[Federal Register Volume 80, Number 192 (Monday, October 5, 2015)]
[Proposed Rules]
[Pages 60077-60082]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2015-25232]


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SMALL BUSINESS ADMINISTRATION

13 CFR Part 107

RIN 3245-AG67


Small Business Investment Companies; Passive Business Expansion & 
Technical Clarifications

AGENCY: U.S. Small Business Administration.

ACTION: Proposed rule.

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SUMMARY: The U.S. Small Business Administration (SBA) proposes to 
revise the regulations for the Small Business Investment Company (SBIC) 
program to expand the use of Passive Businesses and provide further 
clarification with regard to investments in such businesses. SBICs are 
generally prohibited from investing in passive businesses under the 
Small Business Investment Act of 1958, as amended (Act). SBIC program 
regulations provide for two exceptions that allow an SBIC to structure 
an investment utilizing a passive small business as a pass-through. The 
first exception provides conditions under which an SBIC may structure 
an investment through up to two levels of passive entities to make an 
investment in a non-passive business that is a subsidiary of the 
passive business directly financed by the SBIC. The second exception 
enables a partnership SBIC, with SBA's prior approval, to provide 
financing to a small business through a passive, wholly-owned C 
corporation, but only if a direct financing would cause the SBIC's 
investors to incur Unrelated Business Taxable Income (UBTI). A passive 
C corporation formed under the second exception is commonly known as a 
blocker corporation. This proposed rule would clarify the first 
exception, and would expand the permitted use of blocker corporations 
and eliminate the prior approval requirement in the second exception. 
The rule also proposes to add new reporting and other requirements for 
passive investments to help protect SBA's financial interests and 
ensure adequate oversight and make minor technical amendments.

DATES: Comments on the proposed rule must be received on or before 
December 4, 2015.

ADDRESSES: You may submit comments, identified by RIN 3245-AG67, by any 
of the following methods:
     Federal eRulemaking Portal: http://www.regulations.gov. 
Follow the instructions for submitting comments.
     Mail, Hand Delivery/Courier: Javier Saade, Associate 
Administrator for Investment and Innovation, U.S. Small Business 
Administration, 409 Third Street SW., Washington, DC 20416.
    SBA will post comments on http://www.regulations.gov. If you wish 
to submit confidential business information (CBI) as defined in the 
User Notice at http://www.regulations.gov, please submit the 
information to Theresa Jamerson, Office of Investment and Innovation, 
409 Third Street SW., Washington, DC 20416. Highlight the information 
that you consider to be CBI and explain why you believe this 
information should be held confidential. SBA will review the 
information and make the final determination of whether it will publish 
the information or not.

FOR FURTHER INFORMATION CONTACT: Theresa Jamerson, Office of Investment 
and Innovation, (202) 205-7563 or [email protected].

SUPPLEMENTARY INFORMATION:

A. Passive Businesses

Section 107.720 Small Businesses That May Be Ineligible for Financing

    The Small Business Investment Act of 1958, as amended, and the SBIC 
program regulations prohibit an SBIC from making passive investments. 
The implementing regulation at 13 CFR 107.720(b) defines a business as 
passive if: (1) It is not engaged in a regular and continuous business 
operation; (2) its employees do not carry on the majority of day-to-day 
operations, and the company does not exercise day-to-day control and 
supervision over contract workers; or (3) the business passes through 
substantially all financing proceeds to another entity.
    The current regulation provides for two exceptions that allow an 
SBIC to structure an investment utilizing a passive small business as a 
pass-through. The first exception, identified in Sec.  107.720(b)(2), 
permits an investment utilizing up to two passive entities, as long as 
substantially all of the financing proceeds are passed through to one 
or more active ``subsidiary companies,'' each of which is an eligible 
small business. The regulation defines a subsidiary company as one in 
which the financed passive business directly or indirectly owns at 
least 50% of the outstanding voting securities. As an example, this 
exception allows an SBIC to finance

[[Page 60078]]

