[Federal Register Volume 84, Number 72 (Monday, April 15, 2019)]
[Proposed Rules]
[Pages 15147-15154]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2019-07318]
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SMALL BUSINESS ADMINISTRATION
13 CFR Part 120
RIN 3245-AG97
Streamlining and Modernizing Certified Development Company
Program (504 Loan Program) Corporate Governance Requirements
AGENCY: U.S. Small Business Administration.
ACTION: Proposed rule.
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SUMMARY: This rule proposes to streamline and update the operational
and organizational requirements for Certified Development Companies
(CDCs) in order to improve efficiencies and reduce costs without unduly
increasing risk in the 504 Loan Program. The proposed changes include
streamlining the requirements that would apply to the corporate
governance of CDCs, and updating the requirements that would apply to
professional services contracts entered into by CDCs, the requirements
related to the audit and review of a CDC's financial statements, and
the requirements related to the balance that a PCLP CDC must maintain
in its Loan Loss Reserve Fund.
DATES: The U.S. Small Business Administration (SBA) must receive
comments on this proposed rule on or before June 14, 2019.
ADDRESSES: You may submit comments, identified by RIN: 3245-AG97, by
any of the following methods:
Federal eRulemaking Portal: http://www.regulations.gov.
Follow the instructions for submitting comments.
Mail: Linda Reilly, Chief, 504 Program Branch, Office of
Financial Assistance, Small Business Administration, 409 3rd Street SW,
Washington, DC 20416.
Hand Delivery/Courier: Linda Reilly, Chief, 504 Program
Branch, Office of Financial Assistance, Small Business Administration,
409 3rd Street SW, Washington, DC 20416.
SBA will post all 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 Linda Reilly, Chief, 504 Program Branch, Office of
Financial Assistance, Small Business Administration, 409 3rd Street SW,
Washington, DC 20416. Highlight the information that you consider to be
CBI and explain why you believe SBA should hold this information as
confidential. SBA will review the information and make the final
determination whether it will publish the information.
FOR FURTHER INFORMATION CONTACT: Linda Reilly, Chief, 504 Program
Branch, Office of Financial Assistance, Small Business Administration,
409 3rd Street SW, Washington, DC 20416; telephone: 202-205-9949;
email: [email protected].
SUPPLEMENTARY INFORMATION:
I. Background
The 504 Loan Program is an SBA financing program authorized under
Title V of the Small Business Investment Act of 1958, 15 U.S.C. 695 et
seq. The core mission of the 504 Loan Program is to provide long-term
financing to small businesses for the purchase or improvement of land,
buildings, and major equipment in an effort to facilitate the creation
or retention of jobs and local economic development. Under the 504 Loan
Program, loans are made to small businesses by Certified Development
Companies (CDCs), which are certified and regulated by SBA to promote
economic development within their community. In general, a project in
the 504 Loan Program (a 504 Project) is financed with: A loan obtained
from a private sector lender with a senior lien covering at least 50
percent of the project cost (the Third Party Loan); a loan obtained
from a CDC (the 504 Loan) with a junior lien covering up to 40 percent
of the total cost (backed by a 100 percent SBA-guaranteed debenture
sold in private pooling transactions); and a contribution from the
Borrower of at least 10 percent equity.
II. Proposed Changes to CDC Operational and Organizational Requirements
SBA is proposing to simplify, streamline, and update SBA's
regulations relating to CDC operational and organizational requirements
in order to improve efficiencies and achieve cost savings without
compromising performance in the 504 Loan Program. To accomplish this
goal, SBA proposes to amend the following sections in 13 CFR part 120:
A. Section 120.818 Applicability to Existing For-Profit CDCs
Prior to 2014, 13 CFR 120.822 required CDCs to have a membership
consisting of at least 25 members. This provision also provided that
``no person or entity can own or control more than 10 percent of the
CDC's voting membership (or stock).'' When SBA removed the CDC
membership requirement in 2014, the prohibition against any person or
entity owning or controlling more than 10 percent of a for-profit CDC's
voting stock was inadvertently eliminated. See 79 FR 15641 (March 21,
2014). SBA is proposing to reinstate this provision by adding it to
Sec. 120.818. The purpose of the 10 percent limit on stock ownership
is to ensure that no one person or entity can control a for-profit CDC.
B. Section 120.823 CDC Board of Directors
SBA proposes to amend Sec. 120.823(a) by lowering the minimum
number of directors required for the CDC's Board from nine (9) to seven
(7). To satisfy SBA's quorum requirements set forth in Sec.
120.823(c)(2), a Board with nine directors must have at least five
directors present in order to hold a meeting. SBA is aware of the
difficulty that some small and mid-sized CDCs have in satisfying the
quorum
[[Page 15148]]
requirements for Board meetings based on a nine-member Board. Although
CDCs may, under the current rule, request that SBA approve a Board with
fewer members than nine for good cause, SBA has decided to reduce the
required minimum number of Board members to seven, which will lower the
number of members needed for a quorum from five to four. SBA has also
determined that each CDC should be permitted to determine the maximum
number of members on its Board and is, therefore, proposing to remove
the recommendation in Sec. 120.823(a) that a CDC have no more than 25
voting Directors on the Board. For consistency, SBA is proposing to
reduce the number of members needed for a quorum of the CDC's Loan
Committee under Sec. 120.823(d)(4)(ii)(B) from five to four.
SBA is also proposing to insert language in Sec. 120.823(a) to
make it clear that Board members are required to live or work in the
CDC's Area of Operations. Historically, SBA interpreted former Sec.
