[Federal Register Volume 64, Number 71 (Wednesday, April 14, 1999)]
[Proposed Rules]
[Pages 18375-18382]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 99-9265]


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 Proposed Rules
                                                 Federal Register
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 This section of the FEDERAL REGISTER contains notices to the public of 
 the proposed issuance of rules and regulations. The purpose of these 
 notices is to give interested persons an opportunity to participate in 
 the rule making prior to the adoption of the final rules.
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  Federal Register / Vol. 64, No. 71 / Wednesday, April 14, 1999 / 
Proposed Rules  

[[Page 18375]]


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SMALL BUSINESS ADMINISTRATION

13 CFR Part 107


Small Business Investment Companies

AGENCY: Small Business Administration.

ACTION: Proposed rule.

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SUMMARY: The Small Business Reauthorization Act of 1997 made a number 
of changes to the Small Business Investment Act of 1958, as amended. 
For the Small Business Investment Company (SBIC) Program, the changes 
include provisions affecting capital requirements, Leverage 
eligibility, and the timing of tax distributions by SBICs that have 
issued Participating Securities. This proposed rule would implement 
these statutory provisions; in addition, it would prohibit political 
contributions by SBICs and would modify regulations governing the 
refinancing of real estate by SBICs, portfolio diversification 
requirements, takedowns of Leverage, and in-kind distributions by 
Participating Securities issuers.

DATES: Submit comments on or before May 14, 1999.

ADDRESSES: Address comments to Don A. Christensen, Associate 
Administrator for Investment, U.S. Small Business Administration, 409 
3rd Street, SW., Suite 6300, Washington, DC 20416.

FOR FURTHER INFORMATION CONTACT: Leonard W. Fagan, Investment Division, 
at (202) 205-7583.

SUPPLEMENTARY INFORMATION: This proposed rule would implement the 
provisions of Subtitle B of Pub. L. 105-135 (December 2, 1997), the 
Small Business Reauthorization Act of 1997, which relate to small 
businesses investment companies (SBICs). This rule would also establish 
regulations prohibiting political contributions by SBICs and would 
modify regulations governing the refinancing of real estate by SBICs, 
portfolio diversification requirements, procedures for drawing down 
Leverage from SBA, and in-kind distributions by SBICs that have issued 
Leverage in the form of Participating Securities.

Private Capital

    Section 213 of Pub. L. 105-135 amended the statutory definition of 
private capital to include certain funds invested in a Licensee by a 
federally chartered or Government-sponsored corporation established 
prior to October 1, 1987. Under the revised definition, private capital 
may include funds obtained from the business revenues of such entities; 
appropriated Government funds are specifically excluded. Proposed 
Sec. 107.230(b)(3) would implement this change by incorporating the 
statutory language in the regulatory definition of Private Capital. In 
this context, SBA's view is that ``business revenues'' means earnings 
that are generated by a corporation through activities of a commercial 
nature and that are reflected in the retained earnings of the 
corporation.

Definition of ``Associate''

    SBA is proposing a technical correction in the definition of 
``Associate'' in Sec. 107.50. Under paragraph (8)(i) of the current 
definition, a business concern becomes an Associate of an SBIC if it 
has one or more officers who have a business or personal relationship 
with the SBIC of a type listed in subparagraphs (1) through (6) of the 
definition. This provision does not explicitly encompass business 
concerns organized as partnerships or limited liability companies, 
which may be managed by persons who are not designated as officers. To 
clarify the applicability of paragraph (8)(i) to all concerns, 
regardless of their form of organization, the proposed rule would 
replace ``officer'' with ``officer, general partner, or managing 
member.''

Leverageable Capital

    An SBIC's Leverageable Capital is a subset of its Private Capital. 
It is used to determine the maximum amount of SBA Leverage funds which 
the SBIC may have outstanding. The current definition of Leverageable 
Capital in Sec. 107.50 excludes ``Qualified Non-private Funds [as 
defined in Sec. 107.230(d)] whose source is Federal funds.'' SBA has 
determined that the Act does not require this exclusion and is 
proposing to remove it.

Internet Access and Electronic Mail

    As the SBIC program grows in size and sophistication, SBA is 
seeking ways to improve administrative efficiency. The Agency is 
particularly interested in improving its ability to communicate with 
Licensees electronically. Many SBICs are already using the Internet to 
obtain updated regulations and software from SBA and to submit 
financial statements and other required information. To further promote 
the use of this highly efficient means of communication, proposed 
Sec. 107.504(a) would require all SBICs to have Internet access and 
Internet electronic mail no later than June 30, 1999.
    To improve the organization of the regulations, the proposed rule 
also would consolidate three current sections into a single section. 
Current Secs. 107.504, 107.505, and 107.508 would become Sec. 107.504 
(a), (b), and (c), respectively. These sections require an SBIC to 
maintain an office accessible to the public and to have certain office 
equipment to facilitate communications with SBA. Except for the 
proposed new requirement for Internet access and electronic mail, there 
would be no substantive change in these provisions.

