mail, return receipt requested, of the decision to suspend 
and the reasons therefore at least 10 business days prior to the 
effective date of the suspension. The Pool Assembler may appeal the 
suspension made under this section pursuant to the procedures set forth 
in part 134 of this chapter. The action of the AA/FA shall remain in 
effect pending resolution of the appeal.
    (c) Notice of termination. In order to terminate a Pool Assembler, 
the AA/FA must issue an order to show cause why the SBA should not 
terminate the Pool Assembler's participation in the Secondary Market. 
The Pool Assembler may appeal the termination made under this section 
pursuant to procedures set forth in part 134 of this chapter. The 
action of the AA/FA shall remain in effect pending resolution of the 
appeal.

Miscellaneous Provisions


Sec. 120.640  Administration of the Pool and Individual Certificates.

    (a) FTA responsibility. The FTA has the responsibility to 
administer each Pool or Individual Certificate. It shall maintain a 
registry of Registered Holders and other information as SBA requires.
    (b) Self-liquidating. Each Pool or individual guaranteed portion of 
a loan in the Secondary Market is self-liquidating because of Borrower 
payments or prepayments, redemption by SBA, and/or payments by SBA or 
the Lender after default by the Borrower. Substitution of the 
guaranteed portions of existing loans for defaulted loans is not 
permitted.
    (c) SBA's right to subrogation. If SBA pays a claim under a 
guarantee with respect to a Certificate issued under this subpart, it 
must be subrogated fully to the rights satisfied by such payment.
    (d) SBA ownership rights not limited. No Federal, State or local 
law can preclude or limit the exercise by SBA of its ownership rights 
in the portions of loans constituting the Pool against which the 
Certificates are issued.


Sec. 120.641  Disclosure to purchasers.

    (a) Information to purchaser. Prior to any sale, the Pool 
Assembler, Registered Holder of an Individual Certificate, or any 
subsequent seller must disclose to the purchaser, verbally or in 
writing, information on the terms, conditions, and yield as described 
in the SBA Secondary Market Program Guide.
    (b) Information on transfer document. The seller must provide the 
same information described in paragraph (a) of this section in writing 
on the transfer document when the seller submits it to the FTA. After 
the sale of an Individual Certificate, the FTA will provide the 
disclosure information in writing to the purchaser.
    (c) Information in prospectus. If the Registered Holder is a trust, 
investment Pool, mutual fund or other security, it must disclose the 
information in paragraph (a) of this section to investors through a 
prospectus and other promotional material if an Individual Certificate 
or Pool Certificate is placed into or used as the backing for the 
investment vehicle.


Sec. 120.642  Requirements before the FTA issues Pool Certificates.

    Before the FTA issues any Pool Certificate, the Pool Assembler must 
deliver to it the following documents:
    (a) A properly completed Pool application form;
    (b) Either:
    (1) Individual Certificates evidencing the guaranteed portions 
comprising the Pool; or
    (2) An executed SPGA and related documentation for the loans whose 
guaranteed portions are to be part of the Pool; and
    (c) Any other documentation which SBA may require.


Sec. 120.643  Requirements before the FTA issues Individual 
Certificates.

    (a) FTA issuance of initial Certificate. Before the FTA can issue 
the Individual Certificate for a guaranteed portion of a loan, the 
original seller must provide the following documents to the FTA:
    (1) An executed SPGA;
    (2) A copy of the note representing the guaranteed loan; and
    (3) Any other documentation which SBA may require.
    (b) Review of documentation. SBA may review or require the FTA to 
review any documentation before the FTA issues a Certificate.


Sec. 120.644  Transfers of Certificates.

    (a) General rule. Certificates are transferable. Transfers in the 
Secondary Market must comply with Article 8 of the Uniform Commercial 
Code of the State of New York. The seller must use the detached form of 
assignment (SBA Form 1088), unless the seller and purchaser choose to 
use another form which the SBA approves. The FTA may refuse to issue a 
Certificate until it is satisfied that the documents of transfer are 
complete.
    (b) Transfer on FTA records. In order for the transfer of a 
Certificate to be effective the FTA must reflect it on its records.
    (c) Contents of letter of transmittal accompanying the transfer of 
Certificates. (1) A letter of transmittal must accompany each 
Certificate which a Registered Holder submits to the FTA for transfer. 
The Registered Holder must supply the following information in the 
letter:
    (i) Pool number, if applicable;
    (ii) Certificate number;
    (iii) Name of purchaser of Certificate;
    
[[Page 3255]]

    (iv) Address and tax identification number of the purchaser;
    (v) Name and telephone number of the person handling or 
facilitating the transfer;
    (vi) Instructions for the delivery of the new Certificate.
    (2) The Registered Holder must also send the fee which the FTA 
charges for this service. The FTA will supply fee information to the 
Registered Holder.
    (d) Lender cannot purchase guaranteed portion of loan it made. The 
Lender (or its Associate) that made a 7(a) guaranteed loan cannot 
purchase the guaranteed portion of that loan in the Secondary Market. 
If a Lender does purchase the guaranteed portion of one of its own 
loans, it shall not have the unconditional guarantee of SBA.


Sec. 120.645  Redemption of Certificates.

    (a) Redemption of Individual Certificate. The prepayment of the 
underlying loan or a default on such loan will trigger the redemption 
of the Certificate by FTA/SBA in accordance with the procedures 
prescribed in the SPGA.
    (b) Redemption of Pool Certificate. The FTA and SBA may redeem a 
Pool Certificate because of prepayment or default of all loans in a 
Pool.


Sec. 120.650  Registration duties of FTA in Secondary Market.

    The FTA registers all Certificates. This means it issues, transfers 
title to, and redeems them. All financial transactions relating to a 
guaranteed portion of a loan flow through the FTA. In fulfilling its 
obligation to keep the central registry current, the FTA may, with 
SBA's approval, obtain any necessary information from the parties 
involved in the Secondary Market.


Sec. 120.651  Claim to FTA by Registered Holder to replace Certificate.

    (a) To replace a Certificate because of loss, theft, destruction, 
mutilation, or defacement, the Registered Holder must:
    (1) Give the FTA information about the Certificate and the facts 
relating to the claim;
    (2) File an indemnity bond acceptable to SBA and the FTA with a 
surety to protect the interests of SBA and the FTA;
    (3) Pay the FTA its fee to replace a Certificate; and
    (4) Use an affidavit of loss (form available from the FTA) to 
report:
    (i) The name and address of the Registered Holder (and the name and 
capacity of any representative actually filing the claim);
    (ii) The Certificate by Pool number, if applicable;
    (iii) The Certificate number;
    (iv) The original principal amount;
    (v) The name in which the Certificate was registered;
    (vi) Any assignment, endorsement or other writing on the 
Certificate; and
    (vii) A statement of the circumstances of the theft or loss.
    (b) When the FTA receives notice of the theft or loss, it will stop 
any transfer of the Certificate. The Registered Holder must send to the 
FTA all available portions of a mutilated or defaced Certificate. When 
the Registered Holder completes these steps, the FTA will replace the 
Certificate.


Sec. 120.652  FTA fees.

    The FTA may charge reasonable servicing fees, transfer fees, and 
other fees as the SBA and FTA may negotiate under contract.

Suspension or Revocation of Participant in Secondary Market


Sec. 120.660  Suspension or revocation.

    (a) Suspension or revocation of Lender, broker, dealer, or 
Registered Holder for violation of Secondary Market rules and 
regulations. The AA/FA may suspend or revoke the privilege of a Lender, 
broker, dealer, or Registered Holder to sell, purchase, broker, or deal 
in loans or Certificates for:
    (1) Committing a serious violation, in SBA's discretion, of:
    (i) The regulations governing the Secondary Market; or
    (ii) Any provisions in the contracts entered into by the parties, 
including SBA Forms 1085, 1086, 1088 and 1454; or
    (2) Knowingly submitting false or fraudulent information to the SBA 
or FTA.
    (b) Additional rules for suspension or revocation of broker or 
dealer. In addition to acting under paragraph (a) of this section, the 
AA/FA may suspend or revoke the privilege of any broker or dealer to 
sell or otherwise deal in Certificates in the Secondary Market if:
    (1) Its supervisory agency has revoked or suspended the broker or 
dealer from engaging in the securities business, or is investigating 
the firm or broker for a practice which SBA considers, in its sole 
discretion, to be relevant to the broker's or dealer's fitness to 
participate in the Secondary Market;
    (2) The broker or dealer has been indicted or otherwise formally 
charged with a misdemeanor or felony which bears on its fitness to 
participate in the Secondary Market; or
    (3) A civil judgment is entered holding that the broker or dealer 
has committed a breach of trust or a violation of any law or regulation 
protecting the integrity of business transactions or relationships.
    (c) Notice to suspend or revoke. The AA/FA shall notify the 
affected party in writing, providing the reasons therefore, at least 10 
business days prior to the effective date of the suspension or 
revocation. The affected party may appeal the suspension or revocation 
made under this section pursuant to the procedures set forth in part 
134 of this chapter. The action of the AA/FA will remain in effect 
pending resolution of the appeal. Revocation will last a minimum of 
five years.

Subpart G--Microloan Demonstration Program


Sec. 120.700  What is the Microloan Program?