120.822(b) (see, e.g., 13 CFR 120.822(b)(2013)) to require CDC Board
members to live or work in the CDC's Area of Operations. However, the
regulatory text supporting this interpretation was removed when the CDC
membership requirement set forth in Sec. 120.822 was removed in 2014.
See 79 FR 15641 (March 21, 2014). SBA notes that, with certain
exceptions, the current regulations require Loan Committee members to
live or work in the Area of Operations of the State where the 504
Project they are voting on is located. To be consistent, SBA is
proposing to revise the regulations to expressly apply this
requirement, with a slight modification in the wording (explained
below), to Board members as well since the Board is required to vote on
projects greater than $2 million and, if no Loan Committee is
established, on projects less than $2 million.
In addition, the intent of this requirement--that Board members
have a local connection to the area in which the CDC operates--would
also be served by allowing Board members to live or work in an area
that, although not in the CDC's Area of Operations, is contiguous to
the Area and meets the definition in Sec. 120.802 of a Local Economic
Area (LEA) for the CDC, such as a metropolitan statistical area that is
bisected by a State line. SBA is therefore proposing to amend Sec.
120.823(a) to allow Board members to satisfy the ``work or live in''
requirement in this manner. For consistency, SBA is proposing to amend
Sec. 120.823(d)(4)(ii)(E) to allow Loan Committee members to satisfy
the ``work or live in'' requirement by working or living in an area
that meets the definition of an LEA as well.
SBA is also proposing to simplify the phrase ``live or work in the
Area of Operations of the State where the 504 project they are voting
on is located''. Today, the minimum Area of Operations for each CDC is
the State in which the CDC is incorporated. See Sec. 120.802
(Definition of ``Area of Operations''). It would, therefore, be simpler
to replace this phrase with ``live or work in the CDC's State of
incorporation''.
In addition, SBA proposes to delete the requirement in Sec.
120.823(a) that requires CDCs to have at least one voting director who
represents the economic, community, or workforce development fields. By
removing this requirement, SBA is clarifying that a CDC need not
appoint a director who has expertise only in the economic, community,
or workforce development fields. Instead, SBA is proposing to add ``the
economic, community, or workforce development fields'' to the other
areas of expertise identified in the current Sec. 120.823(a) that must
be represented on the Board. The five other areas of expertise that
must be represented on the Board include internal controls, financial
risk management, commercial lending, legal issues relating to
commercial lending, and corporate governance. For purposes of complying
with the representational requirements in Sec. 120.823(a), one
director may have more than one area of expertise.
SBA is also proposing to remove the requirement in Sec.
120.823(c)(4) that limits the number of directors in the commercial
lending field to less than 50% of the Board of Directors. With this
change, SBA would allow CDCs to determine the number of directors on
the Board who have a commercial lending background. By requiring that
the Board include members with background and expertise in the six
identified areas, SBA believes that proposed Sec. 120.823(a) would
ensure an appropriate level of diversity of experience on the Board.
C. Section 120.824 Professional Management and Staff
1. Professional Services Contracts Between CDCs
A CDC may currently obtain, under a written contract that is pre-
approved by SBA, services from qualified individuals and entities to
perform management, marketing, packaging, processing, closing,
servicing, or liquidation functions in accordance with the requirements
set forth in Sec. 120.824(a) through (f). Known as professional
services contracts, a few CDCs have contracted with other CDCs to
obtain assistance under this provision (although none are obtaining
management services from another CDC). The type of relationship that
may be created between CDCs through these contracts is limited by Sec.
120.820(d), which prohibits a CDC from affiliating (as determined in
accordance with 13 CFR 121.103) with another CDC.
SBA believes that some smaller CDCs may benefit from the assistance
available from their larger counterparts that operate in the same SBA
Region or in contiguous States, and SBA is proposing to permit a CDC to
enter into a professional services contract with another CDC under
certain conditions, even if the arrangement would give rise to an
affiliation between the CDCs based on an ``identity of interest'', as
defined under 13 CFR 121.103(f).\1\ With this rulemaking, SBA is
proposing to establish the conditions under which a CDC may contract
with another CDC for marketing, packaging, processing, closing,
servicing, or liquidation functions. Specifically, SBA proposes to
incorporate the existing provisions of Sec. 120.824(a) through (f)
into a new paragraph (a), which would address professional services
contracts generally (i.e., between a CDC and any third party), and is
proposing the following conditions as a new paragraph (b), which would
specifically address professional services contracts between CDCs:
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\1\ Under 13 CFR 121.103(f), an identity of interest is created
when the CDCs have identical or substantially identical business or
economic interests or are economically dependent through contractual
or other relationships. For example, under Sec. 121.103(f), if all
or most of the CDC's key functions (including 504 and non-504
functions in the aggregate) are performed by staff that is obtained
under contract with another CDC, the two CDCs may be affiliated
based on an identity of interest.
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(a) Prior Approval of Contracts
The contract between the CDCs for marketing, packaging, processing,
closing, servicing, or liquidation functions must be pre-approved by
the Director of the Office of Financial Assistance (D/FA) (or
designee), in consultation with the Director of the Office of Credit
Risk Management (D/OCRM) (or designee), who will determine in his or
her discretion that such approval is in the best interests of the 504
Loan Program and that the contract includes terms and conditions
satisfactory to SBA.