ABC Holdings 1, a passive small business, with the proceeds flowing 
through ABC Holdings 2, another passive small business, and then to ABC 
Manufacturing, a non-passive small business in which ABC Holdings 1 
owns directly or indirectly at least 50% of the outstanding voting 
securities. SBA also interprets Sec.  107.720(b)(2) to permit a 
financing to ABC Holdings 1 that is used to acquire an ownership 
interest in ABC Manufacturing (either directly or indirectly through 
ABC Holdings 2). In this case, ABC Manufacturing would have to qualify 
as a subsidiary of ABC Holdings 1 post-acquisition.
    The second exception, identified in Sec.  107.720(b)(3), allows a 
partnership SBIC, with SBA's prior approval, to form and finance a 
passive, wholly-owned C corporation (commonly known as a blocker 
corporation) that in turn provides financing to an active, 
unincorporated small business. This structure is permitted only if a 
direct financing of the unincorporated small business would cause at 
least one of the SBIC's investors to incur Unrelated Business Taxable 
Income (UBTI) under section 511 of the Internal Revenue Code, which may 
arise from an activity engaged in by a tax-exempt organization that is 
not related to the tax-exempt purpose of that organization.
    SBA published a final rule (79 FR 62819) on October 21, 2014 that 
expanded the exception contained in Sec.  107.720(b)(2) to allow two 
levels of pass-through entities, as described above. Prior to the rule 
change, the regulation permitted only one pass-through entity. As part 
of that rulemaking, SBA received one set of comments suggesting further 
expansion of the rule. In the preamble to the final rule, SBA stated 
that it would consider the following suggestions in future rulemaking:
    (1) Revise Sec.  107.720(b)(2) to explicitly state that an SBIC may 
``form and finance'' (rather than merely ``finance'') a passive 
business;
    (2) Eliminate the requirement for SBA's prior approval to form a 
blocker corporation under Sec.  107.720(b)(3); and
    (3) Revise Sec.  107.720(b)(3) to permit an SBIC to form a blocker 
corporation to enable its foreign investors to avoid ``effectively 
connected income'' under the Internal Revenue Code.
    This proposed rule addresses each of these suggestions. With 
respect to the suggestion to allow SBICs to not only finance, but form 
and finance, a passive business, SBA interprets the existing regulation 
to implicitly permit formation of a passive business. SBA recognizes 
that many SBICs have relied on Sec.  107.720(b)(2) to finance newly-
formed passive holding companies that in turn have used the proceeds to 
acquire active small businesses. Particularly since the regulatory 
restrictions on control of a small business were largely removed in 
2002 in response to an amendment to the Act, a number of SBICs have 
taken controlling equity interests in many of their portfolio 
companies, typically through a holding company. In these cases the SBIC 
first formed, and then financed, the holding company. To formalize 
SBA's interpretation of the regulation, the proposed rule would revise 
Sec.  107.720(b)(2) to explicitly allow SBICs to form and then finance 
a passive business as part of an otherwise permitted transaction. As a 
further clarification, and consistent with SBA's interpretation of 
current Sec.  107.720(b)(2), the proposed rule would explicitly permit 
a financing of a passive business that uses the proceeds to acquire all 
or part of a non-passive business.
    In considering the suggestion to eliminate the requirement for SBA 
prior approval to form a blocker corporation under Sec.  107.720(b)(3), 
SBA acknowledges that these requests are routinely approved as long as 
an SBIC identifies one or more tax-exempt investors that would incur 
UBTI absent the blocker corporation. SBA believes the prior approval 
requirement could be replaced by a certification that would provide the 
same assurance. The proposed rule would remove the approval requirement 
from Sec.  107.720(b)(3) and revise Sec.  107.610, a regulation that 
requires SBICs to make certain certifications upon financing a small 
business, to require the SBIC to certify as to the basis of the 
qualification of a financing under Sec.  107.720(b)(3), as discussed 
below.
    In considering the suggestion to permit an SBIC to form a blocker 
corporation to enable its foreign investors to avoid ``effectively 
connected income'' (ECI), SBA believes that it is consistent with the 
goals of the SBIC program to encourage foreign investment that will 
benefit U.S. small businesses. This proposed rule would expand Sec.  
107.720(b)(3) to permit an SBIC to form a blocker corporation if a 
direct financing would cause its investors to incur ECI.
    SBA is proposing two additional changes to Sec.  107.720(b)(3). 
First, the rule proposes to remove part of the last sentence that 
provides that an SBIC's ownership of a blocker corporation formed under 
Sec.  107.720(b)(3) will not constitute a violation of Sec.  
107.865(a). This provision was necessary when Sec.  107.865(a) 
generally prohibited an SBIC from assuming control over a small 
business (in this case, the wholly-owned blocker corporation). On 
October 22, 2002, SBA published a final rule (67 FR 64789) that revised 
Sec.  107.865(a) to permit an SBIC to exercise control over a small 
business for up to seven years without SBA approval. This rule made the 
carve-out in Sec.  107.720(b)(3) unnecessary. An SBIC that needs to 
hold an investment in a blocker corporation longer than seven years can 
seek SBA approval of an extension of control in accordance with Sec.  
107.865(d).
    Second, the proposed rule addresses structuring an investment with 
a second passive level when the first passive level is a blocker 
corporation formed under Sec.  107.720(b)(3). The proposed change would 
allow the blocker corporation to either (1) directly finance a non-
passive small business, or (2) provide financing to a second passive 
small business that passes the proceeds through to a non-passive small 
business in which it owns at least 50 percent of the outstanding voting 
securities. SBA's intention in proposing this change is to provide 
SBICs with flexibility similar to that provided in Sec.  107.720(b)(2), 
while still limiting investments to a maximum of two passive levels to 
ensure effective oversight of SBICs.
    The proposed revisions of Sec.  107.720(b)(2) and (3), particularly 
when added to the changes promulgated in the October 21, 2014 final 
rule, would provide SBICs with considerably more flexibility to invest 
through passive holding companies and can be expected to increase the 
prevalence of permissible passive investments in the SBIC program. As a 
result, SBA has also reviewed certain credit concerns it has related to 
passive investments. As noted in the October 21, 2014 final rule, these 
concerns relate specifically to SBA's ability to collect from SBICs 
that default on their debt to SBA. Even under Sec.  107.720(b) as it 
existed prior to the final rule, SBA had encountered issues that 
adversely affected its recoveries from defaulting SBICs with assets 
that were held indirectly through a passive company: These concerns 
included the effect of fees and expenses charged at each level, 
potentially diverting money from the actual investment and returns, as 
well as SBA's potential lack of access to the books and records of the 
passive business(es). To address these concerns, proposed Sec.  
107.720(b)(4) would add or clarify the following requirements with 
respect to any passive investment made under Sec.  107.720(b)(2) or 
(b)(3):
    (1) Clarifying the meaning of ``substantially all.'' Current Sec.  
107.720(b)(2) requires ``substantially all'' financing proceeds to be 
passed