Political Contributions

    It has come to SBA's attention that a few SBICs have made 
contributions to organizations formed to promote the election of 
political candidates or the advancement of a political or legislative 
agenda. In at least one case, an SBA examiner cited an SBIC's 
contribution to an organization of this type as an ``activity not 
contemplated by the Act.'' SBA has upheld this interpretation of the 
Act and would apply it even where the SBIC has no outstanding Leverage 
at the time of the contribution.
    The Act states that the purpose of the SBIC program is ``to 
stimulate and supplement the flow of private equity capital and long-
term loan funds which small-business concerns need for the sound 
financing of their business operations and for their growth, expansion, 
and modernization. . . .'' 15 U.S.C. 661. Under a longstanding 
interpretation of this statutory provision, SBA does not permit 
activities by an SBIC that do not contribute to the growth, expansion, 
and modernization of a small business. Since SBA is concerned that an 
SBIC's political contributions can have, at best,

[[Page 18376]]

only a remote and speculative connection to the growth, expansion, and 
modernization of small businesses, SBA is proposing this rule to 
confirm that such activities are not permissible.
    SBA believes that a regulation on political contributions by 
Licensees is necessary to prevent any confusion on this subject in the 
future. In proposing this regulation, SBA does not seek to limit 
impermissibly any form of constitutionally protected speech. However, 
restrictions on the use of SBIC funds for political contributions 
appear to be required by the Act.
    U.S. taxpayers support SBICs and their investors through the use of 
Government-guaranteed Leverage and various tax benefits. SBICs and 
their investors are also the recipients of assorted governmental 
benefits of a non-tax nature, including exemption from certain 
provisions of banking and other statutes. SBA believes that it is 
appropriate to require that, in exchange for these benefits, SBICs use 
their funds only for the purposes referred to in 15 U.S.C. 661. This 
also would eliminate any possibility that a particular contribution by 
an SBIC could be misperceived as having been endorsed by SBA.
    Proposed Sec. 107.505 would prohibit contributions by an SBIC to 
any political campaign, party, or candidate, or to any political action 
committee. The proposed regulation is written broadly enough to cover 
all political contributions, including so-called ``soft money'' 
contributions, that are used by organizations to support activities 
other than the influencing of federal elections. Nothing in the 
proposed rule would affect the right of investors in and managers of 
SBICs to make political contributions with their own funds, outside of 
the SBIC.
    SBA encourages comment from the SBIC industry and, in particular, 
from the legal community on this proposed change.

Financing of Smaller Enterprises

    Since April 1994, SBICs have been required to direct a certain 
percentage of their investment activity to businesses that fall 
significantly below the maximum size permitted for a Small Business. 
These businesses are referred to as ``Smaller Enterprises.'' This 
proposed rule includes three changes related to the financing of 
Smaller Enterprises; one implements a provision of Pub. L. 105-135, the 
second is a technical correction, and the third is an editorial change.
    Section 215(b) of Pub. L. 105-135 increased the maximum amount of 
SBA Leverage for which an SBIC could be eligible (see the section of 
this preamble entitled ``Maximum Amount of Leverage''). The statute 
further required that 100 percent of any Leverage over $90 million the 
previous limit, be invested in Smaller Enterprises. Proposed 
Sec. 107.710(d) would implement this financing requirement, which is in 
addition to the Smaller Enterprise financing requirements in 
Sec. 107.710(b) and (c). For example, an SBIC is required under current 
Sec. 107.710(b) to make at least 20 percent of its total cumulative 
investments in Smaller Enterprises. If the SBIC has $100 million of 
outstanding Leverage at the end of its fiscal year, it must meet the 20 
percent standard and have at least $10 million of additional 
investments in Smaller Enterprises in its portfolio.
    Current Sec. 107.710(c), which was effective February 5, 1998, 
implemented a provision of Pub. L. 104-208 that required certain SBICs 
to make at least 50 percent of their total investments in Smaller 
Enterprises. The Licensees to whom the provision applies are those 
licensed on or before September 30, 1996, that issued Leverage after 
that date, and whose Regulatory Capital is ``less than $10 million if 
such Leverage was Participating Securities'' or ``less than $5 million 
if such Leverage was Debentures.'' The regulation does not make clear 
which standard applies to an SBIC that has issued both Participating 
Securities and Debentures. Proposed Sec. 107.710(c)(1) would clarify 
that the $10 million threshold applies to a Licensee that has issued 
any amount of Participating Securities, while the $5 million applies to 
a Licensee that has issued Debentures only.
    Finally, in proposed Sec. 107.710(f), the cross-reference to 
certain paragraphs in Sec. 107.1120 would be revised to reflect 
proposed revisions in that section.

Real Estate Refinancing

    Current Sec. 107.720(c)(2) permits SBICs to provide financing to a 
Small Business for the purpose of acquiring or refinancing real estate 
only under certain conditions. Specifically, the Small Business must 
either be acquiring real property or building or renovating a building. 
The regulation does not permit refinancing of real estate currently 
owned and occupied by the Small Business. SBA believes that Small 
Businesses should be able to obtain financing from SBICs for this 
purpose, just as they currently can refinance other debt. Accordingly, 
proposed Sec. 107.720(c)(2)(iii) would allow proceeds to be used to 
refinance debt obligations on property that is owned and occupied by a 
Small Business, provided it uses at least 67 percent of the usable 
square footage for an eligible business purpose. The occupancy 
requirement is the same as that applied to a building that is being 
built or renovated by a Small Business.

Co-Investment With Associates

    Section 107.730(d)(3) sets forth circumstances under which an 
SBIC's co-investment with an Associate is presumed to be on terms that 
are equitable to the SBIC, so that no specific demonstration of 
fairness is required. Under current Sec. 107.730(d)(3)(iv), this 
presumption applies to co-investments by two non-leveraged SBICs, or by 
a non-leveraged SBIC and its non-SBIC Associate. The proposed rule 
would modify this provision by removing the term ``non-leveraged'' and 
referring instead to Licensees that ``have no outstanding Leverage and 
do not intend to issue Leverage in the future.'' Thus, the provision 
would apply only to an SBIC that intends to operate permanently as a 
non-leveraged company. SBA is proposing this change to protect its 
interests in all cases where the Agency may have either current or 
future financial exposure.