SBA notes that, generally, a CDC is required under the current
Sec. 120.824(a) (to be redesignated as Sec. 120.824(a)(1)) to have at
least one salaried professional that is employed directly by the CDC as
[[Page 15149]]
its full time manager. Currently, a CDC may seek a waiver of this
requirement and SBA's prior approval of a contract for management
services from another CDC only if the CDC in need of management
services is located in a rural area and satisfies the other conditions
for a waiver of the management requirement, as set forth in the current
Sec. 120.824(a)(2) (to be redesignated as Sec. 120.824(a)(1)(ii)).
This proposed rule would not change these provisions, except that SBA
proposes to require that a rural CDC's contract for management services
must be pre-approved by the D/FA (or designee) in consultation with the
D/OCRM (or designee), instead of pre-approved by the D/FA only.
SBA also notes that a CDC may petition for a waiver of the
management requirement under the current Sec. 120.824(a)(1) (to be
redesignated as Sec. 120.824(a)(1)(i)) to obtain management services
from another non-profit entity under certain conditions. SBA has
interpreted this provision to mean that the other non-profit entity may
not be another CDC. To make this clear, SBA is proposing to expressly
state in the redesignated Sec. 120.824(a)(1)(i) that the non-profit
entity from which a CDC may obtain management services cannot be
another CDC. The proposed rule would continue to require that the
contract and request for waiver must be pre-approved by the D/FA (or
designee), but it would add that this approval must be done in
consultation with the D/OCRM (or designee).
(b) CDCs Must Be Located in Same SBA Region or Contiguous States
The CDCs entering into the contract must be located either in the
same SBA Region or, if not in the same SBA Region, must be located in
contiguous States. For purposes of this provision, the location of a
CDC is the CDC's State of incorporation. SBA does not want a CDC to be
able to use professional services contracts with other CDCs as a means
to establish a presence outside of its home SBA Region or a contiguous
State. This is consistent with the history and purpose of the program
as a local development program, where CDCs are closely tied to the
localities in which they lend and perform other economic development
activities. For any CDC that currently provides services under contract
to another CDC outside the allowed areas, the CDCs would be permitted
to continue the contract until the term of the current contract
expires.
(c) Assistance May Be Provided to Only One CDC per State
A CDC may provide assistance to only one CDC per State. SBA does
not want any one CDC to be able to use professional services contracts
with other CDCs in a way that discourages new CDCs from forming in a
State or that is detrimental to the viability of existing CDCs in the
State.
(d) Other Geographic Limits on Where CDCs May Provide Assistance
No CDC may provide assistance to another CDC in its State of
incorporation or in any State in which the CDC has Multi-State
authority. Again, SBA does not want any one CDC to be able to use
professional services contracts with other CDCs in a way that
discourages new CDCs from forming in a State or that is detrimental to
the viability of existing CDCs in the State. SBA would also like to
solicit comments from the public on whether SBA should place any
limitations on the ability of a CDC that has expanded its operations
into a Local Economic Area to provide assistance to another CDC that
operates in the LEA.
(e) Independent CDCs
The Board of Directors for each CDC entering into the contract must
be separate and independent and may not include any common directors,
whether voting or non-voting. In addition, if either of the CDCs is
for-profit, neither CDC may own any stock in the other CDC
(notwithstanding Sec. 120.820(d), which allows a CDC to invest in or
finance another CDC with the prior written approval of SBA officials).
SBA wants the CDCs to retain the independence and control provided by
separate Boards and does not want a CDC to be able to exercise any
degree of control over another CDC through any ownership interest in
the other CDC. In addition, the CDCs are prohibited from comingling any
funds.
(f) Other Requirements That Apply to These Contracts
The CDCs and the contract must comply with the other requirements
for professional services contracts set forth in proposed Sec.
120.824(a). A contract between CDCs may not include either services for
independent loan reviews or management services (except for rural CDCs
as provided in accordance with redesignated Sec. 120.824(a)(1)(ii)).
In addition, affiliation between CDCs based on grounds other than
identity of interest, including but not limited to through common
management or ownership under Sec. 121.103(c) and (d), respectively,
would continue to be prohibited.
2. Other Changes That Would Apply to All Professional Services
Contracts
SBA proposes to incorporate the provisions currently set forth in
13 CFR 120.824(a) through (f) into a new paragraph (a) that would apply
to all professional services contracts (including professional services
contracts between CDCs) with the following changes:
(a) Contracts Requiring Prior Approval
The types of contracts that a CDC may enter into, with SBA's prior
approval, are listed in current Sec. 120.824(b), and include contracts
for assistance in management, marketing, packaging, processing,
closing, servicing, or liquidation functions. SBA wants to clarify in
this rule that the CDC must obtain SBA's prior approval of co-
employment contracts that a CDC wants to enter into with a third party,
such as a professional employer organization, to obtain employee
benefits, such as retirement and health benefits, on a more cost-
effective basis for the CDC's staff. The contracts that some CDCs have
submitted to SBA for prior approval have provided that the CDC's staff
were deemed to be the co-employees of both the CDC and the contractor.
SBA wants CDCs and their staff to be able to obtain the cost savings
and benefits that can be obtained under these types of contracts, but
wants to ensure that the contract provides that the CDC retains the
final authority to hire and fire the CDC's staff.
In addition, under the current regulation, CDCs may contract for
legal and accounting services without SBA approval, except for legal
services in connection with loan liquidation or litigation. SBA is
proposing to include services for information technology and
independent loan reviews in the types of contracts listed in current
120.824(b) (to be redesignated as Sec. 120.824(a)(2)) that CDCs may
enter into without obtaining prior SBA approval. As indicated in
section II.C.1(f) above, however, CDCs may not contract with other CDCs
for the performance of independent loan reviews.