    The Microloan Demonstration Program assists women, low income 
individuals, minority entrepreneurs, and other small businesses which 
need small amounts of financial assistance. Under this program, SBA 
makes direct and guaranteed loans to Intermediaries (as defined below) 
who use the proceeds to make loans to eligible borrowers. SBA may also 
make grants under the program to Intermediaries and other qualified 
nonprofit entities to be used for marketing, management, and technical 
assistance to the program's target population.


Sec. 120.701  Definitions.

    (a) Deposit account is a demand, time, savings, passbook, or 
similar account maintained with an insured depository institution (not 
including an account evidenced by a Certificate of Deposit).
    (b) Economically Distressed Area is a county or equivalent division 
of local government of a state in which, according to the most recent 
available data from the United States Bureau of the Census, 40 percent 
or more of the residents have an annual income that is at or below the 
poverty level.
    (c) Grant is a Federal award of money, or property in lieu of money 
(including cooperative agreements) to an eligible grantee that must 
account for its use. The term does not include the provision of 
technical assistance, revenue sharing, loans, loan guarantees, interest 
subsidies, insurance, direct appropriations, or any fellowship or other 
lump sum award.
    (d) Insured depository institution has the same meaning as in 
section 3(c) of the Federal Deposit Insurance Act, 12 U.S.C. 1813(c).
    (e) Intermediary is an entity participating in the Microloan 
Demonstration Program which makes and services Microloans to eligible 
small businesses and which provides 

[[Page 3256]]
marketing, management, and technical assistance to its borrowers. It 
may be:
    (1) A private, nonprofit community development corporation or other 
entity;
    (2) A consortium of private, nonprofit community development 
corporations or other entities;
    (3) A quasi-governmental economic development entity, other than a 
state, county, municipal government or any agency thereof; or
    (4) An agency of or a nonprofit entity established by a Native 
American Tribal Government.
    (f) Microloan is a short-term, fixed interest rate loan of not more 
than $25,000 made by an Intermediary to an eligible small business.
    (g) Non-Federal sources are sources of funds other than the Federal 
Government and may include indirect costs or in-kind contributions paid 
for under non-Federal programs. Community Block Development Grants are 
considered non-Federal sources.
    (h) Specialized Intermediary is an Intermediary which maintains a 
portfolio of Microloans averaging $7,500 or less.


Sec. 120.702  Are there limitations on who can be an Intermediary or on 
where an Intermediary may operate?

    (a) Prior experience requirement. To be eligible to be an 
Intermediary, an organization must:
    (1) Have made and serviced short-term fixed rate loans of not more 
than $25,000 to newly established or growing small businesses for at 
least one year; and
    (2) Have at least one year of experience providing technical 
assistance to its borrowers.
    (b) Limitation to one state. An Intermediary may not operate in 
more than one state unless the AA/FA determines that it would be in the 
best interests of the small business community for it to operate across 
state lines.


Sec. 120.703  How does an organization apply to become an Intermediary?

    (a) Application Process. Organizations interested in becoming 
Intermediaries should contact SBA for information on the application 
process.
    (b) Documentation in support of application. The application must 
include a detailed narrative statement describing:
    (1) The types of businesses assisted in the past and those the 
applicant intends to assist with Microloans;
    (2) The average size of the loans made in the past and the average 
size of intended Microloans;
    (3) The extent to which the applicant will make Microloans to small 
businesses in rural areas;
    (4) The geographic area in which the applicant intends to operate, 
including a description of the economic and demographic conditions 
existing in the intended area of operations;
    (5) The availability and cost of obtaining credit for small 
businesses in the area;
    (6) The applicant's experience and qualifications in providing 
marketing, management, and technical assistance to small businesses; 
and
    (7) Any plan to use other technical assistance resources (such as 
counselors from the Service Corps of Retired Executives) to help 
Microloan borrowers.


Sec. 120.704  How are applications evaluated?

    (a) Evaluation criteria. In selecting Intermediaries, SBA will 
attempt to insure that Microloans are available to small businesses in 
all industries and particularly to small businesses located in urban 
and rural areas.
    (b) Preference for organizations which make very small loans. In 
selecting Intermediaries, SBA will give priority to applicants which 
maintain a portfolio of loans averaging $7,500 or less.
    (c) Consideration of quasi-governmental organizations. Generally, 
SBA will consider applications by quasi-governmental organizations only 
when it determines that program services for a particular geographic 
area would be best provided by such organization.


Sec. 120.705  What is a Specialized Intermediary?

    At the end of an Intermediary's first year of participation in the 
program, SBA will determine whether it qualifies as a Specialized 
Intermediary. An Intermediary qualifies as a Specialized Intermediary 
if it maintains a portfolio of Microloans averaging $7,500 or less. 
Specialized Intermediaries qualify for more favorable interest rates on 
SBA loans. If, after the first year, an Intermediary qualifies as a 
Specialized Intermediary, the special interest rate is applied 
retroactively to SBA loans made to the Intermediary. After the first 
year SBA will determine an Intermediary's qualifications as a 
Specialized Intermediary annually, based on its lending practices 
during the term of its participation in the program. Specialized 
Intermediaries also qualify for a greater amount of technical 
assistance grant funding.


Sec. 120.706  What are the terms and conditions of an Intermediary SBA 
loan?

    (a) Loan Amount. An Intermediary may not borrow more than $750,000 
in the first year of participation in the program. In subsequent years, 
the Intermediary's obligations to SBA may not exceed an aggregate of 
$2.5 million, subject to statutory limitations on the total amount of 
funds available per state.
    (b) Repayment terms. During the first year of the loan, an 
Intermediary is not required to make any payments, but interest accrues 
from the date that SBA disburses the loan proceeds to the Intermediary. 
After that, SBA will determine the periodic payments. The loan must be 
repaid within 10 years.
    (c) Interest rate. The interest rate is equal to the rate 
applicable to five-year obligations of the United States Treasury, 
adjusted to the nearest one-eighth percent, less 1.25 percent. However, 
the interest rate for Specialized Intermediaries is equal to the rate 
applicable to five-year obligations of the United States Treasury, 
adjusted to the nearest one-eighth percent, less two percent.
    (d) Collateral. As security for repayment of the SBA loan, an 
Intermediary must pledge to SBA a first lien position in the MRF 
(described below), LLRF (described below), and all notes receivable 
from Microloans.
    (e) Default. If for any reason an Intermediary is unable to make 
payment to SBA when due, SBA may accelerate maturity of the loan and 
demand payment in full. In this event, or if an Intermediary violates 
this part or the terms of its loan agreement, it must surrender 
possession of all collateral described in paragraph (d) of this section 
to SBA. The Intermediary is not obligated to pay SBA any loss or 
deficiency which may remain after liquidation of the collateral unless 
the loss was caused by fraud, negligence, violation of any of the 
ethical requirements of Sec. 120.140, or violation of any other 
provision of this part.
    (f) Fees. SBA does not charge Intermediaries any fees for loans 
under this Program. An Intermediary may, however, pay minimal closing 
costs to third parties, such as filing and recording fees.


Sec. 120.707  What conditions apply to loans by Intermediaries to 
Microloan Borrowers?

    (a) General. An Intermediary may make Microloans to any small 
business eligible to receive financial assistance under this part. 
Proceeds from Microloans may be used only for working capital and 
acquisition of materials, supplies, furniture, fixtures, 

[[Page 3257]]
and equipment. SBA does not review Microloans for creditworthiness.
    (b) Amount and maturity. Generally, Intermediaries should not make 
a Microloan of more than $10,000 to any borrower. An Intermediary may 
not make a Microloan of more than $15,000 unless the borrower 
demonstrates that it is unable to obtain credit elsewhere at comparable 
interest rates and that it has good prospects for success. An 
Intermediary may not make a loan of more than $25,000, and no borrower 
may owe an Intermediary more than $25,000 at any one time. Each 
Microloan must be repaid within six years.
    (c) Interest rate. The maximum interest rate that can be charged a 
Microloan borrower is:
    (1) On loans of more than $7,500, the interest rate charged on the 
SBA loan to the Intermediary, plus 7.75 percentage points; and
    (2) On loans of $7,500 or less, the interest rate charged on the 
SBA loan to the Intermediary, plus 8.5 percentage points.


Sec. 120.708  What is the Intermediary's financial contribution?

    The Intermediary must contribute from non-Federal sources an amount 
equal to 15 percent of any loan that it receives from SBA. The 
contribution may not be borrowed. For purposes of this program, 
Community Development Block Grants are considered non-Federal sources.


Sec. 120.709  What is the Microloan Revolving Fund?

    The Microloan Revolving Fund (``MRF'') is an interest-bearing 
Deposit Account into which an Intermediary must deposit the proceeds 
from SBA loans, its contributions from non-Federal sources, and 
payments from its Microloan borrowers. An Intermediary may only 
withdraw from this account the money needed to establish the Loan Loss 
Reserve Fund (Sec. 120.710), proceeds for each Microloan it makes, and 
any payments to be made to SBA.


Sec. 120.710  What is the Loan Loss Reserve Fund?