Portfolio Diversification Requirement (``Overline'' limit)

    In a final rule published on February 5, 1998 (63 FR 5859), SBA 
made certain changes to Sec. 107.740, under which a leveraged SBIC may 
not have more than 20 percent of its Regulatory Capital invested in or 
committed to a single Small Business or group of related businesses 
without SBA's prior written approval (for SSBICs, the limit is 30 
percent of Regulatory Capital). The changes addressed the problem faced 
by an SBIC that reduced its Regulatory Capital in a manner permitted by 
the regulations, and then found that one or more of its existing 
investments exceeded its reduced overline limitation. The solution to 
this problem was to base a Licensee's maximum permitted investment in 
or commitment to a Small Business on its Regulatory Capital at the time 
the investment or commitment is made.
    When this regulatory change was proposed, SBA received several 
comments suggesting that SBA should make further changes. The 
commenters argued that an SBIC, particularly a limited life partnership 
that expects to return capital to investors as investments are 
harvested, should be permitted to base its overline limit on its 
original Regulatory Capital, with no reduction for subsequent returns 
of capital. The rationale was that an SBIC should not be forced to 
reduce the intended investment size reflected in its

[[Page 18377]]

business plan because of an early distribution. One commenter pointed 
out that this imposes a penalty that is particularly unjustified in the 
case of an SBIC which makes a distribution resulting from a profitable 
realization of a portfolio company investment.
    SBA understood these concerns, but the comments were not adopted 
because SBA believed that the suggested changes were prohibited by 
section 306(a) of the Act. Since that time, the Agency has reconsidered 
its position on the proper interpretation of the statutory provision, 
and has now concluded that the statute permits SBA to determine, by 
regulation, the point as of which Regulatory Capital is measured for 
the purpose of establishing an SBIC's overline limit.
    Accordingly, under proposed Sec. 107.740(a), an SBIC's overline 
limit would be computed based on the sum of: (1) Its Regulatory Capital 
at the time an investment or commitment is made, and (2) any 
distributions permitted under the regulations that were made within the 
preceding 5 years and reduced Regulatory Capital. The effect of this 
change would be greatest for SBICs that issue Participating Securities. 
Under Sec. 107.1570(b), these Licensees are permitted to make 
distributions that reduce Regulatory Capital, as long as they also 
redeem outstanding Participating Securities on a pro rata basis. Such 
distributions can be substantial; since 1995, when Participating 
Securities were first issued, 15 SBICs have elected to make 
distributions that reduced Regulatory Capital by a total of about $39 
million. SBA expects the frequency and amount of such distributions to 
grow as Licensees' portfolios mature.
    For SBICs that use other forms of SBA Leverage (Debentures or 
Preferred Securities), the proposed rule would be less significant, 
although it could have some effect. Under current Sec. 107.585, such 
SBICs cannot reduce their Regulatory Capital by more than 2 percent in 
any fiscal year without SBA's prior written approval. Any distribution 
that falls within the 2 percent limitation could be added back to 
Regulatory Capital for overline purposes. SBA would determine whether a 
distribution exceeding 2 percent of Regulatory Capital could be added 
back to the Licensee's overline limit. SBA believes that it must have 
this discretion because of the wide variety of circumstances under 
which various SBICs may seek to reduce their Regulatory Capital.
    SBA is also proposing a clarification of the introductory text in 
Sec. 107.740(a). The proposed rule states that the provisions of 
Sec. 107.740 would apply to Licensees that ``have outstanding Leverage 
or intend to issue Leverage in the future.'' This phrase would replace 
current language referring to Licensees that ``have outstanding 
Leverage or want to be eligible for Leverage.'' The purpose of the 
proposed change is to clarify that the overline limit does apply to 
``temporarily'' non-leveraged SBICs whose business plans indicate that 
they expect to become leveraged.

Leverage Application Procedures and Eligibility

    SBA is proposing a technical correction in Sec. 107.1100(b) to 
reflect recent changes in Leverage funding procedures, under which a 
Licensee can issue Leverage only by first obtaining a Leverage 
commitment from SBA, and then drawing down funds against the 
commitment.
    Proposed Sec. 107.1120(d) would implement a requirement in section 
215(b)(1) of Pub. L. 105-135 that applies to Licensees seeking Leverage 
in excess of $90 million. To be eligible for the Leverage, such 
Licensees must certify that they will use 100 percent of all proceeds 
over $90 million to provide financing to Smaller Enterprises. See also 
the section of this preamble entitled ``Financing of Smaller 
Enterprises.''

Maximum Amount of Leverage

    Section 215(b) of Pub. L. 105-135 increased the maximum amount of 
SBA Leverage for which an SBIC could be eligible. The previous limit, 
for either a single SBIC or a group of SBICs under common control, was 
$90 million. The statute indexed this amount to the Consumer Price 
Index (CPI) retroactive to March 1993, with annual adjustments to take 
place following the initial adjustment.
    Proposed Sec. 107.1150(a) and (b)(1) would implement the statutory 
change. The Leverage eligibility table in Sec. 107.1150(a)(1) reflects 
increases in the CPI from March 1993, through September 1998, the final 
month of the Federal Government's 1998 fiscal year. SBA proposes to 
make subsequent adjustments each year based on the September-to-
September increase in the CPI. The proposed rule would result in a new 
Leverage ceiling of $102.5 million.
    Below the overall Leverage ceiling, there are also several 
Leverageable Capital brackets within which a Licensee is eligible for 
certain maximum Leverage amounts. These individual brackets would also 
be indexed to the CPI. For example, the first bracket currently 
consists of Leverageable Capital of not more than $15 million on which 
a Licensee may be eligible for maximum Leverage in the ratio of 3:1. 
Based on increases in the CPI from March 1993 to September 1998, the 
$15 million cutoff would increase to $17.1 million.
    Under proposed Sec. 107.1150(a)(2), SBA would publish an annual 
notice in the Federal Register to update the maximum Leverage amounts. 
The Bureau of Labor Statistics normally publishes the CPI for September 
in mid-October, and SBA would expect to publish its Federal Register 
notice shortly thereafter.