(b) Other Clarifying and Technical Changes
Under the current Sec. 120.824(e)(1), the CDC's Board must
demonstrate to SBA that ``the compensation under the [professional
services] contract is only from the CDC''. For clarity, SBA is
proposing to revise this provision (to be redesignated as Sec.
120.824(a)(3)(i)) to state that ``the compensation under the contract
is paid only by the CDC.'' In
[[Page 15150]]
addition, in the current Sec. 120.824(e)(3), the CDC's Board must
demonstrate that the contracts do not ``evidence'' any actual or
apparent conflict of interest or self-dealing. For clarity, SBA is
proposing to revise this provision (to be redesignated as Sec.
120.824(a)(3)(iii)) to require the Board to demonstrate that there is
no actual or apparent conflict of interest or self-dealing in the
negotiation, approval or implementation of the contract.
In addition, under the current Sec. 120.824(d), the CDC must
provide copies of these contracts to SBA for review annually. SBA is
proposing to revise this provision (to be redesignated as Sec.
120.824(a)(5)) to clarify that the CDC procuring the services must
provide a copy of all executed contracts to SBA as part of the CDC's
Annual Report submitted under Sec. 120.830(a) unless the CDC certifies
that it has previously submitted an identical copy of the contract to
SBA.
Another change being proposed concerns the current Sec.
120.824(c), under which the contracts must clearly identify terms and
conditions satisfactory to SBA that permit the CDC to terminate the
contract prior to its expiration date on a reasonable basis. To give
CDCs procuring services maximum flexibility, SBA is proposing to revise
the standard under which the CDC procuring the services may terminate
the contract to ``with or without cause''. SBA is proposing to add this
requirement to the current Sec. 120.824(e)(2) (to be redesignated as
Sec. 120.824(a)(3)(ii)).
Finally, under the current Sec. 120.824(f), no contractor or
Associate of a contractor may be a voting or non-voting member of the
CDC's Board. The term ``Associate'' is generally defined in Sec.
120.10 with respect to a lender, CDC or small business, but not with
respect to a contractor of a CDC. SBA is proposing therefore to replace
the phrase ``Associate of a contractor'' with text that is consistent
with the definition of Associate in Sec. 120.10.
D. Section 120.826 Basic Requirements for Operating a CDC
Under the current Sec. 120.826(c), each CDC with a 504 loan
portfolio balance of $20 million or more must have its financial
statements audited annually by a certified public accountant (CPA) that
is independent and experienced in auditing financial institutions, and
each CDC with a 504 loan portfolio balance of less than $20 million
must have its financial statements reviewed annually. SBA is proposing
to revise this paragraph by increasing the dollar threshold that would
trigger an annual audit requirement of the CDC's financial statements
from $20 million to $30 million. For loan portfolio balances of less
than $30 million, the CDC's financial statements would be required to
be reviewed by an independent CPA in accordance with generally accepted
accounting principles (GAAP). However, under the proposed change, a CDC
with a portfolio balance of less than $30 million may be required to
provide audited financial statements at the discretion of the D/OCRM
when the CDC is in material noncompliance with SBA's Loan Program
Requirements (defined in Sec. 120.10), such as with requirements
related to financial solvency or business integrity. SBA notes that
CDCs that participate in other SBA programs, such as the Community
Advantage Pilot Loan Program or the Microloan Program, must continue to
comply with the audit requirements of those other SBA programs.
There are currently 19 CDCs (about 9% of all CDCs) with portfolio
balances of at least $20 million but less than $30 million. By
increasing the dollar threshold for audited financial statements to $30
million, these 19 CDCs would save the difference in cost between an
audited and a reviewed financial statement, which SBA estimates to be
$15,000 annually for each CDC, without unduly increasing risk. There
are currently 60 CDCs (about 28% of all CDCs) with portfolio balances
under $20 million. Therefore, a total of 79 CDCs (about 37% of all
CDCs) would not be required to provide audited financial statements
unless, as noted above, circumstances warrant.
E. Section 120.835 Application To Expand an Area of Operations
Under the current Sec. 120.835(c), a CDC is required to establish
a separate Loan Committee in each State into which it expands as a
Multi-State CDC and all of the members of that Loan Committee must live
or work in the State into which the CDC expands. SBA is proposing to
amend paragraph (c) of Sec. 120.835 to offer the following alternative
to establishing a Loan Committee in each such additional State: If the
CDC has established a Loan Committee in its State of incorporation,
then when voting on a Project in the additional State, the CDC may
include at least two individuals who live or work in that State on the
CDC's Loan Committee. To make it clear that the two individuals added
to the Loan Committee may vote only on the Projects located in the
additional State into which the CDC expands and would not be eligible
to participate in voting on Projects in any other State, SBA is
proposing to add the term ``only'' after ``[c]onsist'' in Sec.
120.823(d)(4)(ii)(E). If the CDC has not established a Loan Committee
in its State of incorporation, the alternative would require that at
least two individuals who live or work in the additional State be
included on the CDC's Board of Directors when voting on a Project in
that State.
This alternative to the separate Loan Committee requirement would
reduce the time and expense that a CDC incurs in establishing and
maintaining a separate Loan Committee in each State into which it
expands, while still requiring a local connection when the Board or its
Loan Committee votes on these Multi-State projects. With this change,
Multi-State CDCs would have an alternative to establishing a separate
Loan Committee in each State in which they operate.