    (a) General. The Loan Loss Reserve Fund (``LLRF'') is an interest-
bearing Deposit Account which an Intermediary must establish to pay any 
shortage in the MRF caused by delinquencies or losses on Microloans. An 
Intermediary must maintain the LLRF until it has repaid all obligations 
it owes SBA.
    (b) Level of Loan Loss Reserve Fund in first year. In an 
Intermediary's first year, the balance on deposit in the LLRF must 
equal not less than 15 percent of the total outstanding balance of all 
notes receivable owed by its Microloan borrowers.
    (c) Level of Loan Loss Reserve Fund in subsequent years. In all 
subsequent years, an Intermediary must maintain a balance on deposit in 
the LLRF at a level which, at a minimum, reflects its loss experience 
as determined by SBA. However, the maximum amount required in the LLRF 
will not exceed 15 percent of the total outstanding balance owed by an 
Intermediary's Microloan borrowers.


Sec. 120.711  What rules govern Intermediaries?

    Intermediaries must operate in accordance with applicable statutes, 
regulations, policy notices, SBA's Standard Operating Procedures 
(SOPs), and the information in the application.


Sec. 120.712  How does an Intermediary get a grant to assist Microloan 
Borrowers?

    (a) General. An Intermediary is eligible to receive grant funding 
from SBA of not more than 25 percent of the outstanding balance of all 
SBA loans to the Intermediary. The Intermediary must contribute, solely 
from non-Federal sources, an amount equal to 25 percent of the grant. 
Contributions may be made in cash or in kind.
    (b) Limitations on grant funds. An Intermediary may not borrow its 
contribution. It may only use grant funds to provide Microloan 
borrowers with marketing, management, and technical assistance, except 
that:
    (1) Up to 15 percent of the grant funds may be used to provide 
information and technical assistance to prospective Microloan 
borrowers; and
    (2) Grant monies may be used to attend training required by SBA. 
Intermediaries may not enter into third party contracts for the 
provision of technical assistance to program clients.
    (c) Exception to contribution requirement. Intermediaries which 
make at least 50 percent of their loans to small businesses located in 
or owned by residents of Economically Distressed Areas are not subject 
to the contribution requirement in paragraph (a) of this section.
    (d) Intermediaries eligible to receive additional grant monies. An 
Intermediary may receive an additional SBA grant equal to five percent 
of the outstanding balance of all loans received from SBA (with no 
obligation to contribute additional matching funds) if:
    (1) The Intermediary makes at least 25 percent of its loans to 
small businesses located in or owned by residents of an Economically 
Distressed Area; or
    (2) The Intermediary is a Specialized Intermediary.
    (e) SBA will determine an Intermediary's eligibility for all grants 
under this section separately for each loanmaking office or site.


Sec. 120.713  Does SBA provide technical assistance to Intermediaries?

    SBA may procure technical assistance for an Intermediary to improve 
its knowledge, skill, and understanding of microlending by awarding a 
grant to a more experienced Intermediary. SBA may also obtain such 
assistance for prospective Intermediaries in areas of the country that 
are either not served or underserved by an existing Intermediary.


Sec. 120.714  How does a non-Intermediary get a grant?

    (a) Grant procedure for non-Intermediaries. Any nonprofit entity 
that is not an Intermediary may apply to SBA for a grant to provide 
marketing, management and technical assistance to low-income 
individuals for the purpose of assisting them in obtaining private 
sector financing in amounts of $25,000 or less. To qualify, it must 
submit information regarding its ability to provide this assistance. If 
approved, the grant agreement will establish the terms and conditions 
for the grant.
    (b) Number and amounts of grants. In each year of the Microloan 
Program, SBA may make no more than 25 grants to non-Intermediaries for 
terms of up to five years. A grant may not exceed $125,000.
    (c) Contribution by nonprofit entity. The nonprofit entity must 
contribute an amount equal to 20 percent of the grant. The contribution 
from the nonprofit entity must come solely from non-Federal sources, 
and may include direct costs or in-kind contributions paid for under 
non-Federal programs.


Sec. 120.715  Does SBA guarantee any loans an Intermediary obtains from 
another source?

    (a) SBA may guarantee not less than 90 percent of no more than 10 
loans by for-profit or nonprofit entities (or an alliance of such 
entities) to Intermediaries located in urban areas and no more than 10 
loans by such entities to Intermediaries located in Rural Areas (as 
defined in Sec. 120.10).
    (b) Any loan guaranteed by SBA under this section will have a term 
of 10 years. If an Intermediary receives such a loan, it will not need 
to repay any principal or interest during the first year, although the 
interest will accrue. During the second through fifth years, the 
Intermediary will pay interest only. During the sixth through tenth 
years, it will pay interest and fully amortize the principal. 

[[Page 3258]]

    (c) The interest rate on any loan under this section shall be 
calculated as described in Sec. 120.706.

Subpart H--Development Company Loan Program (504)


Sec. 120.800  What is the purpose of the 504 program?

    As authorized by Congress, SBA has established this program to 
foster economic development, create or preserve job opportunities, and 
stimulate growth, expansion, and modernization of small businesses. 
Sec. 120.801 How is a 504 Project financed?
    (a) A small business may apply for 504 financing through the CDC 
serving the area in which the 504 Project is located. SBA issues an 
Authorization if it agrees to guarantee part of the funding for a 
Project.
    (b) Usually, a Project requires interim financing from an interim 
lender (often the same lender that later provides a portion of the 
permanent financing).
    (c) Generally, permanent financing of the Project consists of:
    (1) A contribution by the small business in an amount of at least 
10 percent of the Project costs;
    (2) A loan made with the proceeds of a CDC Debenture for up to 40 
percent of the Project costs and certain administrative costs, 
collateralized by a second lien on the Project Property; and
    (3) A private sector loan comprising the balance of the financing, 
collateralized by a first lien on the Project property.
    (d) The Debenture is guaranteed 100 percent by SBA (with the full 
faith and credit of the United States), and sold to Underwriters who 
form Debenture Pools. Investors purchase interests in Debenture Pools 
and receive Certificates representing ownership of all or part of a 
Debenture Pool. SBA and CDCs use various agents to facilitate the sale 
and service of the Certificates and the orderly flow of funds among the 
parties.


Sec. 120.802  Definitions.

    The following terms have the same meaning wherever they are used in 
this subpart. Defined terms are capitalized wherever they appear.
    Area of Operations is a geographic area in which a CDC conducts its 
activities.
    Associate Development Company (ADC) is an entity approved by SBA to 
assist CDCs to deliver 504 financing.
    Central Servicing Agent (CSA) is an entity that receives and 
disburses funds among the various parties involved in 504 financing 
under a master servicing agent agreement with SBA.
    Certificate is a document issued by SBA or its agent representing 
ownership of all or part of a Debenture Pool.
    Debenture is an obligation issued by a CDC and guaranteed 100 
percent by SBA, the proceeds of which are used to fund a 504 loan.
    Debenture Pool is an aggregation of Debentures.
    Investor is an owner of a beneficial interest in a Debenture Pool.
    Job Opportunity is a full time (or equivalent) permanent job 
created within two years of receipt of 504 funds, or retained in the 
community because of a 504 loan.
    Net Debenture Proceeds are the portion of Debenture proceeds that 
finance eligible Project costs (excluding administrative costs).
    Project is the purchase or lease, and/or improvement or renovation 
of long-term fixed assets by a small business, with 504 financing, for 
use in its business operations.
    Project Property is one or more long-term fixed assets, such as 
land, buildings, machinery, and equipment, acquired or improved by a 
small business, with 504 financing, for use in its business operations.
    Third Party Loan is a loan from a commercial or private lender, 
investor, or Federal (non-SBA), State or local government source as 
part of the Project financing.
    Underwriter is an entity approved by SBA to form Debenture Pools 
and arrange for the sale of Certificates.

Certification Procedures To Become a CDC


Sec. 120.810  Applications for certification as a CDC.

    (a) Applicants for certification as a CDC must apply to the SBA 
District Office serving a proposed Area of Operations. An applicant 
must demonstrate that it satisfies the certification and operating 
criteria in Secs. 120.820 through 120.829, as well as:
    (1) The need for 504 services (if there is already a CDC in the 
Area of Operations, the applicant must justify the need for another and 
present a plan to avoid duplication or overlap);
    (2) A budget, approved by its Board of Directors; and
    (3) A plan to meet CDC operating requirements (without specializing 
in a particular industry).
    (b) The AA/FA, with the recommendation of each District Office in 
the applicant's proposed Area of Operations, shall make the 
certification decision.


Sec. 120.811  Public notice of CDC certification application.

    (a) As part of the application process, the applicant must publish 
a notice in a general circulation newspaper in the proposed Area of 
Operations, including the name and location of the proposed CDC, its 
purpose and Area of Operations, and the names and addresses of its 
officers and directors. The applicant shall send a copy of the notice 
to SBA. The notice shall provide the public at least 30 days to submit 
written comments to the District Office. The SBA shall consider the 
comments in making its decision on the application.
    (b) CDCs serving the proposed Area of Operations shall be directly 
notified and given at least 30 days to comment.


Sec. 120.812  Probationary period for newly certified CDCs.