Draws Against SBA Leverage Commitments

    In May 1998, SBA instituted a new interim Leverage funding 
mechanism, sometimes described as ``just-in-time'' funding. Under the 
new procedures, an SBIC that has obtained a Leverage commitment from 
SBA may draw funds against the commitment on any business day. All 
SBICs with Leverage commitments must file quarterly financial 
statements on SBA Form 468 within 30 days after the end of each fiscal 
quarter. Under current Secs. 107.1220 and 107.1230(d)(1), if an SBIC 
wishes to draw funds after the end of a quarter, but before the normal 
quarterly reporting deadline, it must submit quarterly financial 
statements with its draw request. With the advent of just-in-time 
funding, these provisions can result in an SBIC having as little as 1 
week after the end of a quarter to prepare and submit financial 
statements to SBA.
    SBA believes that most SBICs cannot reasonably comply with such a 
tight time frame, and that attempts to do so may result in the filing 
of incomplete or erroneous statements. Furthermore, the Agency believes 
that it can properly evaluate a draw request based on financial 
statements from a Licensee's previous fiscal quarter, together with the 
Licensee's certification that there has been no material adverse change 
in its financial condition since that time. Therefore, proposed 
Secs. 107.1220 and 107.1230(d)(1) would eliminate the requirement that 
draw requests submitted within 30 days of the end of a Licensee's 
fiscal quarter be accompanied by updated quarterly financial 
statements. In addition, proposed Sec. 107.1230(d)(1) would clarify 
that every draw request must be accompanied by a statement certifying 
that there has been no material adverse change in the Licensee's 
financial condition since its last filing of SBA Form 468.
    Finally, proposed Sec. 107.1230(d)(2) would require a Licensee to 
provide preliminary unaudited year end

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financial statements when it submits a draw request more than 30 days 
following the end of its fiscal year if the Licensee has not yet filed 
its audited annual financial statements. SBA expects these preliminary 
financial statements to be as close to final as possible, but 
understands that they may not be exactly the same as the audited 
statements submitted later.
    Under current Sec. 107.1230(d)(3), which is proposed to be 
redesignated as Sec. 107.730(d)(4), an SBIC applying for a draw must 
submit a statement of need showing the names of the Small Businesses 
that will be financed with the proceeds. SBA recognizes that an SBIC 
may sometimes wish to draw funds to provide necessary liquidity for its 
day-to-day operations, and is willing to consider draw requests for 
this purpose. Accordingly, under proposed Sec. 107.1230(d)(4), the 
Licensee could apply for a draw based on operating liquidity needs, on 
specific financings it expects to close, or on a combination of the 
two.

Tax Distributions

    Section 215(c) of Pub. L. 105-135 amended provisions of the Act 
governing the timing of ``tax distributions'' that SBICs with 
outstanding Participating Securities may make to their private 
investors and SBA. Previously, such distributions could be made once a 
year, based on the income allocated by a Licensee to its investors for 
Federal income tax purposes for the fiscal year immediately preceding 
the distribution. The statutory change now gives a Licensee the option 
of making a tax distribution at the end of any calendar quarter based 
on a quarterly estimate of tax liability. However, if the aggregate 
quarterly distributions made during any fiscal year exceed the amount 
that the Licensee would have been permitted to make based on a single 
computation performed for the entire year, future tax distributions 
must be reduced by the amount of the excess.
    Proposed Secs. 107.1550 and 107.1575 would implement these changes. 
The timing of tax distributions is addressed in proposed 
Sec. 107.1550(d) and Sec. 107.1575(a). SBA believes that the statutory 
language permitting tax distributions ``at the end of any calendar 
quarter'' does not require that such distributions be made only on the 
last day of a quarter, and wishes to give Licensees the flexibility to 
make the distributions later if they so choose. The proposed rule would 
permit interim tax distributions to be made on the last day of a 
calendar quarter or on any succeeding day through the first Payment 
Date following the end of the quarter (Payment Dates are February 1, 
May 1, August 1, and November 1 of each year). As before, Licensees 
would be able to make annual tax distributions as late as the second 
Payment Date following the end of their fiscal year. If the 
distribution is not made on a Payment Date, SBA's prior approval would 
be required (see the current introductory text of Sec. 107.1575(a), 
which SBA does not propose to change).
    Proposed Sec. 107.1550(e) implements the statutory provision 
concerning excess tax distributions. The determination of the excess 
amount and the corresponding reduction of future distributions should 
be straightforward in most cases. One complexity that may arise is best 
illustrated by an example. Assume that an SBIC made quarterly tax 
distributions of $2.5 million in year 1. At the end of the year, it was 
determined that the permitted tax distribution for the full year would 
have been only $2 million so the excess tax distribution for the year 
was $500,000. In year 2, the SBIC computes a first quarter tax 
distribution of $900,000. It must reduce this distribution by the 
$500,000 excess from year 1, so its actual distribution is only 
$400,000. It then makes additional quarterly tax distributions of $1.5 
million and $1.1 million during the year, so that its actual aggregate 
quarterly distributions are $3 million. At the end of year 2, the SBIC 
determines that its maximum permitted tax distribution for the full 
year would have been $3 million. Although it appears at first glance 
that there is no excess tax distribution for year 2, this is not the 
case. Under proposed Sec. 107.1550(e)(2), the SBIC must recompute its 
aggregate quarterly distributions, ignoring the $500,000 reduction that 
was required in the first quarter. Taking this adjustment into account, 
the aggregate quarterly distributions would be $900,000 + $1,500,000 + 
$1,100,000 = $3,500,000. Thus, there would be an excess tax 
distribution of $500,000. SBA believes this formulation yields a result 
that is consistent with the intent of the Act. The point can best be 
seen by looking at years 1 and 2 together: Actual tax distributions 
were $5.5 million while the total that would have been permitted based 
on full-year computations was only $5 million. Thus, it is appropriate 
for the SBIC to have a $500,000 excess tax distribution computed as of 
the end of year 2.