If the proposed revision to Sec. 120.835(c) discussed in the
preceding two paragraphs is adopted, it will be necessary to make a
conforming change to the current Sec. 120.823(d)(4)(ii)(E). In
addition, as noted above in section II.B, SBA is proposing to simplify
the phrase in the current regulation that members must ``live or work
in the Area of Operations of the State where the 504 project they are
voting on is located''. As noted above, the minimum Area of Operations
is the State in which the CDC is incorporated. It would, therefore, be
simpler to replace this phrase with ``live or work in the CDC's State
of incorporation''. In addition, with this change, it would no longer
be necessary to provide an exception in Sec. 120.823(d)(4)(ii)(E) for
projects that ``fall[ ] under one of the exceptions listed in Sec.
120.839''. Under the proposed revision, the CDC's Loan Committee
established under Sec. 120.823(d)(4)(ii)(E) would be able to approve
projects that fall under Sec. 120.839 and SBA is, therefore, proposing
to remove the reference to Sec. 120.839.
F. Section 120.839 Case-by-Case Application To Make a 504 Loan Outside
of a CDC's Area of Operations
Section 120.839 currently permits a CDC to make a 504 loan outside
of a CDC's Area of Operations if certain conditions are satisfied,
including that the CDC has previously assisted the business to obtain a
504 loan. SBA is proposing to expand paragraph (a) of this section to
allow a CDC to apply to make a 504 loan outside its Area of Operations
if the CDC has previously assisted either the business ``or its
affiliate(s).'' SBA believes that, if the CDC had previously assisted
an affiliate of the business, the CDC would have sufficient familiarity
with the business'
[[Page 15151]]
management and credit risk to prudently assist the business.
G. Section 120.847 Requirements for the Loan Loss Reserve Fund (LLRF)
Currently, CDCs that participate in the Premier Certified Lenders
Program (PCLP CDCs) are required to establish and maintain an LLRF in
an amount equal to one percent of the original principal amount of the
PCLP Debentures issued by the CDC. The amount maintained in the LLRF
for each PCLP Debenture remains the same even as the principal balance
of the Debenture is paid down over time.
SBA is proposing to revise paragraph (b) of this section to allow
PCLP CDCs to maintain a balance in the LLRF equal to one percent of the
current principal amount, instead of the original principal amount, of
the PCLP Debenture after the loan is seasoned for 10 years. However, a
CDC may not use the declining balance methodology: (1) With respect to
any PCLP Debenture that has been purchased, in which case the CDC must
restore the balance maintained in the LLRF with respect to that
Debenture to one percent of the original principal amount within 30
days after purchase; or (2) with respect to any other PCLP Debenture if
SBA notifies the CDC in writing that it has failed to satisfy the
requirements in paragraphs (e), (f), (h), (i) and (j) of Sec. 120.847.
In the latter case, the CDC will not be required to restore the balance
maintained in the LLRF to one percent of the original principal amount
of the Debenture but must base the amount maintained in the LLRF on one
percent of the principal amount of the Debenture as of the date of
notification. The CDC may not begin to use the declining balance
methodology again until SBA notifies the CDC in writing that SBA has
determined, in its discretion, that the CDC has corrected the
noncompliance and has demonstrated its ability to comply with these
requirements.
For example, if a CDC fails to timely submit one or more periodic
loan loss reserve reports under Sec. 120.847(f) (which are required to
be submitted on a quarterly basis pursuant to SBA Form 2233), SBA would
notify the CDC that it may no longer use the declining balance
methodology. The CDC would not be required to restore the balance
maintained in the LLRF to one percent of the original principal amount
of the Debenture, but would be required to maintain an amount based on
one percent of the principal amount of the Debenture as of the date of
notification. Upon the CDC's submission of the delinquent report(s),
SBA would notify the CDC that it may again use the declining balance
methodology based on the original principal amount if SBA determines
the CDC is able to comply with the reporting requirement going forward.
By allowing PCLP CDCs to utilize a declining balance methodology
for each Debenture that is at least 10 years old, more cash would be
available to support the CDC's operations or to invest in other
economic development activities without unduly increasing risk. All
withdrawals must be made in accordance with the requirements of Sec.
120.847(g). This provision currently requires the CDC to forward
requests for withdrawals to the Lead SBA Office, but SBA is proposing
to change the official to whom withdrawal requests should be forwarded
to the D/OCRM (or designee). If the change in permitted use of the
declining balance methodology is adopted, SBA will monitor whether the
adequacy of the CDC's LLRF is affected.
III. Compliance With Executive Orders 12866, 13563, 12988, 13771, and
13132, 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 (OMB) has determined that this
proposed rule is not a ``significant'' regulatory action for the
purposes of Executive Order 12866. In addition, this is not a major
rule under the Congressional Review Act, 5 U.S.C. 800.
Executive Order 13563
The agency coordinated outreach efforts to engage stakeholders
before proposing this rule. The 504 Loan Program operates through the
agency's lending partners, which for this program are CDCs. The agency
has participated in lender conferences and trade association meetings
and received feedback from CDCs, a trade association, and third-party
lenders that provided valuable insight to SBA.
Executive Order 13771
This proposed rule is not expected to be an E.O. 13771 regulatory
action because this proposed rule is not significant under E.O. 12866.
Executive Order 12988
This action meets applicable standards set forth in Sections 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 preemptive effect.
Executive Order 13132
SBA has determined that this proposed rule will not have
substantial, direct effects on the States, on the relationship between
the national government and the States, or on the distribution of power
and responsibilities among the various levels of government. Therefore,
for the purposes of Executive Order 13132, SBA has determined that this
proposed rule has no federalism implications warranting preparation of
a federalism assessment.