    (a) Newly certified CDCs will be on probation for a period of two 
years, at the end of which the CDC must petition for:
    (1) Permanent CDC status;
    (2) A single, one-year extension of probation; or
    (3) ADC status.
    (b) SBA will consider failure to file a petition before the end of 
the probationary period as a withdrawal from the 504 program. If the 
CDC elects ADC status or withdrawal, it must transfer all funded and/or 
approved loans to another CDC, SBA, or another servicer approved by 
SBA.

Requirements for CDC Certification and Operation


Sec. 120.820  CDC non-profit status.

    A CDC must be a non-profit corporation (or limited liability 
company) in good standing. (For-profit CDCs certified by SBA prior to 
January 1, 1987 may retain their certifications.) An SBIC may not 
become a CDC.


Sec. 120.821  CDC Area of Operations.

    A CDC must have a designated Area of Operations, specified by the 
CDC and approved by SBA. There can be only one statewide CDC in each 
state, which must foster economic development throughout the state and 
provide 504 assistance to areas not adequately served by other CDCs.


Sec. 120.822  CDC membership.

    A CDC must have at least 25 members (or stockholders for for-profit 
CDCs approved prior to January 1, 1987). No person or entity may own or 
control more than 10 percent of the CDC's voting membership (or stock). 
Members must be representative of and provide evidence of active 
support in the Area 

[[Page 3259]]
of Operations. Members must be from each of the following groups:
    (a) Government organizations responsible for economic development 
in the Area of Operations and acceptable to SBA;
    (b) Financial institutions that provide commercial long-term fixed 
asset financing in the Area of Operations;
    (c) Community organizations dedicated to economic development in 
the Area of Operations such as chambers of commerce, foundations, trade 
associations, colleges, or universities; and
    (d) Businesses in the Area of Operations.


Sec. 120.823  CDC Board of Directors.

    The CDC must have a Board of Directors chosen from the membership 
by the members, and representing at least three of the four membership 
groups. No single group shall control. The Board members must be 
responsible officials of the organizations they represent, and at least 
one must possess commercial lending experience. The Board must meet at 
least quarterly and shall be responsible for CDC staff decisions and 
actions. A quorum shall require at least 5 Directors. If there is a 
vote on loan approval or servicing actions, at least one Board member 
with commercial loan experience approved by SBA must be present and 
vote. As an alternative, the Board may obtain the recommendation of 
another person approved by SBA and possessing commercial lending 
experience.


Sec. 120.824  Professional management and staff.

    A CDC must have full-time professional management, including an 
Executive Director (or the equivalent) managing daily operations. It 
must also have a full-time professional staff qualified by training and 
experience to market the 504 Program, package and process loan 
applications, close loans, service the loan portfolio, and sustain a 
sufficient level of service and activity in the Area of Operations.
    (a) Contracting out to third parties. CDCs may obtain, under 
contract, marketing, packaging, processing, and servicing services from 
qualified Lender Service Providers, as that term is defined in part 103 
of this chapter, located in the Area of Operations, subject to SBA's 
prior written approval. CDCs may contract for outside legal and 
accounting services without SBA approval. Compensation under all such 
contracts must be reasonable and customary for similar services in the 
Area of Operations. SBA may audit the contracts.
    (b) Contracting out to other CDCs. CDCs may contract with other 
CDCs for specific services, subject to SBA's prior written approval.


Sec. 120.825  Financial ability to operate.

    A CDC must be able to sustain its operations continuously, with 
reliable sources of funds (such as income from services rendered and 
contributions from government or other sponsors).


Sec. 120.826  Basic requirements for operating a CDC.

    A CDC must operate in accordance with applicable statutes, 
regulations, policy notices, SBA's SOPs, and the information in its 
application. It must supply to SBA current and accurate information 
about all certification and operational requirements, and maintain the 
records and submit the reports required by SBA.


Sec. 120.827  Services a CDC provides to small businesses.

    (a) A CDC must operate in and adequately service its Area of 
Operations. It must market the 504 program, package and process 504 
loan applications, and close and service 504 loans. A CDC's loan 
portfolio must be diversified by business sector.
    (b) A CDC may provide small businesses with financial and technical 
assistance, or may help small businesses obtain such assistance from 
other sources, including preparing, closing, and servicing loans under 
contract with Lenders in SBA's 7(a) program.
    (c) A CDC also may loan amounts to the Borrower equal to the value 
of all or part of the Borrower's contribution to a Project in the form 
of cash or land, including site improvements, previously acquired by 
the CDC.


Sec. 120.828  Minimum level of CDC lending activity.

    A CDC must provide at least two 504 loan approvals each full fiscal 
year.


Sec. 120.829  Job Opportunity average a CDC must maintain.

    (a) A CDC's portfolio must reflect an average of one Job 
Opportunity per $35,000 of 504 loan funding. The AA/FA may permit a CDC 
to average up to one per $45,000 for good cause in:
    (1) Alaska;
    (2) Hawaii;
    (3) State-designated urban or rural jobs and enterprise zones;
    (4) Empowerment Zones and Enterprise Communities; and
    (5) Labor Surplus Areas listed in the Department of Labor's 
publication ``Area Trends.''
    (b) A CDC must indicate in its annual report the Job Opportunities 
actually or estimated to be provided by each Project.
    (c) If a CDC does not maintain the required average, it may retain 
its certification if it justifies to SBA's satisfaction its failure to 
do so in its annual report and shows how it intends to attain the 
required average.


Sec. 120.830  Reports a CDC must submit.

    A CDC must submit the following reports to SBA:
    (a) An annual report within 90 days after the end of the CDC's 
fiscal year, and such interim reports as SBA may require;
    (b) Resumes for all new Associates and staff;
    (c) Reports of involvement in any legal proceeding;
    (d) Changes in organizational status;
    (e) Changes in any condition that affects its eligibility to 
continue to participate in the 504 program; and
    (f) Quarterly service reports on each loan in its portfolio which 
is 60 days or more past due (and interim reports upon request by SBA).

Extending a CDC'S Area of Operations


Sec. 120.835  Application to extend an Area of Operations.

    SBA may expand a CDC's Area of Operations if the proposed Area of 
Operation is not being adequately served by existing CDC(s) and the 
expanding CDC is well-qualified to serve it. A CDC seeking to expand 
its Area of Operations must apply in writing to the SBA District Office 
serving the geographic area in which the CDC proposes to expand.
    (a) A CDC may submit an application to expand its Area of 
Operations if the existing CDCs serving the area have not averaged, 
over the last two years, at least one loan approval per 100,000 of 
general population in the Area of Operation. The one loan per 100,000 
population requirement applies only to the area proposed for expansion, 
not the entire Area of Operations of the existing CDC or CDCs serving 
the expanded area.

    Example to paragraph (a) of this section. CDC A averages 0.8 
loans per 100,000 of general population state-wide, but 1.2 loans 
per 100,000 in city X. CDC B seeks to expand its Area of Operations 
only into city X. CDC B's application will be denied without further 
review because CDC A meets the 1 loan per 100,000 population 
requirement in the proposed expanded Area of Operation.

    (b) The application to expand must demonstrate to the satisfaction 
of SBA the expanding CDC's ability to provide full service to small 
businesses in the expanded territory, including processing, closing, 
servicing, and, if authorized, liquidating 504 loans. The 

[[Page 3260]]
expanding CDC must also demonstrate in its application that it will 
have a local presence and representation in the expanded Area of 
Operations before submitting any 504 loans for approval.


Sec. 120.836  Public notice and opportunity for response.

    SBA will notify all CDCs servicing the proposed area of expansion, 
allowing at least 30 days for the existing CDCs to respond to the 
District Office. The expanding CDC also must publish a notice in a 
general circulation newspaper in the proposed area of expansion, 
advising of its intent to expand and giving the public at least 30 days 
to comment to SBA. The burden of proof in opposing the application will 
be upon the existing CDC or CDCs to show why SBA should not grant the 
application for extension.


Sec. 120.837  SBA decision on application for extension.

    (a) The SBA District Office may consider any factor presented to it 
concerning the proposed area of expansion, the expanding CDC and its 
Area of Operations, and the existing CDC or CDCs serving the area, 
including the following: number of loan approvals per 100,000 of 
general population; number of loan approvals per 100,000 of small 
businesses; the density of small businesses; jobs created and retained; 
the number of 504 loan closings; the average 504 loan amount; urban, 
suburban, or rural character of the expanding area; the mix of small 
businesses; the prevailing economic conditions; servicing record and 
capabilities; currency rates; loss rates; other services provided to 
small businesses (technical and financial assistance); relationship 
with the local SBA office; and ties to and knowledge of the local 
community and its resources.
    (b) The SBA District Office will submit a recommendation, with any 
supporting materials, within 30 days of the end of the comment period 
to the AA/FA, who will make the final decision within 30 days of his or 
her receipt of the District Office's recommendation. In making its 
decision, SBA will consider all information submitted to it, as well as 
the currency of the expanding CDC's portfolio, including the default 
rate.


Sec. 120.838  Expiration of existing, temporary expansions.

    All existing, temporary expansions of Areas of Operation shall 
expire 6 months after March 1, 1996, unless a CDC applies for permanent 
expansion before the expiration date.


Sec. 120.839  Case-by-case extensions.