Distributions on Other Than Payment Dates

    SBA is proposing a technical correction in Sec. 107.1575 to resolve 
a potential conflict between two provisions governing the timing of 
distributions. Current Sec. 107.1575(a)(1) permits Licensees to make 
annual distributions, as required or permitted under various sections 
of the regulations, on dates other than one of the four quarterly 
Payment Dates. Clearly, in order to retain their character as 
``annual'' distributions, such amounts must be computed as of the end 
of a Licensee's fiscal year, regardless of the date on which payment is 
actually made. However, under current Sec. 107.1575(b)(2), any 
distribution made on a date other than a Payment Date must be computed 
as of the distribution date. To resolve this inconsistency, the 
proposed rule would modify Sec. 107.1575(b)(2) so that annual 
distributions would be computed as of a Licensee's fiscal year end but 
could be paid at a later date other than a Payment Date.

In-Kind Distributions

    SBA is proposing two substantive changes in Sec. 107.1580, which 
governs in-kind distributions by SBICs that have issued Participating 
Securities. First, under proposed Sec. 107.1580(a)(1), all in-kind 
distributions would require SBA's prior approval. This change 
represents a slight expansion of the requirement in current 
Sec. 107.1570(a) that SBA approve distributions made on dates other 
than Payment Dates. Because in-kind distributions may subject SBA to 
significant market risk, the Agency strongly believes that it must have 
the ability to review and approve all such distributions, regardless of 
when they are made.
    Second, under proposed Sec. 107.1580(a)(2), only ``Distributable 
Securities'' could be distributed in kind. This new term, which is 
defined in proposed Sec. 107.50, would replace the term ``Publicly 
Traded and Marketable'' that currently appears in Sec. 107.1580 
(``Publicly Traded and Marketable'' securities would continue to be 
used in the Capital Impairment computation under Sec. 107.1840). 
Although the two terms are technically different, SBA does not expect 
the change to have a major effect on Licensees' ability to distribute 
securities.
    The first difference between the current and proposed rules 
involves ``Rule 144'' stock, i.e., stock that is subject to resale 
volume restrictions pursuant to Rule 144 under the Securities Act of 
1933, as amended. The definition of ``Publicly Traded and Marketable'' 
includes securities that are ``salable within 12 months pursuant to 
Rule 144''. The proposed definition of ``Distributable Securities'' 
would also include Rule 144 stock, but only if SBA

[[Page 18379]]

determined that it could immediately sell all of its shares without 
exceeding the volume restrictions. For purposes of determining whether 
a security meets this requirement, SBA would assume a ``worst-case'' 
scenario in which all the securities of the issuer being distributed by 
a Licensee were being sold simultaneously by the distributees.
    The second difference between the current and proposed rules 
involves securities that are not traded on a regulated stock exchange 
or listed in the National Association of Securities Dealers Automated 
Quotation System (NASDAQ), such as stocks traded on the ``pink 
sheets.'' The definition of ``Publicly Traded and Marketable'' includes 
such securities if they have at least two market makers, while the 
proposed definition of ``Distributable Securities'' would exclude them. 
SBA is proposing this change because it believes that the current 
regulation may encompass stocks with extremely low trading volume, the 
disposition of which may be a prolonged and high-risk process. As a 
practical matter, no Licensee has sought to distribute such securities 
and SBA believes the change would have no effect on the vast majority 
of in-kind distributions proposed by Licensees.
    SBA is also proposing a non-substantive change in 
Sec. 107.1580(a)(4), which deals with the disposition of securities 
distributed to SBA. The current provision requires an SBIC distributing 
securities to deposit SBA's share with the Central Registration Agent 
(an agent employed by SBA to handle certain functions related to the 
pooling of Debentures and Participating Securities) who then selects a 
disposition agent. Having gained some experience with in-kind 
distributions, SBA has found it unnecessary to involve the CRA in the 
process. Accordingly, proposed Sec. 107.1580(a)(4) would direct an SBIC 
to deposit SBA's share of securities directly with a disposition agent 
designated by SBA.

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 proposed rule would not be a significant 
regulatory action for purposes of Executive Order 12866 because it 
would not have an annual effect on the economy of more than $100 
million, and that it would 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. The purpose of the 
proposed rule is to implement provisions of Pub. L. 105-135 which 
relate to small business investment companies, and to make certain 
other changes, primarily technical corrections and clarifications, to 
the regulations governing SBICs. There are 330 SBICs, not all of which 
are small businesses. In addition, the changes would have little or no 
effect on small businesses seeking funding from SBICs; rather they 
would only affect definitions for and activities of the SBICs.
    For purposes of the Paperwork Reduction Act, 44 U.S.C. Ch. 35, SBA 
certifies that this proposed rule, if adopted in final form, would 
contain no new reporting or recordkeeping requirements.
    For purposes of Executive Order 12612, SBA certifies that this rule 
would not have any 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 in 13 CFR Part 107

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

    For the reasons stated above, the SBA proposes to amend 13 CFR part 
107 as follows:

PART 107--SMALL BUSINESS INVESTMENT COMPANIES

    1. The authority citation for part 107 continues to read as 
follows:

    Authority: 15 U.S.C. 681 et seq., 683, 687(c), 687b, 687d, 687g 
and 687m.