Paperwork Reduction Act, 44 U.S.C., Ch. 35
SBA has determined that this proposed rule would require that SBA
Form 1253, Certified Development Company (CDC) Annual Report Guide (OMB
Approval 3245-0074), be revised to clarify or add information that CDCs
are required to submit with their Annual Report. With respect to the
Financial Report (Tab 3) of the form, a CDC is currently allowed to
submit a reviewed financial statement instead of an audited financial
statement if it has a 504 loan portfolio balance of less than $20
million. This proposed rule would raise this threshold to $30 million
and, if adopted, it will be necessary to revise the instruction in the
form accordingly. The substance of the information that would be
collected is not being changed, only that fewer CDCs would need to
submit it.
In addition, with respect to the Operating Report (Tab 2) of SBA
Form 1253, the CDC is currently required to submit a copy of all
contracts for management and/or staff in place during the reporting
period. The types of contracts in question, as currently described in
the regulations (e.g., managing, marketing, servicing, etc.), are the
same contracts that must be submitted to SBA for pre-approval; however,
the list does not specifically identify co-employment contracts under
which a third party (such as a professional employer organization) is
responsible for the management and administration of certain employment
benefits, such as retirement and health benefits. Accordingly, the form
would be changed to clarify that SBA must pre-approve these contracts.
SBA has also determined that, as currently written, the requirement
to submit a copy of all contracts with the Annual Report could result
in duplicative reporting since CDCs should have provided SBA with an
executed copy of any contract after obtaining SBA's prior approval. As
a result, SBA is proposing to revise this requirement
[[Page 15152]]
to make it clear that CDCs would no longer be required to submit a copy
of its contracts with the Annual Report if a copy of the current and
executed contract has been previously submitted to SBA. The CDC would
be required to provide a certification with its Annual Report that it
has previously submitted a copy of the executed contract to SBA and
that no changes have been made to it. The certification would also need
to state to whom and on what date the contract was provided to SBA.
Another form that would require a change as a result of this
proposed rule is SBA Form 2233, Premier Certified Lenders Program
(PCLP), Quarterly Loan Loss Reserve Report (OMB Approval 3245-0346).
This form instructs the PCLP CDC to submit the completed form to the
``Lead SBA Office''. This proposed rule would change the office to
which this form is submitted to the ``Office of Credit Risk
Management'', and this form would be revised accordingly.
SBA invites comments on the proposed changes to the underlying
regulations that would impact these forms by the deadline for comments
noted in the DATES section. SBA has determined that the changes
proposed for the forms described above are not substantive in nature
and do not need to be submitted to OMB for approval.
Regulatory Flexibility Act, 5 U.S.C. 601-612
When an agency issues a rulemaking, the Regulatory Flexibility Act
(RFA), 5 U.S.C. 601-612, requires the agency to ``prepare and make
available for public comment an initial regulatory analysis'' which
will ``describe the impact of the proposed rule on small entities.''
Section 605 of the RFA allows an agency to certify a rule, in lieu of
preparing an analysis, if the proposed rulemaking is not expected to
have a significant economic impact on a substantial number of small
entities. Although the rulemaking will impact all 215 CDCs (all of
which are small), SBA does not believe the impact will be significant.
As stated above, the proposed rule will streamline the operational and
organizational requirements that CDCs must satisfy and reduce their
costs, and therefore will not increase their burden.
For example, under the proposed rule, the 19 CDCs that currently
have 504 loan portfolio balances between $20 million and $30 million
would no longer be required to provide audited financial statements,
but may submit reviewed financial statements instead. As noted above,
SBA estimates that the elimination of the audited review for these CDCs
will save each CDC approximately $15,000 per year.
In addition, SBA is proposing to reduce the regulatory requirements
imposed on CDCs related to corporate governance. For example, SBA is
proposing to decrease the number of members that a CDC is required to
appoint to its Board of Directors from nine to seven. This change would
also make it easier for a CDC to meet the quorum requirements for
conducting its business. SBA is also proposing to expand the area in
which Board and Loan Committee members may work or live; remove the
limit on the number of members that may serve on the Board from the
commercial lending fields; allow CDCs in need of assistance to contract
for services with another CDC under certain circumstances even if the
CDCs would become affiliated as a result; eliminate the requirement
that CDCs establish a separate Loan Committee in each State into which
the CDC expands as a Multi-State CDC; and expand the criteria under
which a CDC may make a 504 loan outside its Area of Operations.
Another significant change being proposed is the reduction in the
amount that PCLP CDCs need to maintain in the Loan Loss Reserve Fund.
By allowing PCLP CDCs to utilize a declining balance methodology for
the LLRF after a Debenture has been outstanding for 10 years, more cash
would be available to support the CD`C's operations or to invest in
other economic development activities without unduly increasing risk.
SBA believes that this rule is SBA's best available means for
facilitating American job preservation and creation by removing
unnecessary regulatory requirements. Since the main purpose of this
proposed rule is to reduce unnecessary regulatory burdens, a review of
the preamble sections above will provide additional detailed
explanations regarding how and why this proposed rule will reduce
regulatory burdens and responsibly increase program participation
flexibility. For these reasons, SBA has determined that there is no
significant impact on a substantial number of small entities.
List of Subjects in 13 CFR Part 120
Community development, Equal employment opportunity, Loan
programs--business, Reporting and recordkeeping requirements, Small
business.