    (a) A CDC may apply to make an individual loan for a Project 
outside its Area of Operations to the District Office serving the area 
in which the Project will be located if:
    (1) The applicant CDC has previously assisted the business to 
obtain a 504 loan;
    (2) The applicant small business or CDC can document in writing to 
the AA/FA specific circumstances that would prevent the existing CDC or 
CDCs serving the area from assisting the business adequately; and
    (3) The existing CDC or CDCs serving the area agree to permit the 
applicant CDC to make the loan.
    (b) The applicant CDC must demonstrate that it adequately can 
service the loan.
    (c) The AA/FA may approve the request for good cause shown.

Accredited Lenders Program (ALP)


Sec. 120.840  Accredited Lenders Program.

    The SBA may designate a CDC as an Accredited Lender. SBA will 
provide an Accredited Lender with expedited loan processing or 
servicing action.
    (a) Applications. CDCs may apply to the SBA field office with which 
it is most active. The SBA office will send its recommendation and the 
application to the AA/FA for final decision.
    (b) Eligibility. In order to be eligible to receive Accredited 
Lender status, a CDC must have been an active participant in the 504 
loan program for not less than the preceding 12 months. In evaluating 
an application to be an Accredited Lender, SBA will consider all 
relevant factors, including:
    (1) The CDC's ability to work with the local SBA office;
    (2) The quality of past performance; and
    (3) The quality of the loan portfolio, including the default rate.
    (c) Term of designation. CDCs will be designated as ALPs for a two 
year period, and are eligible to renew the designation for additional 
two year periods.
    (d) Suspension and revocation. The AA/FA may suspend or revoke ALP 
designation upon written notice stating the reasons therefore at least 
10 business days prior to the effective date of the suspension or 
revocation. Reasons for suspension or revocation may include loan 
performance unacceptable to SBA or violations of applicable statutes, 
regulations or published SBA policies and procedures. An ALP may appeal 
the suspension or revocation made under this section pursuant to the 
procedures set forth in part 134 of this chapter. The action of the AA/
FA shall remain in effect pending resolution of the appeal.

Premier Certified Lenders Program


Sec. 120.845  Premier Certified Lenders Program.

    The SBA has established a pilot program to designate a number of 
CDCs as Premier Certified Lenders (``PCLPs''), which will be able to 
process, approve, close and service 504 loans.
    (a) Characteristics. Loans processed through the PCL Program will 
be subject to the same loan terms and conditions as other 504 loans, 
but final approval by SBA will be limited to eligibility of the 
guarantee.
    (b) Applications. A CDC may obtain information concerning this 
program from SBA's Office of Pilot Operations in Washington, D.C. A CDC 
may apply to the SBA field office with which it is most active. The SBA 
office will send the application with a recommendation to the AA/FA for 
final decision.
    (c) Eligibility. SBA will consider the CDC's ability to work with 
the local SBA office and the quality of past performance.
    (d) Loss reserve. A PCLP must establish a loss reserve for its 
financings under this program, secured by its segregated assets in 
favor of SBA, in the amount of the PCLP's historic loss rate or 10 
percent of its exposure under the PCLP program, whichever is greater. 
The PCLP must contribute to the loss reserve for each such financing at 
the times and in the amounts established by law.
    (e) Review. The SBA shall review a PCLP's financings at least 
annually.
    (f) Suspension and revocation. The AA/FA may suspend or revoke PCLP 
designation upon written notice stating the reasons therefore at least 
10 business days prior to the effective date of the suspension or 
revocation. Reasons for suspension or revocation may include loan 
performance unacceptable to SBA, failure to meet loss reserve or 
eligibility criteria, or violations of applicable statutes, regulations 
or published SBA policies and procedures. A PCLP may appeal the 
suspension or revocation made under this section pursuant to the 
procedures set forth in part 134 of this chapter. The action of the AA/
FA shall remain in effect pending resolution of the appeal.
    (g) Program period. On October 1, 1997, the PCLP pilot program 
ends.

Associate Development Companies (ADCs)


Sec. 120.850  ADC functions.

    (a) An ADC must support local economic development efforts. An ADC 

[[Page 3261]]
    may package, close, and service loans for a CDC under a written 
contract approved by SBA. Such contracts must meet Service Provider 
criteria, and specify the rights and responsibilities of the parties 
(including payment terms). The CDC remains solely responsible to SBA 
for the processing, closing, and servicing of the loan. It may not 
charge the Borrower a higher fee because it is using the ADC's 
services.
    (b) An ADC must operate in accordance with statutes, regulations, 
policy notices, SBA's Standard Operating Procedures (SOPs), and the 
information in its application. It must supply to SBA current and 
accurate information about all certification and operational 
requirements, and maintain the records required by SBA.


Sec. 120.851  ADC eligibility and operating requirements.

    (a) An ADC must demonstrate to SBA and maintain the following:
    (1) Adequate management ability;
    (2) A Board of Directors meeting at least quarterly and chosen from 
the membership by the members;
    (3) A professional staff, including at least one qualified full-
time professional with small business lending experience available 
during regular business hours; and
    (4) A budget or financial statements showing the financial 
capability and funding to sustain continuing operations.
    (b) An ADC may contract out for staff services only if SBA gives 
prior approval. The contract, subject to SBA audit, may not be self-
serving, and compensation must be reasonable and customary.


Sec. 120.852  Suspension and revocation of ADCs.

    SBA may require corrective action, or the AA/FA may suspend or 
revoke ADC status upon written notice stating the reasons therefore at 
least 10 business days prior to the effective date of the suspension or 
revocation. Reasons for suspension or revocation may include violations 
of applicable statutes, regulations or published SBA policies and 
procedures. An ADC may appeal the suspension or revocation made under 
this section pursuant to the procedures set forth in part 134 of this 
chapter. The action of the AA/FA shall remain in effect pending 
resolution of the appeal.

Ethical Requirements


Sec. 120.855  CDC and ADC ethical requirements.

    CDCs, ADCs and their Associates must act ethically and exhibit good 
character. They must meet all of the ethical requirements of 
Sec. 120.140. In addition, they are subject to the following:
    (a) Any benefit flowing to an Associate or his or her employer from 
activities as an Associate must be merely incidental (this requirement 
does not prevent an Associate or an Associate's employer from engaging 
in a business relationship with the CDC and/or the Borrower in the 
regular course of business, including providing interim financing or 
Third-Party loans); and
    (b) Unless waived by SBA for good cause, an Associate may not be an 
officer, director, or manager of more than one CDC or ADC (except that 
the membership or Board of Directors of a broader-based CDC may include 
a member or director of a local CDC within its Area of Operations).

Project Economic Development Goals


Sec. 120.860  Required objectives.

    A Project must achieve at least one of the economic development 
objectives set forth in Sec. 120.861 or Sec. 120.862.


Sec. 120.861  Job creation or retention.

    A Project must create or retain one Job Opportunity for every 
$35,000 guaranteed by SBA.


Sec. 120.862  Other economic development objectives.

    A Project that achieves any of the following community development 
or public policy goals is eligible if the CDC's overall portfolio of 
504 loans, including the subject loan, meets or exceeds the CDC's 
required Job Opportunity average. Loan applications must indicate how 
the Project will meet the specified economic development objective.
    (a) Community Development goals:
    (1) Improving, diversifying or stabilizing the economy of the 
locality;
    (2) Stimulating other business development;
    (3) Bringing new income into the community;
    (4) Assisting manufacturing firms (Standard Industrial 
Classification Manual (SIC) Codes 20-49); or
    (5) Assisting businesses in Labor Surplus Areas as defined by the 
Department of Labor.
    (b) Public Policy goals:
    (1) Revitalizing a business district of a community with a written 
revitalization or redevelopment plan;
    (2) Expanding exports;
    (3) Expanding Minority Enterprise development (See Sec. 124.103(b) 
of this chapter);
    (4) Aiding rural development;
    (5) Increasing productivity and competitiveness (retooling, 
robotics, modernization, competition with imports);
    (6) Modernizing or upgrading facilities to meet health, safety, and 
environmental requirements; or
    (7) Assisting businesses affected by Federal budget reductions, 
including base closings, either because of the loss of Federal 
contracts or the reduction in revenues due to a decreased Federal 
presence.

Leasing Policies Specific to 504 Loans


Sec. 120.870  Leasing Project Property.

    (a) A Borrower may use the proceeds of a 504 loan to acquire, 
construct, or modify buildings and improvements, and/or to purchase and 
install machinery and equipment located on land leased to the Borrower 
by the CDC or an unrelated lessor if:
    (1) The remaining term of the lease, including options to renew, 
exercisable solely by the lessee, equals or exceeds the term of the 
Debenture, or, in the case of machinery or equipment, equals or exceeds 
the useful life of the property or the term of the Debenture, whichever 
is lesser;
    (2) The Borrower assigns its interest in the lease to the CDC with 
right of reassignment to SBA; and
    (3) The 504 loan is secured by a recorded lien against the 
leasehold estate and other collateral as necessary.
    (b) If a CDC leases property to a small business, the rent paid by 
the small business during the term of the Debenture must be enough to 
pay principal and interest on all debt incurred by the CDC to finance 
the Project, and all related expenses. The rent also may include a 
reasonable return on the CDC's investment.


Sec. 120.871  Leasing part of an existing building to another business.