[[Page 60079]]

through to an eligible non-passive small business, but does not define 
what constitutes ``substantially all.'' SBA believes that a specific 
definition would help ensure that eligible small businesses benefit 
from the financing dollars, as intended, and would provide SBICs and 
SBA with more certainty that a transaction complies with the 
regulations. SBA proposes to define ``substantially all'' for purposes 
of this regulation to mean 99 percent of the financing proceeds after 
deduction of actual application fees, closing fees, and expense 
reimbursements, which may not exceed those permitted under Sec.  
107.860. SBA recognizes that SBICs engage in many different types of 
financing transactions, and does not seek to impose a definition that 
interferes with an SBIC's ability to structure a transaction 
appropriately; however, SBA believes the amount of the proceeds 
received by the non-passive business should not be reduced merely 
because of the SBIC's use of one or more passive vehicles.
    (2) Requiring fees charged by an SBIC or its Associate to not 
exceed those permitted if the SBIC had directly financed the eligible 
Small Business. Among SBICs that have defaulted on SBA leverage, SBA 
has observed that passive investments are often associated with higher 
overall fees than direct investments in active small businesses. As 
noted in the preamble to the October 2014 final rule, SBA is concerned 
that excessive fees may reduce the funding provided to the active small 
business investment and adversely affect returns to the SBIC. To limit 
the potential for excessive fees in financings permitted under Sec.  
107.720(b)(2) and (b)(3), SBA is proposing to add a provision to 
clarify that fees collected by SBICs and their Associates under 
Sec. Sec.  107.860 and 107.900 may not exceed the fees that would be 
permitted under the same two sections if the SBIC directly financed a 
non-passive small business. The proposed rule also provides that such 
fees be remitted to the SBIC within 30 days of receipt. This 
requirement will help SBA regulate whether the fees meet regulatory 
requirements, ensure that the SBIC benefits from those fees in a timely 
manner, and help in the identification and recovery of fees in the case 
of an SBIC default.
    (3) Clarifying that both passive and non-passive businesses 
included in a financing are ``Portfolio Concerns.'' The SBIC program 
regulations provide SBA with certain information rights with respect to 
any ``Portfolio Concern,'' defined in Sec.  107.50 as ``a Small 
Business Assisted by a Licensee.'' SBA believes that in a permitted 
passive investment, both the passive business(es) and the non-passive 
business are Portfolio Concerns. Nevertheless, particularly in 
attempting to make recoveries from SBICs that have defaulted on SBA 
leverage, SBA has sometimes been hindered by a lack of access to the 
books and records of the passive business. Therefore, the proposed rule 
would add a provision under Sec.  107.720(b)(4) to clarify that both 
passive and non-passive businesses included in a financing are 
Portfolio Concerns subject to all informational rights under 13 CFR 
part 107, including without limitation Sec.  107.600, ``General 
requirements for Licensee to maintain and preserve records,'' and Sec.  
107.620, ``Requirements to obtain information from Portfolio 
Concerns.''
    In the October 2014 final rule, SBA also noted that it has credit 
concerns regarding the increased opportunity for disproportionate 
distributions to entities other than the SBIC as a result of an SBIC 
structuring investments through a passive entity. In evaluating this 
concern, SBA recognized that disproportionate distributions can occur 
due to different securities and preferences even if the SBIC directly 
financed the non-passive business. SBA believes as long as an SBIC has 
no conflicts of interest with respect to a particular financing (other 
than a conflict for which SBA has provided a regulatory exemption under 
Sec.  107.730), the SBIC will make a permitted passive investment with 
the same considerations as a direct investment. Therefore, SBA believes 
that a specific regulatory provision to address this issue is not 
needed.