For the reasons stated in the preamble, SBA proposes to amend 13
CFR part 120 as follows:
PART 120--BUSINESS LOANS
0
1. The authority for 13 CFR part 120 continues to read as follows:
Authority: 15 U.S.C. 634(b)(6), (b)(7), (b)(14), (h) and note,
636(a), (h) and (m), 650, 687(f), 696(3) and (7), and 697(a) and
(e); Public Law 111-5, 123 Stat. 115, Public Law 111-240, 124 Stat.
2504.
0
2. Amend Sec. 120.818 by designating the undesignated paragraph as
paragraph (a) and adding paragraph (b) to read as follows:
Sec. 120.818 Applicability to existing for-profit CDCs.
* * * * *
(b) No person or entity can own or control more than 10 percent of
a for-profit CDC's stock.
0
3. Amend Sec. 120.823 by:
0
a. Revising paragraph (a);
0
b. Adding the word ``and'' at the end of paragraph (c)(3);
0
c. Removing paragraph (c)(4) and redesignating paragraph (c)(5) as
paragraph (c)(4); and
0
d. Revising paragraphs (d)(4)(ii)(B) and (E).
The revisions read as follows:
Sec. 120.823 CDC Board of Directors.
(a) The CDC, whether for-profit or nonprofit, must have a Board of
Directors with at least seven (7) voting directors who live or work in
the CDC's State of incorporation or in an area that is contiguous to
that State that meets the definition of a Local Economic Area for the
CDC. The Board must be actively involved in encouraging economic
development in the Area of Operations. The initial Board may be created
by any method permitted by applicable State law. At a minimum, the
Board must have directors with background and expertise in internal
controls, financial risk management, commercial lending, legal issues
relating to commercial lending, corporate governance, and economic,
community or workforce development. Directors may be either currently
employed or retired.
* * * * *
(d) * * *
(4) * * *
(ii) * * *
(B) Have a quorum of at least four (4) Loan Committee members
authorized to vote;
* * * * *
(E) Consist only of Loan Committee members who live or work in the
CDC's State of incorporation or in an area that meets the definition of
a Local Economic Area for the CDC, except that, for Projects that are
financed under a CDC's Multi-State authority, the CDC must satisfy the
requirements of either
[[Page 15153]]
Sec. 120.835(c)(1) or (2) when voting on that Project.
* * * * *
0
4. Revise Sec. 120.824 to read as follows:
Sec. 120.824 Professional management and staff.
A CDC must have full-time professional management, including an
Executive Director (or the equivalent) to manage daily operations. It
must also have a full-time professional staff qualified by training and
experience to market the 504 Loan Program, package and process loan
applications, close loans, service, and, if authorized by SBA,
liquidate the loan portfolio, and to sustain a sufficient level of
service and activity in the Area of Operations.
(a) Professional services contracts. Through a written contract
with qualified individuals or entities, a CDC may obtain services for
management, marketing, packaging, processing, closing, servicing, or
liquidation functions, provided that:
(1) The CDC must have at least one salaried professional employee
that is employed directly (not a contractor or an officer, director,
20% or more equity owner, or key employee of a contractor) on a full-
time basis to manage the CDC. The CDC manager must be hired by the
CDC's Board of Directors and subject to termination only by the Board.
A CDC may petition SBA to waive the requirement of the manager being
employed directly by the CDC if:
(i) Another non-profit entity (that is not a CDC) that has the
economic development of the CDC's Area of Operations as one of its
principal activities will provide management services to the CDC and,
if the manager is also performing services for the non-profit entity,
the manager will be available to small businesses interested in the 504
program and to 504 loan borrowers during regular business hours; or
(ii) The CDC petitioning SBA for such waiver is rural, has
insufficient loan volume to justify having management employed directly
by the CDC, and is requesting to contract with another CDC located in
the same general area to provide the management.
(2) The contract must be pre-approved by the D/FA (or designee),
except that with respect to contracts for management services and
requests for waivers under paragraph (a)(1) of this section, the
contract and request for waiver must be pre-approved by the D/FA (or
designee) in consultation with the D/OCRM (or designee). With respect
to any contract under which the CDC's staff are deemed co-employees of
both the CDC and the contractor (e.g., contracts with professional
employer organizations to obtain employee benefits, such as retirement
and health benefits, for the CDC's staff), the contract must provide
that the CDC retains the final authority to hire and fire the CDC's
employees. (CDCs may contract for legal, accounting, information
technology, and independent loan review services without SBA approval,
except for legal services in connection loan liquidation or litigation.
In addition, a CDC may not contract with another CDC for independent
loan review services.)
(3) If a CDC's Board believes that it is in the best interest of
the CDC to obtain services under paragraph (a) of this section, the
CDC's Board must explain its reasoning to SBA. The CDC's Board must
demonstrate to SBA that:
(i) The compensation under the contract is paid only by the CDC
obtaining the service, is reasonable and customary for similar services
in the Area of Operations, and is only for actual services performed;
(ii) The full term of the contract (including options) is necessary
and appropriate and the contract permits the CDC procuring the services
to terminate the contract prior to its expiration date with or without
cause; and
(iii) There is no actual or apparent conflict of interest of self-
dealing on the part of any of the CDC's officers, management, and
staff, including members of the Board and Loan Committee, in the
negotiation, approval or implementation of the contract.
(4) Neither the contractor nor any officer, director, 20% or more
equity owner, or key employee of a contractor may be a voting or non-
voting member of the CDC's Board.
(5) The CDC procuring the services must provide a copy of all
executed contracts to SBA as part of the CDC's Annual Report submitted
under Sec. 120.830(a) unless the CDC certifies that it has previously
submitted an identical copy of the executed contract to SBA.