    (a) The costs of interior finishing of space to be leased out to 
another business are not eligible Project costs.
    (b) Third-party loan proceeds used to renovate the leased space do 
not count towards the 504 first mortgage requirement or the Borrower's 
contribution.

Loan-Making Policies Specific to 504 Loans


Sec. 120.880  Basic eligibility requirements.

    In addition to the eligibility requirements specified in subpart A, 
to be an eligible Borrower for a 504 loan, a small business must:
    (a) Use the Project Property (except that an Eligible Passive 
Company may lease to an Operating Company); and
    (b) Together with its affiliates, meet one of the following size 
standards:

[[Page 3262]]

    (1) It does not have a tangible net worth in excess of $6 million, 
and does not have an average net income after Federal income taxes 
(excluding any carry-over losses) for the preceding two years in excess 
of $2 million; or
    (2) It meets the size standards in Part 121 of this chapter for the 
industry in which it is primarily engaged.


Sec. 120.881  Ineligible Projects for 504 loans.

    In addition to the ineligible businesses and uses of proceeds 
specified in subpart A of this part, the following Projects are 
ineligible for 504 financing:
    (a) Relocation of any of the operations of a small business which 
will cause a net reduction of one-third or more in the workforce of a 
relocating small business or a substantial increase in unemployment in 
any area of the country, unless the CDC can justify the loan because:
    (1) The relocation is for key economic reasons and crucial to the 
continued existence, economic wellbeing, and/or competitiveness of the 
applicant; and
    (2) The economic development benefits to the applicant and the 
receiving community outweigh the negative impact on the community from 
which the applicant is moving; and
    (b) Projects in foreign countries (loans financing real or personal 
property located outside the United States or its possessions).


Sec. 120.882  Eligible Project costs for 504 loans.

    Eligible Project costs which may be paid with the proceeds of 504 
loans are:
    (a) Costs directly attributable to the Project including 
expenditures incurred by the Borrower (with its own funds or from a 
loan):
    (1) To acquire land used in the Project prior to applying to SBA 
for the 504 loan; or
    (2) For any other expense toward a Project within nine months prior 
to receipt by SBA of a complete loan application, unless the time limit 
is extended or waived by SBA for good cause;
    (b) In Projects involving construction, a contingency reserve for 
cost overruns not to exceed 10 percent of construction cost;
    (c) Professional fees directly attributable and essential to the 
Project, such as title insurance, architecture, engineering, 
accounting, environmental studies, and legal fees (other than legal 
fees associated with the closing); and
    (d) Repayment of interim financing including points, fees and 
interest.


Sec. 120.883  Eligible administrative costs for 504 loans.

    The following costs and fees are not part of Project costs but may 
be paid with the proceeds of the 504 loan and the Debenture (see 
Sec. 120.971):
    (a) SBA guarantee fee;
    (b) Funding fee (to cover the cost of a public issuance of 
securities and the Trustee);
    (c) CDC processing fee;
    (d) Closing costs, other than legal fees; and
    (e) Underwriters fee.


Sec. 120.884  Ineligible costs for 504 loans.

    Costs not directly attributable and necessary for the Project may 
not be paid with proceeds of the 504 loan. These include, but are not 
limited to, the following:
    (a) Debt refinancing (other than interim financing).
    (b) Third-Party Loan fees (commitment, broker, finders, 
origination, processing fees of permanent financing).
    (c) Ancillary business expenses, such as:
    (1) Working capital;
    (2) Counseling or management services fees;
    (3) Incorporation/organization costs;
    (4) Franchise fees; and
    (5) Advertising.
    (d) Fixed-asset Project components, such as:
    (1) Short-term equipment, furniture, and furnishings (unless 
essential to and a minor portion of the Project);
    (2) Automobiles, trucks, and airplanes; and
    (3) Construction equipment (except for heavy duty construction 
equipment integral to a business' operations and meeting the IRS 
definition of capital equipment).
    (e) Closing legal fees.

Interim Financing


Sec. 120.890  Source of interim financing.

    A Project may use interim financing for all Project costs except 
the Borrower's contribution. Any source (including a CDC) may supply 
interim financing provided:
    (a) The financing is not derived from any SBA program, directly or 
indirectly;
    (b) The terms and conditions of the financing are acceptable to 
SBA;
    (c) The source is not the Borrower or an Associate of the Borrower; 
and
    (d) The source has the experience and qualifications to monitor 
properly all Project construction and progress payments. (If the source 
lacks such experience or qualifications, SBA may require the interim 
loan to be managed by a third party such as a bank or professional 
construction manager.)


Sec. 120.891  Certifications of disbursement and completion.

    Before the Debenture is issued, the interim lender must certify the 
amount disbursed. The CDC must certify that the Project was completed 
in accordance with the final plans and specifications (except as 
provided in Sec. 120.961).


Sec. 120.892  Certifications of no adverse change.

    Following completion of the Project, the following certifications 
must be made before the 504 loan closing:
    (a) The interim lender must certify to the CDC that it has no 
knowledge of any unremedied substantial adverse change in the condition 
of the small business since the application to the interim lender;
    (b) The Borrower (or Operating Company) must certify to the CDC 
that there has been no unremedied substantial adverse change in its 
financial condition or its ability to repay the 504 loan since the date 
of application, and must furnish interim financial statements, current 
within 90 days of closing; and
    (c) The CDC must issue an opinion to the best of its knowledge that 
there has been no unremedied substantial adverse change in the 
Borrower's (or Operating Company's) ability to repay the 504 loan since 
its submission of the loan application to SBA.

Permanent Financing


Sec. 120.900  What are the sources of permanent financing?

    Permanent financing for each Project must come from three sources: 
the Borrower's contribution, Third-Party Loans, and the 504 loan. 
Typically, the Borrower contributes 10 percent of the permanent 
financing, Third-Party Loans 50 percent and the 504 loan 40 percent.

The Borrower's Contribution


Sec. 120.910  How much must the Borrower contribute?

    The Borrower must contribute to the Project cash (or property 
acceptable to SBA obtained with the cash) or land (that is part of the 
Project Property) valued at 10 percent or more of the Project cost 
(exclusive of administrative cost). The source of the contribution may 
be a CDC or any other source except an SBA business loan program (see 
Sec. 120.913 for SBIC exception).


Sec. 120.911  Land contributions.

    The Borrower's contribution may be land (including buildings, 
structures and other site improvements which will be part of the 
Project Property) 

[[Page 3263]]
previously acquired by the Borrower or the CDC.


Sec. 120.912  Borrowed contributions.

    The Borrower may borrow its cash contribution from the CDC or a 
third party. If any of the contribution is borrowed, the interest rate 
must be reasonable. If the loan is secured by any of the Project 
assets, the loan must be subordinate to the liens securing the 504 
Loan, and the loan may not be repaid at a faster rate than the 504 Loan 
unless SBA gives prior written approval. A third party lender may not 
receive voting rights, stock options, or any other actual or potential 
voting interest in the small business.


Sec. 120.913  May an SBIC provide the contribution?

    Subject to part 107 of this chapter, SBIC's may provide financing 
for all or part of the Borrower's contribution to the project. SBA 
shall consider SBIC funds to be derived from federal sources if the 
SBIC has leverage (as defined in part 107 of this chapter). If the SBIC 
does not have leverage, the investment will be considered to be from 
private funds. SBIC financing must be subordinated to the 504 loan and 
may not be repaid at a faster rate than the Debenture.

Third Party Loans


Sec. 120.920  The first lien position.

    The Borrower must obtain one or more Third Party Loans totaling at 
least as much as the 504 loan. Third Party Loans usually have the first 
lien position. They cannot be guaranteed by SBA.


Sec. 120.921  Terms of Third Party loans.

    (a) Maturity. A Third Party Loan must have a term of at least 7 
years when the 504 loan is for a term of 10 years and 10 years when the 
504 loan is for 20 years. If there is more than one Third Party Loan, 
an overall loan maturity must be calculated, taking into account the 
maturities and amounts of each loan. If there is a balloon payment, it 
must be justified in the loan report and clearly identified in the Loan 
Authorization.
    (b) Interest rates. Interest rates must be reasonable. SBA must 
establish and publish in the Federal Register a maximum interest rate 
for any Third Party Loan from commercial financial institutions. The 
rate shall remain in effect until changed.
    (c) Other terms. The Third Party Loan must not have any early call 
feature or contain any demand provisions unless the loan is in default. 
By participating, a Third Party Loan lender waives, as to the CDC/SBA 
financing, any provision in its deed of trust, or mortgage, or other 
documents prohibiting further encumbrances or subordinate debt. In the 
event of default, the Third Party Lender must give the CDC and SBA 
written notice of default within 30 days of the event of default and at 
least 60 days prior to foreclosure.
    (d) Subordination. A Third-Party Loan lienholder must subordinate 
to the CDC/SBA lien any future advance in excess of the outstanding 
principal balance and accrued interest of the Third Party Loan at the 
time of such advance except expenditures for collection, maintenance, 
and protection of the Third Party Loan lienholder's lien position.
    (e) Escalation upon default. A Third-Party Lender may not escalate 
the rate of interest upon default to an amount greater than the maximum 
rate set forth in paragraph (b) of this section.