    2. In Sec. 107.50 revise paragraph (8)(i) of the definition of 
Associate and the definition of Leverageable Capital, and add in 
alphabetical order a definition of Distributable Securities to read as 
follows:


Sec. 107.50  Definitions of terms.

* * * * *
    Associate of a Licensee means any of the following:
* * * * *
    (8) * * *
    (i) Any person described in paragraphs (1) through (6) of this 
definition is an officer, general partner, or managing member; or
* * * * *
    Distributable securities means equity securities that meet each of 
the following requirements:
    (1) The securities (which may include securities that are salable 
pursuant to the provisions of Rule 144 (17 CFR 230.144) under the 
Securities Act of 1933, as amended) are determined by SBA, in its sole 
discretion, to be salable immediately without restriction under Federal 
and state securities laws;
    (2) The securities are of a class:
    (i) Which is listed and registered on a national securities 
exchange, or
    (ii) For which quotation information is disseminated in the 
National Association of Securities Dealers Automated Quotation System 
and as to which transaction reports and last sale data are disseminated 
pursuant to Rule 11Aa3-1 (17 CFR 240.11Aa3-1) under the Securities 
Exchange Act of 1934, as amended; and
    (3) The quantity of such securities to be distributed to SBA can be 
sold over a reasonable period of time without having an adverse impact 
upon the price of the security.
* * * * *
    Leverageable Capital means Regulatory Capital, excluding unfunded 
commitments.
* * * * *
    3. In Sec. 107.230, revise paragraph (b)(3) to read as follows:


Sec. 107.230  Permitted sources of Private Capital for Licensees.

* * * * *
    (b) Exclusions from Private Capital. * * *
    (3) Funds obtained directly or indirectly from any Federal, State, 
or local government agency or instrumentality, except for:
    (i) Funds invested by a public pension fund;
    (ii) Funds obtained from the business revenues (excluding any 
governmental appropriation) of any federally chartered or Government-
sponsored corporation established before October 1, 1987, to the extent 
that such revenues are reflected in the retained earnings of the 
corporation; and
    (iii) ``Qualified Non-private Funds'' as defined in paragraph (d) 
of this section.
* * * * *
    4. Revise Sec. 107.504 to read as follows:


Sec. 107.504  Equipment and office requirements.

    (a) Computer capability. You must have a personal computer with a 
modem, and be able to use this equipment to prepare reports (using SBA-
provided software) and transmit them to SBA. In addition, by June 30, 
1999, you must have access to the Internet and the capability to send 
and receive electronic mail via the Internet.
    (b) Facsimile capability. You must be able to receive facsimile 
messages 24 hours per day at your primary office.

[[Page 18380]]

    (c) Accessible office. You must maintain an office that is 
convenient to the public and is open for business during normal working 
hours.
    5. Revise Sec. 107.505 to read as follows:


Sec. 107.505  Prohibition against political contributions.

    You may not make a contribution to any national, State, or local 
political party, campaign or candidate, or to any political action 
committee that makes contributions to one or more political parties, 
campaigns, or candidates.
    6. Remove Sec. 107.508.


Sec. 107.508  [Removed]

    7. In Sec. 107.710 revise paragraphs (c)(1)(i) and (ii), 
redesignate paragraphs (d) and (e) as paragraphs (e) and (f), revise 
the last sentence of new paragraph (f), and add a new paragraph (d) to 
read as follows:


Sec. 107.710  Requirement to Finance Smaller Enterprises.

* * * * *
    (c) Special requirement for certain leveraged Licensees.
    (1) * * *
    (i) Less than $10,000,000 if such Leverage included Participating 
Securities; or
    (ii) Less than $5,000,000 if such Leverage was Debentures only.
* * * * *
    (d) Special requirement for Leverage over $90,000,000. In addition 
to the applicable requirements in paragraphs (b) and (c) of this 
section, at the close of each of your fiscal years, 100 percent of any 
outstanding Leverage over $90,000,000 (including aggregate Leverage 
over $90,000,000 issued by two or more Licensees under Common Control) 
must have been invested in Smaller Enterprises.
* * * * *
    (f) Non-compliance with this section. * * * However, you will not 
be eligible for additional Leverage until you reach the required 
percentage (see Sec. 107.1120(c) through (e)).
    8. In Sec. 107.720 revise paragraph (c)(2) to read as follows:


Sec. 107.720  Small Businesses that may be ineligible for Financing.

* * * * *
    (c) Real Estate Businesses. * * *
    (2) You are not permitted to finance a business, regardless of SIC 
classification, if the Financing is to be used to acquire or refinance 
real property, unless the Small Business:
    (i) Is acquiring an existing property and will use at least 51 
percent of the usable square footage for an eligible business purpose; 
or
    (ii) Is building or renovating a building and will use at least 67 
percent of the usable square footage for an eligible business purpose; 
or
    (iii) Occupies the subject property and uses at least 67 percent of 
the usable square footage for an eligible business purpose.
* * * * *
    9. In Sec. 107.730 revise paragraph (d)(3)(iv) to read as follows:


Sec. 107.730  Financing which constitute conflicts of interest.