(6) If the contract is between CDCs, the CDCs and the contract must
comply with paragraph (b) of this section, and the contract may not
include management services (except in accordance with paragraph
(a)(1)(ii) of this section) or services for independent loan reviews.
(b) Professional services contracts between CDCs. Notwithstanding
the prohibition in Sec. 120.820(d) against a CDC affiliating with
another CDC, a CDC may obtain services through a written contract with
another CDC for marketing, packaging, processing, closing, servicing,
or liquidation functions, provided that:
(1) The contract between the CDCs must be pre-approved by the D/FA
(or designee), in consultation with the D/OCRM (or designee), who
determines in his or her discretion that such approval is in the best
interests of the 504 Loan Program and that the terms and conditions of
the contract are satisfactory to SBA. A CDC may contract with another
CDC for a management function only in accordance with paragraph
(a)(1)(ii) of this section.
(2) The CDCs entering into the contract must be located in the same
SBA Region or, if not located in the same SBA Region, must be located
in contiguous States. For purposes of this paragraph (b)(2), the
location of a CDC is the CDC's State of incorporation.
(3) A CDC may provide assistance to only one CDC per State.
(4) No CDC may provide assistance to another CDC in its State of
incorporation or in any State in which the CDC has Multi-State
authority.
(5) The Board of Directors for each CDC entering into the contract
must be separate and independent and may not include any common
directors. In addition, if either of the CDCs is for-profit, neither
CDC may own any stock in the other CDC. The CDCs are also prohibited
from comingling any funds.
(6) The contract must satisfy the requirements set forth in
paragraph (a) of this section.
Sec. 20.826 [Amended]
0
5. Amend Sec. 120.826(c) by:
0
a. Removing the term ``$20 million'' wherever it appears and adding the
term ``$30 million'' in its place;
0
b. Removing the period at the end of the last sentence and adding ``,
except that the D/OCRM may require a CDC with a portfolio balance of
less than $30 million to submit an audited financial statement in the
event the D/OCRM determines, in his or her discretion, that such audit
is necessary or appropriate when the CDC is in material noncompliance
with Loan Program Requirements.''
0
6. Amend Sec. 120.835(c) by:
0
a. Adding a paragraph heading;
0
b. Removing the last sentence and adding the phrase ``A CDC may apply
to be a Multi-State CDC only if the State the CDC seeks to expand into
is contiguous to the State of the CDC's incorporation and either:'' in
its place; and
0
c. Adding paragraphs (c)(1) and (2).
The additions read as follows:
Sec. 120.835 Application to expand an Area of Operations.
* * * * *
[[Page 15154]]
(c) Multi-State expansion. * * *
(1) The CDC establishes a Loan Committee in the additional State
consisting only of members who live or work in that State and that
satisfies the other requirements in Sec. 120.823(d)(4)(ii)(A) through
(D); or
(2) For any Project located in the additional State, the CDC's
Board or Loan Committee (if established in the CDC's State of
incorporation) includes at least two members who live or work in that
State when voting on that Project.
Sec. 120.839 [Amended]
0
7. Amend Sec. 120.839(a) by adding the words ``or its affiliate(s)''
after ``business''.
0
8. Amend Sec. 120.847 by:
0
a. Revising paragraph (b); and
0
b. Removing the term ``Lead SBA Office'' in third sentence of paragraph
(g) and adding in its place ``the D/OCRM (or designee)''.
The revision reads as follows:
Sec. 120.847 Requirements for the Loan Loss Reserve Fund (LLRF).
* * * * *
(b) PCLP CDC Exposure and LLRF deposit requirements. A PCLP CDC's
``Exposure'' is defined as its reimbursement obligation to SBA with
respect to default in the payment of any PCLP Debenture. The amount of
a PCLP CDC's Exposure is 10 percent of any loss (including attorney's
fees; litigation costs; and care of collateral, appraisal and other
liquidation costs and expenses) sustained by SBA as a result of a
default in the payment of principal or interest on a PCLP Debenture.
For each PCLP Debenture a PCLP CDC issues, it must establish and
maintain an LLRF equal to one percent of the original principal amount
of the PCLP Debenture. The amount the PCLP CDC must maintain in the
LLRF for each PCLP Debenture remains the same even as the principal
balance of the PCLP Debenture is paid down over time except that, after
the first 10 years of the term of the Debenture, the amount maintained
in the LLRF may be based on one percent of the current principal amount
of the PCLP Debenture (the declining balance methodology), as
determined by SBA. All withdrawals must be made in accordance with the
requirements of paragraph (g) of this section. A CDC may not use the
declining balance methodology:
(1) With respect to any Debenture that has been purchased. Within
30 days after purchase, the CDC must restore the balance maintained in
the LLRF for the Debenture that was purchased to one percent of the
original principal amount of that Debenture; or
(2) With respect to any other Debenture if SBA notifies the CDC in
writing that it has failed to satisfy the requirements in paragraph
(e), (f), (h), (i) or (j) of this section. In such case, the CDC will
not be required to restore the balance maintained in the LLRF to one
percent of the original principal amount of the Debenture but must base
the amount maintained in the LLRF on one percent of the principal
amount of the Debenture as of the date of notification. The CDC may not
begin to use the declining balance methodology again until SBA notifies
the CDC in writing that SBA has determined, in its discretion, that the
CDC has corrected the noncompliance and has demonstrated its ability to
comply with these requirements.
* * * * *
Dated: April 5, 2019.
Linda E. McMahon,
Administrator.
[FR Doc. 2019-07318 Filed 4-12-19; 8:45 am]
BILLING CODE 8025-01-P