Section 107.610 Required Certifications for Loans and Investments

    The proposed rule would add a certification requirement to Sec.  
107.610 to require an SBIC that finances a business under Sec.  
107.720(b)(3) to certify as to the basis of the qualification of the 
financing. The permissible basis would be the participation of one or 
more investors who would be subject to either UBTI or ECI in the event 
of a direct financing. As part of this certification, SBICs must 
identify those investor(s) subject to either UBTI or ECI as part of a 
direct financing. As discussed previously, the certification would 
replace the requirement for SBA prior approval of the formation and 
financing of a blocker corporation.

B. Technical Changes to Regulations

Section 107.50 Definition of Terms

    The proposed rule would correct the typographical error of 
``Associates's'' to ``Associate's'' in the last sentence under the 
``Lending Institution'' definition.

Section 107.210 Minimum Capital Requirements for Licensees

    SBICs typically have an investment period in which they draw 
capital and provide financings to small businesses, followed by a 
harvest and wind-up period in which they realize investments and repay 
capital to their private investors. SBA approves SBIC wind-up plans in 
accordance with Sec.  107.590(c) and capital distributions above 2% in 
accordance with Sec.  107.585. To conform with SBA's current oversight 
practices, the proposed rule would modify paragraph (a) of Sec.  
107.210 to allow both Leverageable Capital and Regulatory Capital to 
fall below the stated minimums if the reductions are performed in 
accordance with an SBA-approved wind-up plan per Sec.  107.590(c).

Section 107.503 Licensee's Adoption of an Approved Valuation Policy

    The proposed rule would change the last sentence of Sec.  
107.503(a) to indicate that valuation guidelines for SBICs may be 
obtained from the SBIC program's public Web site, www.sba.gov/inv. SBA 
maintains SBIC-related guidelines and policies on this Web site as a 
convenience to the public.

Section 107.630 Requirement for Licensees To File Financial Statements 
With SBA (Form 468)

    Current Sec.  107.630(d) provides a mailing address for submission 
of SBA Form 468. These instructions are no longer necessary because 
SBICs submit this information electronically using the SBA's web-based 
application. The proposed rule would remove this paragraph and 
redesignate paragraph (e) as paragraph (d).

Section 107.1100 Types of Leverage and Application Procedures

    The proposed rule would correct the misspelling of ``Yu'' to 
``You'' in the second to the last sentence in paragraph (b). The 
proposed rule would also remove paragraph (c) which identifies where to 
send Leverage applications. This paragraph is unnecessary because the 
application forms provide these instructions.

Compliance With Executive Orders 12866, 12988, 13132, and 13563, the 
Paperwork Reduction Act (44 U.S.C. Ch. 35) and the Regulatory 
Flexibility Act (5 U.S.C. 601-612)

Executive Order 12866

    The Office of Management and Budget has determined that this rule 
is not a

[[Page 60080]]

``significant'' regulatory action under Executive Order 12866. This is 
also not a ``major'' rule under the Congressional Review Act, 5 U.S.C. 
801, et seq.

Executive Order 12988

    This action meets applicable standards set forth in section 3(a) 
and 3(b)(2) of Executive Order 12988, Civil Justice Reform, to minimize 
litigation, eliminate ambiguity, and reduce burden. The action does not 
have retroactive or presumptive effect.