* * * * *
    (d) Financings with Associates. * * *
    (3) Exceptions to paragraphs (d)(1) and (d)(2) of this section. * * 
*
    (iv) You have no outstanding Leverage and do not intend to issue 
Leverage in the future, and your Associate either is not a Licensee or 
has no outstanding Leverage and does not intend to issue Leverage in 
the future.
* * * * *
    10. In Sec. 107.740 revise paragraph (a) to read as follows:


Sec. 107.740  Portfolio diversification (``overline'' limitation).

    (a) General rule. This Sec. 107.740 applies if you have outstanding 
Leverage or intend to issue Leverage in the future. Without SBA's prior 
written approval, you may provide Financing or a Commitment to a Small 
Business only if the resulting amount of your aggregate outstanding 
Financings and Commitments to such Small Business and its Affiliates 
does not exceed:
    (1) For a Section 301(c) Licensee, 20 percent of the sum of:
    (i) Your Regulatory Capital as of the date of the Financing or 
Commitment; plus
    (ii) Any Distribution(s) you made under Sec. 107.1570(b), during 
the 5 years preceding the date of the Financing or Commitment, which 
reduced your Regulatory Capital; plus
    (iii) Any Distribution(s) you made under Sec. 107.585, during the 5 
years preceding the date of the Financing or Commitment, which reduced 
your Regulatory Capital by no more than 2 percent or which SBA approves 
for inclusion in the sum determined in this paragraph (a)(1).
    (2) For a Section 301(d) Licensee, 30 percent of a sum determined 
in the manner set forth in paragraph (a)(1)(i) through (iii) of this 
section.
* * * * *
    11. In Sec. 107.1100, revise the section heading and paragraph (b) 
to read as follows:


Sec. 107.1100  Types of Leverage and application procedures.

* * * * *
    (b) Applying for Leverage. The Leverage application process has two 
parts. You must first apply for SBA's conditional commitment to reserve 
a specific amount of Leverage for your future use. You may then apply 
to draw down Leverage against the commitment. See Secs. 107.1200 
through 107.1240.
* * * * *
    12. In Sec. 107.1120 redesignate paragraphs (d) through (f) as 
paragraphs (e) through (g) and add a new paragraph (d) to read as 
follows:


Sec. 107.1120  General eligibility requirements for Leverage.

* * * * *
    (d) Certify, if applicable, that you will use 100 percent of any 
Leverage over $90,000,000 (including aggregate Leverage over 
$90,000,000 issued by two or more Licensees under Common Control) to 
provide Financing to Smaller Enterprises (see also Sec. 107.710).
* * * * *
    13. In Sec. 107.1150 revise paragraph (a) and the first sentence of 
paragraph (b)(1) to read as follows:


Sec. 107.1150  Maximum amount of Leverage for a Section 301(c) 
Licensee.

    (a) Maximum amount of Leverage.
    (1) Amounts before indexing. If you are a Section 301(c) Licensee, 
the following table shows the maximum amount of Leverage you may have 
outstanding at any time, subject to the indexing adjustment set forth 
in paragraph (a)(2) of this section:

------------------------------------------------------------------------
                                                   Then your maximum
       If your Leverageable Capital is:               Leverage is:
------------------------------------------------------------------------
(1) Not over $17,100,000.....................  300 percent of
                                                Leverageable Capital
(2) Over $17,100,000 but not over $34,100,000  $51,300,000 + [2  x
                                                (Leverageable Capital -
                                                $17,100,000)]
(3) Over $34,100,000 but not over $51,300,000  $85,300,000 +
                                                (Leverageable Capital -
                                                $34,100,000)
(4) Over $51,300,000.........................  $102,500,000
------------------------------------------------------------------------


[[Page 18381]]

    (2) Indexing of maximum amount of Leverage. SBA will adjust the 
amounts in paragraph (a) of this section annually to reflect increases 
through September in the Consumer Price Index published by the Bureau 
of Labor Statistics. SBA will publish the indexed maximum Leverage 
amounts each year in a Notice in the Federal Register.
    (b) Exceptions to maximum Leverage provisions--(1) Licensees under 
Common Control. Two or more Licensees under Common Control may have 
aggregate outstanding Leverage over $102,500,000 (subject to indexing 
as set forth in paragraph (a)(2) of this section) only if SBA gives 
them permission to do so. * * *
* * * * *
    14. Revise Sec. 107.1220 to read as follows:


Sec. 107.1220  Requirement for Licensee to file quarterly financial 
statements.

    As long as any part of SBA's Leverage commitment is outstanding, 
you must give SBA a Financial Statement on SBA Form 468 (Short Form) as 
of the close of each quarter of your fiscal year (other than the fourth 
quarter, which is covered by your annual filing of Form 468 under 
Sec. 107.630(a)). You must file this form within 30 days after the 
close of the quarter. You will not be eligible for a draw if you are 
not in compliance with this Sec. 107.1220.
    15. In Sec. 107.1230(d) revise paragraph (d)(1), redesignate 
paragraphs (d)(2) and (d)(3) as paragraphs (d)(3) and (d)(4), add a new 
paragraph (d)(2), and revise the first sentence of redesignated 
paragraph (d)(4) to read as follows:


Sec. 107.1230  Draw-downs by Licensee under SBA's Leverage commitment.