Sec. 120.922  Pre-existing debt on the Project Property.

    In addition to its share of Project cost, a Third-Party Loan may 
include consolidation of existing debt on the Project Property. The 
consolidation must not improve the lien position of the Lender on the 
pre-existing debt, unless the debt is a previous Third-Party Loan.


Sec. 120.923  What are the policies on subordination?

    (a) Financing provided by the seller of Project Property must be 
subordinate to the 504 loan. SBA may waive the subordination 
requirement if the property is classified as ``other real estate 
owned'' by a national bank or other Federally regulated lender and SBA 
considers the property to be of sufficient value to support the 504 
loan.
    (b) A Borrower is eligible for a 504 loan even if part of the 
Project financing is tax-exempt. SBA's lien position must not be 
subordinate to loans made from the proceeds of the tax-exempt 
obligation.


Sec. 120.924  Prepayment of subordinate financing.

    The Borrower must not prepay any Project financing subordinate to 
the 504 loan without SBA's prior written consent.


Sec. 120.925  Preferences.

    No Third Party Lender shall establish a Preference.


Sec. 120.926  Referral fee.

    The CDC may receive a referral fee from the Third Party Lender if 
the CDC secured the lender for the Borrower under a written contract. 
The Borrower cannot pay this fee. If a CDC charges a referral fee, the 
CDC will be construed as a Referral Agent under part 103 of this 
chapter.

504 Loans and Debentures


Sec. 120.930  Amount.

    (a) Generally, a 504 loan may not exceed 40 percent of total 
Project cost plus 100 percent of eligible administrative costs. For 
good cause shown, SBA may authorize an increase in the percentage of 
Project costs covered up to 50 percent. No more than 50 percent of 
eligible Project costs can be from Federal sources, whether received 
directly or indirectly through an intermediary.
    (b) Generally, the minimum 504 loan must be $50,000, although, upon 
good cause shown, SBA may permit a 504 loan as small as $25,000. The 
amount of the Debenture must equal the amount of the 504 Loan plus 
administrative costs.
    (c) Upon completion of the Project, the Debenture amount will be 
reduced by the amount that the unused contingency reserve exceeds 2 
percent of the anticipated Debenture.


Sec. 120.931  504 lending limits.

    The outstanding balance of all SBA financial assistance to a 
Borrower and its affiliates under the 504 program covered by this Part 
must not exceed $750,000 ($1,000,000 if one or more of the public 
policy goals enumerated in Sec. 120.862(b) applies to the Project).


Sec. 120.932  Interest rate.

    The interest rate of the 504 Loan and the Debenture which funds it 
is set by the SBA and approved by the Secretary of the Treasury.


Sec. 120.933  Maturity.

    The term of a 504 Loan and the Debenture which funds it shall be 
either 10 or 20 years.


Sec. 120.934  Collateral.

    The CDC/SBA takes a junior lien position (usually a second lien) on 
the Project collateral. In rare circumstances, collateral other than 
the Project collateral may be accepted by SBA. Sometimes secondary 
collateral is required. All collateral must be insured against such 
hazards and risks as SBA may require, with provisions for notice to SBA 
and the CDC in the event of impending lapse of coverage.


Sec. 120.935  Deposit.

    At the time of application for a 504 loan, the CDC may require a 
deposit from the Borrower of $2,500 or 1 percent of the Net Debenture 
Proceeds, whichever is less. The deposit may be 

[[Page 3264]]
applied to the loan processing fee if the application is accepted, but 
must be refunded if the application is denied. If the small business 
withdraws its application, the CDC may deduct from the deposit 
reasonable costs incurred in packaging and processing the application.


Sec. 120.936  Subordination to CDC.

    SBA, in its sole discretion, may permit subordination of the 
Debenture to any other obligation of the CDC, except debt incurred by 
the CDC to obtain funds to loan to the Borrower for the Borrower's 
required contribution to the Project financing.


Sec. 120.937  Assumption.

    A 504 loan may be assumed with SBA's prior written approval. 
Sec. 120.938 Default.
    (a) Upon occurrence of an event of default specified in the 504 
note which requires automatic acceleration, the note becomes due and 
payable. Upon occurrence of an event of default which does not require 
automatic acceleration, SBA may forbear acceleration of the note and 
attempt to resolve the default. If the default is not cured 
subsequently, the note shall be accelerated. In either case, upon 
acceleration of the note, the Debenture which funded it is also due 
immediately, and SBA must honor its guarantee of the Debenture. SBA 
shall not reimburse the investor for any premium paid.
    (b) If a CDC defaults on a Debenture, SBA generally shall limit its 
recovery to the payments made by the small business to the CDC on the 
loan made from the Debenture proceeds, and the collateral securing the 
defaulted loan. However, SBA will look to the CDC for the entire amount 
of the Debenture in the case of fraud, negligence, or misrepresentation 
by the CDC.


Sec. 120.939  Borrower prohibition.

    Neither a Borrower nor an Associate of the Borrower may purchase an 
interest in a Debenture Pool in which the Debenture that funded its 504 
loan has been placed.


Sec. 120.940  Prepayment of the 504 loan or Debenture.

    The Borrower may prepay its 504 loan, if it pays the entire 
principal balance, unpaid interest, any unpaid fees, and any prepayment 
premium established in the note. If the Borrower prepays, the CDC must 
prepay the corresponding Debenture with interest and premium. If one of 
the Debentures in a Debenture Pool is prepaid, the Investors in that 
Debenture Pool must be paid pro rata, and SBA's guarantee on the entire 
Debenture Pool must be proportionately reduced. If the entire Debenture 
Pool is paid off, SBA may call all Certificates backed by the Pool for 
redemption.


Sec. 120.941  Certificates.

    (a) The face value of a Certificate must be at least $25,000. 
Certificates are issued in registered form and transferred only by 
entry on the central registry maintained by the Trustee. SBA guarantees 
the timely payment of principal and interest on the Certificates.
    (b) Before the sale of a Certificate, the seller, or the broker or 
dealer acting as the seller's agent, must disclose to the purchaser the 
terms, conditions, yield, and premium and other characteristics not 
guaranteed by SBA.

Debenture Sales and Service Agents


Sec. 120.950  SBA and CDC must appoint agents.

    SBA and the CDC must appoint the following agents to facilitate the 
sale and service of the Certificates and disbursement of the proceeds.


Sec. 120.951  Selling agent.

    The CDC, with SBA approval, shall appoint a Selling Agent to select 
underwriters, negotiate the terms and conditions of Debenture offerings 
with the underwriters, and direct and coordinate Debenture sales.


Sec. 120.952  Fiscal agent.

    SBA shall appoint a Fiscal Agent to assess the financial markets, 
minimize the cost of sales, arrange for the production of the Offering 
Circular, Debenture Certificates, and other required documents, and 
monitor the performance of the Trustee and the underwriters.


Sec. 120.953  Trustee.

    SBA must appoint a Trustee to:
    (a) Issue Certificates;
    (b) Transfer the Certificates upon resale in the secondary market;
    (c) Maintain physical possession of the Debentures for SBA and the 
Certificate holders;
    (d) Establish and maintain a central registry of:
    (1) Debenture Pools, including the CDC obligors and the interest 
rate payable on the Debentures in each Pool;
    (2) Certificates issued or transferred, including the Debenture 
Pool backing the Certificate, name and address of the purchaser, price 
paid, the interest rate on the Certificate, and fees or charges 
assessed by the transferror; and
    (3) Brokers and dealers in Certificates, and the commissions, fees 
or discounts granted to the brokers and dealers;
    (e) Receive semi-annual Debenture payments and prepayments;
    (f) Make regularly scheduled and prepayment payments to Investors; 
and
    (g) Assure before any resale of a Debenture or Certificate is 
recorded in the registry that the seller has provided the purchaser a 
written disclosure statement approved by SBA.


Sec. 120.954  Central Servicing Agent.

    (a) SBA has entered into a Master Servicing Agreement designating a 
Central Servicing Agent (CSA) to support the orderly flow of funds 
among Borrowers, CDCs, and SBA. The CDC and Borrower must enter into an 
individual Servicing Agent Agreement with the CSA for each 504 loan, 
constituting acceptance by the CDC and the Borrower of the terms of the 
Master Servicing Agreement.
    (b) The CSA has established a master reserve account. All funds 
related to the 504 loans and Debentures flow through the master reserve 
account under the provisions of the Master Servicing Agreement. The 
master reserve account will be funded by a guarantee fee, a funding fee 
to be published from time to time in the Federal Register, and by 
principal and interest payments of 504 loans. At SBA's direction, the 
CSA may use funds in the master reserve account to defray program 
expenses. In the event a Borrower defaults and its 504 note is 
accelerated, SBA shall add funds under its guarantee to ensure the full 
and timely payment of the Debenture which funded the 504 loan. At SBA's 
direction, the CSA must pay to the CDC servicing each loan the interest 
accruing in the master reserve account on loan payments made by each 
Borrower between the date of receipt of each monthly payment and the 
date of disbursement to investors. The CSA may disburse such interest 
periodically to CDCs on a pro rata basis. SBA may use interest accruals 
in the master reserve account earned prior to October 1991 (not 
previously distributed to the CDCs) for the costs of 504 program 
administration.