Executive Order 13132

    The proposed rule would not have substantial direct effects on the 
States, or the distribution of power and responsibilities among the 
various levels of government. Therefore, for the purposes of Executive 
Order 13132, Federalism, SBA determines that this proposed rule has no 
federalism implications warranting the preparation of a federalism 
assessment.

Executive Order 13563

    This proposed rule was developed in response to the comments 
received on previous amendments to the regulations concerning 
investments in passive businesses. As part of that rulemaking, 
published on October 21, 2014 at 79 FR 62819, SBA received one set of 
comments suggesting further expansion of the rule. The commenter 
suggested that SBA consider: (1) Revising Sec.  107.720(b)(2) to 
explicitly state that an SBIC may ``form and finance'' (rather than 
merely ``finance'') a passive business; (2) eliminating the requirement 
for SBA's prior approval to form a blocker corporation under Sec.  
107.720(b)(3) and requiring a certification instead; and (3) revising 
Sec.  107.720(b)(3) to permit an SBIC to form a blocker corporation to 
enable its foreign investors to avoid ``effectively connected income'' 
under the Internal Revenue Code. SBA discussed these concerns and 
informational requirements with industry representatives as part of its 
evaluation of these comments and development of this proposed rule.

Paperwork Reduction Act, 44 U.S.C. Ch. 35

    SBA has determined that this rule would impose additional reporting 
and recordkeeping requirements under the Paperwork Reduction Act. In 
particular this rule proposes changes to the Portfolio Financing 
Report, SBA Form 1031 (OMB Control Number 3245-0078), to clarify 
information to be reported in Parts A, B, and C of the form. The 
proposed changes, described in detail below, also include designating 
current Part D as Part F and adding new Parts D and E.
    The title, description of respondents, description of the 
information collection and the proposed changes to it are discussed 
below with an estimate of the revised annual burden. Included in the 
estimate is the time for reviewing instructions, searching existing 
data sources, gathering and maintaining the data needed, and completing 
and reviewing each collection of information.
    SBA invites comments on: (1) Whether the proposed changes to Form 
1031 are necessary for the proper performance of SBA's functions, 
including whether the information will have a practical utility; (2) 
the accuracy of SBA's estimate of the burden of the proposed 
collections of information, including the validity of the methodology 
and assumptions used; (3) ways to enhance the quality, utility, and 
clarity of the information to be collected; and (4) ways to minimize 
the burden of the collection of information on respondents, including 
through the use of automated collection techniques, when appropriate, 
and other forms of information technology.
    Please send comments by the closing date for comment for this 
proposed rule to the address set forth above in the ADDRESSES section 
and to SBA Desk Officer, Office of Management and Budget, Office of 
Information and Regulatory Affairs, 725 17th Street NW., Washington, DC 
20503.
    Title: Portfolio Financing Report, SBA Form 1031 (OMB Control 
Number 3245-0078).
    Summary: SBA Form 1031 is a currently approved information 
collection. SBA regulations, specifically, Sec.  107.640, require all 
SBICs to submit a Portfolio Financing Report using SBA Form 1031 for 
each financing that an SBIC provides to a Small Business Concern within 
30 days after closing an investment. SBA uses the information provided 
on Form 1031 to evaluate SBIC compliance with regulatory requirements. 
The form is also SBA's primary source of information for compiling 
statistics on the SBIC program as a provider of capital to small 
businesses.
    SBA proposes to revise the form as follows:
    (1) Clarifying the SBIC should report the non-passive Small 
Business Concern information in the Form 1031. SBA has noted that SBICs 
sometimes report data on the passive Small Business Concern rather than 
the non-passive Small Business Concern when reporting financing 
information. SBA intends to clarify that the SBIC should report data on 
the non-passive Small Business Concern when reporting information on 
financings using passive businesses in the Form 1031 Part A--the Small 
Business Concern; Part B--the pre-financing data; and Part C--the 
financing information, with the exception of the financing dollars in 
Question 29. The amount of financing dollars provided by the SBIC 
should be the total amount of such financing, regardless of whether the 
dollars were provided directly or indirectly to the non-passive 
business concern. Example: The SBIC provides $5 million in equity to 
ABC Holding Corporation, which passes $4.98 million to the non-passive 
business, Acme Manufacturing LLC. In addition, the SBIC provides $5 
million in debt directly to Acme Manufacturing LLC. The SBIC would 
report information on Acme Manufacturing LLC in Parts A, B, and C. 
However, the total financing dollars would be reported as $5 million in 
equity and $5 million in debt for a total of $10 million in total 
financing dollars.
    (2) Identifying financings using one or more passive businesses. 
SBA is proposing to add a question as to whether the financing utilizes 
one or more passive businesses as part of the financing, to help SBA 
identify these financings.
    (3) Adding information on passive business financings to aid in 
regulatory compliance monitoring. SBA is proposing to have SBICs upload 
a file in Portable Document Format (PDF) that contains information 
needed to help SBA assess whether the financing meets regulatory 
compliance. The proposed file would contain the following information 
on the passive business financing:
    (a) Qualifying exception: The SBIC would identify under which 
passive business exception the financing is made (Sec.  107.720(b)(2) 
Exception for pass-through of proceeds to subsidiary, or Sec.  
107.720(b)(3) Exception for certain Partnership Licensees). If the SBIC 
indicates that the financing is made under Sec.  107.720(b)(3), it 
would also indicate the qualifying basis for the financing (i.e., 
financing would cause an investor in the fund to incur either unrelated 
business taxable income or effectively connected income).
    (b) Passive Business Entities: The SBIC would be required to 
clearly identify the name and employer ID for each passive business 
entity used within the financing. This is needed so that SBA can 
identify all Portfolio Concerns involved in the financing.
    (c) Financing Structure Description: SBA is also proposing that the 
SBIC describe the financing structure,