* * * * *
    (d) Procedures for funding draws. * * *
    (1) A statement certifying that there has been no material adverse 
change in your financial condition since your last filing of SBA Form 
468 (see also Sec. 107.1220 for SBA Form 468 filing requirements).
    (2) If your request is submitted more than 30 days following the 
end of your fiscal year, but before you have submitted your annual 
filing of SBA Form 468 (Long Form) in accordance with Sec. 107.630(a), 
a preliminary unaudited annual financial statement on SBA Form 468 
(Short Form).
* * * * *
    (4) A statement that the proceeds are needed to fund one or more 
particular Small Businesses or to provide liquidity for your 
operations. * * *
* * * * *
    16. In Sec. 107.1550 revise the first sentence of the introductory 
text, paragraph (b)(1) and paragraph (d), and add a new paragraph (e) 
to read as follows:


Sec. 107.1550  Distributions by Licensee-permitted ``tax 
Distributions'' to private investors and SBA.

    If you have outstanding Participating Securities or Earmarked 
Assets, and you are a limited partnership, ``S Corporation'', or 
equivalent pass-through entity for tax purposes, you may make ``tax 
Distributions'' to your investors in accordance with this 
Sec. 107.1550, whether or not they have an actual tax liability. * * *
* * * * *
    (b) How to compute the Maximum Tax Liability. (1) You may compute 
your Maximum Tax Liability for a full fiscal year or for any calendar 
quarter. Use the following formula:

M = (TOI  x  HRO) + (TCG  x  HRC)
where:

M = Maximum Tax Liability

TOI = Net ordinary income allocated to your partners or other owners 
for Federal income tax purposes for the fiscal year or calendar quarter 
for which the Distribution is being made, excluding Prioritized 
Payments allocated to SBA.

HRO = The highest combined marginal Federal and State income tax rate 
for corporations or individuals on ordinary income, determined in 
accordance with paragraphs (b)(2) through (b)(4) of this section.

TCG = Net capital gains allocated to your partners or other owners for 
Federal income tax purposes for the fiscal year or calendar quarter for 
which the Distribution is being made, excluding Prioritized Payments 
allocated to SBA.
HRC = The highest combined marginal Federal and State income tax rate 
for corporations or individuals on capital gains, determined in 
accordance with paragraphs (b)(2) through (b)(4) of this section.
* * * * *
    (d) Paying a tax Distribution. You may make an annual tax 
Distribution on the first or second Payment Date following the end of 
your fiscal year. You may make a quarterly tax Distribution on the 
first Payment Date following the end of the calendar quarter for which 
the Distribution is being made. See also Sec. 107.1575(a).
    (e) Excess tax Distributions. (1) As of the end of your fiscal 
year, you must determine whether you made any excess tax Distributions 
for the year in accordance with paragraph (e)(2) of this section. Any 
tax Distributions that you make for a subsequent period must be reduced 
by the excess amount distributed.
    (2) Determine your excess tax Distributions by adding together all 
your quarterly tax Distributions for the year (ignoring any required 
reductions for excess tax Distributions made in prior years), and 
subtracting the maximum tax Distribution that you would have been 
permitted to make based upon a single computation performed for the 
entire fiscal year. The result, if greater than zero, is your excess 
tax Distribution for the year.
    17. In Sec. 107.1575, revise paragraphs (a)(1) and (b)(2) and add a 
new paragraph (a)(4) to read as follows:


Sec. 107.1575  Distributions on other than Payment Dates.

    (a) Permitted Distributions on other than Payment Dates. * * *
    (1) Required annual Distributions under Sec. 107.1540(a)(1), annual 
Distributions under Sec. 107.1550, and any Distributions under 
Sec. 107.1560 must be made no later than the second Payment Date 
following the end of your fiscal year.
* * * * *
    (4) Quarterly Distributions under Sec. 107.1550 must be made no 
earlier than the last day of the calendar quarter for which the 
Distribution is being made and no later than the first Payment Date 
following the end of such calendar quarter.
    (b) Conditions for making a Distribution.
* * * * *
    (2) The ending date of the period for which you compute your 
Earmarked Profits, Prioritized Payments, Adjustments, Charges, Profit 
Participation, Retained Earnings Available for Distribution, liquidity 
ratio, Capital Impairment, and any other applicable computations 
required under Secs. 107.1500 through 107.1570, must be:
    (i) The distribution date, or
    (ii) If your Distribution includes annual Distributions under 
Secs. 107.1540(a)(1), 107.1550 and/or 107.1560, your most recent fiscal 
year end;
* * * * *
    18. In Sec. 107.1580, redesignate paragraphs (a)(1) through (a)(4) 
as paragraphs (a)(2) through (a)(5), add a new paragraph (a)(1) and 
revise paragraph (b)(2) to read as follows:


Sec. 107.1580  Special rules for In-Kind Distributions by Licensees.

    (a) In-Kind Distributions while Licensee has outstanding 
Participating Securities. * * *

[[Page 18382]]

    (1) You must obtain SBA's written approval before the distribution 
date.
    (2) You may distribute only Distributable Securities.
* * * * *
    (5) You must deposit SBA's share of securities being distributed 
with a disposition agent designated by SBA. As an alternative, if you 
agree, SBA may direct you to dispose of its shares. In this case, you 
must promptly remit the proceeds to SBA.
* * * * *
    (b) In-Kind Distributions after Licensee has redeemed all 
Participating Securities. * * *
* * * * *
    (2) You must obtain SBA's prior written approval of any In-Kind 
Distribution of Earmarked Assets that are not Distributable Securities, 
specifically including approval of the valuation of the assets.

    Dated: March 31, 1999.
Aida Alvarez,
Administrator.
[FR Doc. 99-9265 Filed 4-13-99; 8:45 am]
BILLING CODE 8025-01-P