Sec. 120.955  Agent bonds and records.

    (a) Each agent (in Secs. 120.951 through 120.954) must provide a 
fidelity bond or insurance in such amount as necessary to fully protect 
the interest of the government.
    (b) SBA must have access at the agent's place of business to all 
books, records and other documents relating to Debenture activities.


Sec. 120.956  Suspension or revocation of brokers and dealers.

    The AA/FA may suspend or revoke the privilege of any broker or 
dealer to 

[[Page 3265]]
participate in the sale or marketing of Debentures and Certificates for 
actions or conduct bearing negatively on the broker's fitness to 
participate in the securities market. SBA must give the broker or 
dealer written notice, stating the reasons therefore, at least 10 
business days prior to the effective date of the suspension or 
revocation. A broker or dealer may appeal the suspension or revocation 
made under this section pursuant to the procedures set forth in part 
134 of this chapter. The action of the AA/FA will remain in effect 
pending resolution of the appeal. SBA may suspend or revoke the 
opportunity for a hearing under part 134 of this chapter.

Closings


Sec. 120.960  Responsibility for closing.

    The CDC is responsible for the 504 Loan closing. The Debenture 
closing is the joint responsibility of the CDC and SBA.


Sec. 120.961  Construction escrow accounts.

    The CSA, title company, CDC attorney, or bank may hold Debenture 
proceeds in escrow to complete Project components such as landscaping 
and parking lots, and acquire machinery and equipment if the component 
or acquisition is a minor portion of the total Project and has been 
contracted for completion or delivery at a specified price and specific 
future date. The escrow agent must disburse funds upon approval by the 
CDC and the SBA, supported by invoices and payable jointly to the small 
business and the designated contractor.

Servicing and Fees


Sec. 120.970  Servicing of 504 loans and Debentures.

    The CDC must service the 504 loan in accordance with the Loan 
Authorization, these regulations, SBA policies and procedures, and 
prudent lending standards until paid in full, including review of the 
small business's financial statements, tax filings, insurance, and 
security filings. In doing so, CDCs must comply with the provisions of 
Sec. 120.513. In addition, CDCs must comply with the servicing 
requirements set forth in SBA's SOP. CDCs must report promptly to SBA 
any adverse trend, condition or information relevant to a Borrower. 
Upon request by a CDC, SBA may agree to defer a Borrower's monthly 
payment. SBA may negotiate agreements with CDCs to liquidate loans.


Sec. 120.971  Allowable fees paid by Borrower.

    (a) CDC fees. CDCs may charge the following fees to the Borrower:
    (1) Processing fee. The CDC may charge up to 1.5 percent of the net 
Debenture proceeds to process the financing. Two-thirds of this fee 
will be considered earned and may be collected by the CDC when the 
Authorization for the Debenture is issued by SBA. The portion of the 
processing fee paid by the Borrower may be reimbursed from the 
Debenture proceeds;
    (2) Closing fee. The CDC may charge a fee to cover an amount 
sufficient to reimburse it for reasonable legal expenses of in-house or 
outside legal counsel. The CDC may also charge a fee to cover 
reasonable miscellaneous closing costs. Closing costs, other than legal 
fees, may be funded out of the Debenture proceeds;
    (3) Servicing fee. The CDC will charge a monthly servicing fee of 
not less than 0.5 percent per annum nor more than 2 percent per annum 
on the unpaid balance of the loan as determined at five-year 
anniversary intervals. A servicing fee in excess of 1.5 percent in a 
Rural Area and 1 percent everywhere else requires SBA's prior written 
approval, based on evidence of substantial need. The servicing fee may 
be paid only from loan payments received. The fees may be accrued 
without interest and collected from the CSA when the payments are made;
    (4) Late fees. Loan payments received after the 15th of each month 
may be subject to a late payment fee of 5 percent of the late payment 
or $100, whichever is greater. These fees will be collected by the CSA 
on behalf of the CDC; and
    (5) Assumption fee. Upon SBA's written approval, a CDC may charge 
an assumption fee not to exceed 1 percent of the outstanding principal 
balance of the loan being assumed.
    (b) CSA fees. The CSA may charge an initiation fee on each loan and 
a monthly servicing fee under the terms of the Master Servicing 
Agreement.
    (c) Other agent fees. Agent fees and charges necessary to market 
and service Debentures and Certificates may be assessed to the Borrower 
or the investor. The fees must be approved by SBA and published 
periodically in the Federal Register.
    (d) SBA fees. (1) SBA charges a 0.5 percent guarantee fee on the 
Debenture.
    (2) For those loans approved after October 1, 1995, SBA charges a 
fee of 0.125 per annum on the unpaid principal balance of the loan as 
determined at five-year anniversary intervals.
    (e) Miscellaneous fees. A funding fee not to exceed 0.25 percent of 
the Debenture may be charged to cover costs incurred by the trustee, 
fiscal agent, transfer agent.


Sec. 120.972  Oversight and evaluation of CDCs and ADCs.

    SBA may conduct an operational review of a CDC or ADC. The SBA 
Office of Inspector General may conduct, supervise or coordinate audits 
pursuant to the Inspector General Act. The CDC or ADC must cooperate 
and make its staff, records, and facilities available.

CDC Transfer, Suspension and Revocation


Sec. 120.980  Transfer of CDC to ADC status.

    SBA shall transfer to ADC status any CDC that fails to meet the 
activity level required by SBA, on average over two consecutive fiscal 
years. SBA shall notify the CDC in writing of the action and of the 
opportunity for a hearing pursuant to part 134 of this chapter at least 
10 business days prior to the transfer. During the pendency of a 
hearing, SBA's action will remain in effect.


Sec. 120.981  Voluntary transfer and surrender of CDC certification.

    A CDC may not transfer its certification or withdraw from the 504 
program without SBA's consent. The CDC must provide a plan to SBA to 
transfer its portfolio. The portfolio may only be transferred with 
SBA's written consent. If a CDC desires to withdraw from the 504 
program, it must forfeit its portfolio to SBA. SBA may conduct an audit 
of the transferring or withdrawing CDC.


Sec. 120.982  Correcting CDC servicing deficiencies.

    SBA may require corrective action, including the transfer of 
existing or pending financings to another CDC in good standing. SBA 
must notify the CDC in writing of any servicing, reporting or 
collection deficiencies and the corrective actions to be taken. SBA may 
instruct the CSA to withhold service and late fees and may assess the 
CDC up to $250 per day for expenses incurred by SBA to correct the 
deficiencies. If non-compliance continues for 90 days, SBA may take the 
fees as compensation for its efforts to obtain compliance.


Sec. 120.983  Transfer of CDC servicing to SBA or another CDC.

    If a CDC fails to correct servicing deficiencies, or is unable or 
unwilling to service its portfolio, SBA may assume the servicing or 
require the transfer of all or part of the CDC's portfolio to 

[[Page 3266]]
another CDC within or adjoining the deficient CDC's Area of Operations. 
If there is no suitable CDC, SBA may approve a transfer to another 
entity. Future service fees from transferred loans will be paid to the 
transferee. In addition, the CDC's processing authority will be 
temporarily suspended.


Sec. 120.984  Suspension or revocation of CDC certification.

    (a) Suspend or revoke. The AA/FA may suspend or revoke the CDC's 
certification if a CDC:
    (1) Violates a statute, an SBA regulation, or the terms of a 
Debenture, authorization, or agreement with SBA;
    (2) Makes a material false statement, knowingly misrepresents, or 
fails to state a material fact;
    (3) Fails to maintain good character;
    (4) Fails to operate according to prudent lending standards;
    (5) Fails to correct servicing, collection, reporting, or other 
deficiencies; or
    (6) Is unable or unwilling to operate in accordance with the 
requirements of this part.
    (b) Transfer portfolio. Upon suspension or revocation, the CDC must 
transfer its remaining portfolio and any 504 applications or financings 
in process to another CDC designated or approved by SBA. If a pending 
504 financing is completed after a transfer, any deposit must also be 
transferred. Any fees must be apportioned by SBA between the two CDCs 
in proportion to services performed.
    (c) Provide written notice. SBA must give written notice to the CDC 
at least 10 business days prior to the effective date of a suspension 
or revocation, informing the CDC of the opportunity for a hearing 
pursuant to part 134 of this chapter.

Enforceability of 501, 502 and 503 Loans and Other Laws


Sec. 120.990  501, 502, and 503 loans.

    SBA has discontinued loan programs for 501, 502, and 503 loans. 
Outstanding loans remain under these programs, and Borrowers, CDCs, and 
SBA must comply with the terms and conditions of the corresponding 
notes and Debentures, and the regulations in this part in effect when 
the obligations were undertaken or last in effect, if applicable.


Sec. 120.991  Effect of other laws.

    No State or local law may preclude or limit SBA's exercise of its 
rights with respect to notes, guarantees, Debentures and Debenture 
Pools, or of its enforcement rights to foreclose on collateral.

PARTS 108, 116, 122, and 131--[REMOVED]

    2. Parts 108, 116, 122, and 131 are removed.

    Dated: January 22, 1996.
John T. Spotila,
Acting Administrator.
[FR Doc. 96-1432 Filed 1-30-96; 8:45 am]
BILLING CODE 8025-01-P