[[Page 60081]]

including the flow of the money between the SBIC and the non-passive 
Small Business Concern that receives the proceeds (including amounts 
and types of securities between each entity), and the ownership from 
the SBIC through each entity to the non-passive Small Business Concern. 
This information will help SBA assess that the Small Business Concern 
receives ``substantially all'' the financing dollars and the ownership 
percentages are in compliance with the regulations. This will also help 
SBA if an SBIC is transferred to the Office of Liquidation to identify 
the structure of the financing and aid in recovery of SBA leverage.
    4. Impact Fund Policy Initiative Although not resulting from this 
rule, the new proposed Part D would provide a vehicle for SBICs 
licensed to participate in SBA's Impact Investment Fund (Impact Fund) 
to identify whether they are reporting on an SBA-identified impact 
investment or a Fund-identified impact investment. The Impact Fund was 
launched in April 2011 as part of President Obama's Start-Up America 
Initiative. See, [https://www.sba.gov/about-sba/sba-initiatives/startup-america/about-startup-america.] The initiative was amended in 
September 2014 to allow Impact SBICs to invest in self-identified 
impact investments. [https://www.sba.gov/sites/default/files/articles/SBA%20Impact%20Investment%20Fund%20Policy%20-%20September%202014_1.pdf 
or https://www.sba.gov/content/new-2014-expanding-sbas-impact-fund] 
While Impact SBICs, like all SBICS have been using Form 1031 to report 
on their financings, SBA has determined that it would be beneficial to 
Impact SBICs, if SBA Form 1031 were to include questions specifically 
targeted towards impact investments. As a result the agency is 
proposing to add two questions regarding whether the investment is a 
fund-identified impact investment or SBA-identified impact investment.
    Description of Respondents and Burden: There are currently 299 
licensed SBICs. All of these SBICs are required to submit SBA Form 1031 
for each financing. The current estimated number of responses (i.e., 
number of financings) is 2,021 based on the past three years (FY 2012 
through 2014). The current estimate indicates that it takes 
approximately 12 minutes to complete the form, for a total annual 
burden of 404 hours. Neither the number of respondents nor the number 
of responses per year is expected to be affected by this proposed rule. 
However, SBA estimates a slight increase in the burden hour as a result 
of the additional reporting in new Parts D (Impact Investments) and 
Part E (Passive Business).
    Impact Fund Reporting. This reporting is expected to have minimal 
impact. The estimated eight SBICs making impact investments would 
complete new proposed Part D an estimated total 56 times annually. At 
an estimated 2 minutes per response, this additional reporting would 
add 2 hours to the annual burden for Form 1031.
    Passive Business Reporting. SBA believes that the SBIC should be 
able to provide the proposed passive business information since it 
should be readily available as part of the financing. SBA estimates 
that providing the proposed information will take on average an 
additional 30 minutes for those financings utilizing passive 
businesses, with no incremental burden for those financings that do not 
use a passive business. SBA estimates that about 12% of the annual 
responses relate to passive businesses financings (based on financing 
data in 2014). Based on the number of SBICS reporting such financings 
the total estimated annual hour burden resulting from new Part E 
reporting would be 122.
    Therefore the total estimated annual hour burden for all SBICs 
submitting SBA Form 1031s in a year would be 528 hours.
    The current cost estimate for completing SBA Form 1031 uses a rate 
of $35 per hour for an accounting manager to fill out the form. Using 
that same rate, the cost per form would change from $7 per form to 
$9.14 per form. However, SBA has increased its estimate of an hourly 
rate for an accounting manager to $43 per hour (estimated using 
www1.salary.com/Accounting-Manager-hourly-wages.html in July 2015), 
which rate results in a new cost per form of $11.23 for an aggregate 
cost of $22,704 for the 2,021 estimated responses.
    The recordkeeping requirements under the proposed rule also 
identify information that an SBIC must maintain in its files to support 
the required changes. SBA believes that the SBICs should already be 
maintaining this information since a passive business by definition is 
a Portfolio Concern and the SBIC should be maintaining all documents 
needed to support each financing. The proposed rule makes this 
expectation explicit. Furthermore, currently, an SBIC must maintain 
this information for it to effectively monitor and evaluate an 
investment that uses a passive business to finance a non-passive 
business. Therefore, SBA does not believe this recordkeeping 
requirement should increase the burden. The proposed rule also requires 
a certification under Sec.  107.610 when the SBIC makes a financing 
using the proposed exemption Sec.  107.720(b)(3). This includes 
maintaining records supporting the certification. Since this regulation 
effectively replaces the current requirement for SBICs to seek prior 
SBA approval and maintain these records, SBA does not believe this 
change will increase the burden.

Regulatory Flexibility Act, 5 U.S.C. 601-612

    The Regulatory Flexibility Act (RFA), 5 U.S.C. 601, requires 
administrative agencies to consider the effect of their actions on 
small entities, small non-profit businesses, and small local 
governments. Pursuant to the RFA, when an agency issues a rule, the 
agency must prepare an Initial Regulatory Flexibility Act (IRFA) 
analysis which describes whether the impact of the rule will have a 
significant economic impact on a substantial number of small entities. 
However, Section 605 of the RFA allows an agency to certify a rule, in 
lieu of preparing an IRFA, if the rulemaking is not expected to have a 
significant economic impact on a substantial number of small entities. 
This proposed rule would affect all SBICs, of which there are currently 
close to 300. SBA estimates that approximately 75 percent of these 
SBICs are small entities. Therefore, SBA has determined that this 
proposed rule would have an impact on a substantial number of small 
entities. However, SBA has determined that the impact on entities 
affected by the rule would not be significant. The proposed changes in 
the passive business regulation would provide SBICs with additional 
flexibility to employ transaction structures commonly used by private 
equity or venture capital funds that are not SBICs.
    SBA asserts that the economic impact of the rule, if any, would be 
minimal and beneficial to small SBICs. Accordingly, the Administrator 
of the SBA certifies that this rule would not have a significant impact 
on a substantial number of small entities.

List of Subjects in 13 CFR Part 107

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

    For the reasons stated in the preamble, the Small Business 
Administration proposes to amend 13 CFR part 107 as follows:

[[Page 60082]]

PART 107--SMALL BUSINESS INVESTMENT COMPANIES

0
1. The authority citation for part 107 is revised to read as follows:

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


Sec.  107.50  [Amended]

0
2. Amend Sec.  107.50 by removing from the definition of ``Lending 
Institution'' the term ``Associates's'' and adding in its place the 
term ``Associate's''.
0
3. Amend Sec.  107.210 by revising the paragraph (a) introductory text 
to read as follows:


Sec.  107.210  Minimum capital requirements for Licensees.

    (a) Companies licensed on or after October 1, 1996. A company 
licensed on or after October 1, 1996, must have Leverageable Capital of 
at least $2,500,000 and must meet the applicable minimum Regulatory 
Capital requirement in this paragraph (a), unless lower Leverageable 
Capital and Regulatory Capital amounts are approved by SBA as part of a 
Wind-Up Plan in accordance with Sec.  107.590(c):
* * * * *
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4. Amend Sec.  107.503 by revising the last sentence of paragraph (a) 
to read as follows:


Sec.  107.503  Licensee's adoption of an approved valuation policy.

    (a) * * * These guidelines may be obtained from SBA's SBIC Web site 
at www.sba.gov/inv.
* * * * *
0
5. Amend Sec.  107.610 by adding paragraph (g) to read as follows:


Sec.  107.610  Required certifications for Loans and Investments.

* * * * *
    (g) For each passive business financed under Sec.  107.720(b)(3), a 
certification by you, dated as of the closing date of the Financing, as 
to the basis for the qualification of the Financing under Sec.  
107.720(b)(3) and identifying one or more limited partners in which a 
direct Financing would cause those investors to incur ``unrelated 
business taxable income'' under section 511 of the Internal Revenue 
Code (26 U.S.C. 511) or ``effectively connected income'' to foreign 
investors under sections 871 and 882 of the Internal Revenue Code (26 
U.S.C. 871 and 882).


Sec.  107.630  [Amended]

0
6. Amend Sec.  107.630 by removing paragraph (d) and redesignating 
paragraph (e) as paragraph (d).
0
7. Amend Sec.  107.720 by revising paragraphs (b)(2) and (b)(3) and 
adding paragraph (b)(4) to read as follows:


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

* * * * *
    (b) * * *
    (2) Exception for pass-through of proceeds to subsidiary. You may 
provide Financing directly to a passive business, including a passive 
business that you have formed, if it is a Small Business and it passes 
substantially all the proceeds through to (or uses substantially all 
the proceeds to acquire) one or more subsidiary companies, each of 
which is an eligible Small Business that is not passive. For the 
purpose of this paragraph (b)(2), ``subsidiary company'' means a 
company in which the financed passive business either:
    (i) Directly owns, or will own as a result of the Financing, at 
least 50 percent of the outstanding voting securities; or
    (ii) Indirectly owns, or will own as a result of the Financing, at 
least 50 percent of the outstanding voting securities (by directly 
owning the outstanding voting securities of another passive Small 
Business that is the direct owner of the outstanding voting securities 
of the subsidiary company).
    (3) Exception for certain Partnership Licensees. If you are a 
Partnership Licensee, you may form one or more wholly-owned 
corporations in accordance with this paragraph (b)(3). The sole purpose 
of such corporation(s) must be to provide Financing to one or more 
eligible, unincorporated Small Businesses. You may form such 
corporation(s) only if a direct Financing to such Small Businesses 
would cause any of your investors to incur ``unrelated business taxable 
income'' under section 511 of the Internal Revenue Code (26 U.S.C. 511) 
or ``effectively connected income'' to foreign investors under sections 
871 and 882 of the Internal Revenue Code (26 U.S.C. 871 and 882). Your 
ownership and investment of funds in such corporation(s) will not 
constitute a violation of Sec.  107.730(a). For each passive business 
financed under this section 107.720(b)(3), you must provide a 
certification to SBA as required under Sec.  107.610(g). The wholly-
owned corporation(s) formed under this paragraph may provide Financing:
    (i) Directly to one or more eligible non-passive Small Businesses; 
or
    (ii) Directly to a passive Small Business that passes substantially 
all the proceeds directly to (or uses substantially all the proceeds to 
acquire) one or more eligible non-passive Small Businesses which the 
passive Small Business directly owns, or will own as a result of the 
Financing, at least 50% of the outstanding voting securities.
    (4) Additional conditions for permitted passive business 
financings. Financings permitted under paragraphs (b)(2) or (b)(3) of 
this section must meet all of the following conditions:
    (i) For the purposes of this paragraph (b), ``substantially all'' 
means at least ninety-nine percent of the Financing proceeds after 
deduction of actual application fees, closing fees, and expense 
reimbursements which may not exceed those permitted by Sec.  107.860.
    (ii) If you and/or your Associate charge fees permitted by 
Sec. Sec.  107.860 and/or 107.900, the total amount of such fees 
charged to all passive and non-passive businesses that are part of the 
same Financing may not exceed the fees that would have been permitted 
if the Financing had been provided directly to a non-passive Small 
Business. Any such fees received by your Associate must be paid to you 
in cash within 30 days of the receipt of such fees.
    (iii) For the purposes of this part 107, each passive and non-
passive business included in the Financing is a Portfolio Concern. The 
terms of the financing must provide SBA with access to Portfolio 
Concern information in compliance with this part 107, including without 
limitation Sec. Sec.  107.600 and 107.620.
* * * * *


Sec.  107.1100  [Amended]

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8. Amend Sec.  107.1100 by removing the term ``Yu'' in the second to 
the last sentence of paragraph (b) and adding in its place ``You'', and 
by removing paragraph (c).

    Dated: September 21, 2015.
Maria Contreras-Sweet,
Administrator.
[FR Doc. 2015-25232 Filed 10-2-15; 8:45 am]
 BILLING CODE 8025-01-P