PPPs for DIPs? --Update

06.29.2020

In late April, we highlighted the issue that was arising in bankruptcy courts concerning whether a debtor in possession in a chapter 11 bankruptcy is eligible for a Paycheck Protection Program loan. A copy of the full article is available here.

As that initial article indicated, the Coronavirus Aid, Relief, and Economic Security Act, or the CARES Act (“CARES Act”) provided a $2.2 trillion stimulus package to address the economic downturn caused by the Coronavirus pandemic. A major component of this legislation was the allocation of $349 billion (which was subsequently increased to $670 billion) to the Paycheck Protection Program (“PPP”). Under the PPP, eligible borrowers are entitled to loans guaranteed by the Small Business Administration (“SBA”) at 1% interest over a two-year term, and subject to possible loan forgiveness depending on a borrower’s workforce and salary/wage levels. Borrowers may borrow an amount based on 2.5 times the previous year’s monthly payroll up to $10 million.

The SBA issued an Interim Final Rule on April 24, 2020 that provides: “If the applicant or the owner of the applicant is the debtor in a bankruptcy proceeding, either at the time it submits the application or at any time before the loan is disbursed, the applicant is ineligible to receive a PPP loan.”  The SBA reasoned that debtors were excluded because they “would present an unacceptably high risk for an unauthorized use of funds or non-repayment of unforgiven loans.”

Several companies that are currently DIPs in pending chapter 11 cases have challenged the SBA’s Interim Final Rule. Since the initial article was posted, there have been many decisions issued by various bankruptcy courts relating to these DIP challenges. 

Several courts have been sympathetic to the debtor’s arguments and have been ruling in their favor against the SBA. The bankruptcy court for the District of New Mexico ruled in favor of the Archdiocese of Santa Fe and found that the SBA’s “inexplicable and highhanded decision to rewrite the PPP’s eligibility requirements in this way was arbitrary and capricious, beyond its statutory authority, and in violation of 11 U.S.C. §525(a). By a separate final judgment, the court will grant plaintiff the relief it requests. If defendant’s actions result in Plaintiff not obtaining the $900,000 it requested, Plaintiff may file an adversary proceeding for compensatory and, if appropriate, punitive damages.” Roman Catholic Church of the Archdiocese of Santa Fe v. U.S. Small Business Administration (In re Roman Catholic Church of the Archdiocese Santa Fe), Adv. No. 20-ap-01026, 2020 Bankr. LEXIS 1211 (Bankr. D.N.M. May 1, 2020).

Bankruptcy courts granting similar relief include bankruptcy courts in the Western District of Tennessee [See, e.g., Skefos v. Carranza (In re James Jerry Skefos), Adv. Proc. No. 20-00071, 2020 Bankr. LEXIS 1479 (Bankr. W.D. Tenn June 3, 2020)], and the Middle District of Florida [See, e.g., Gateway Radiology Consultants, P.A. v. Carranza (In re Gateway Radiology Consultants P.A.), 2020 Bankr. LEXIS 1508 (Bankr. M.D. Fla June 8, 2020).

However, other courts have chosen to defer to the SBA’s decision and denied relief to DIPs. On May 14, 2020, the District of Delaware denied a DIP’s motion for temporary restraining order. Nearly a month later, on June 10, 2020, a New York district court judge rejected a pair of Roman Catholic dioceses' challenge, saying the SBA was within its rights to deny them $2.8 million in loans. A Maine bankruptcy court initially found for the DIP on May 1 and granted a temporary restraining order requiring the SBA to hold back funds in the event the debtor was later found eligible for a PPP; however, Judge Michael Fagone reversed course on June 3 and dismissed the debtor’s complaint. Penobscot Valley Hosp. v. Carranza (In re Penobscot Valley Hosp.), 2020 Bankr. LEXIS 1464 (Bankr. D. Me June 3, 2020).

Other DIP’s have successfully moved to dismiss their bankruptcy case in an effort to obtain a PPP loan. See, e.g., In re Capital Restaurant Group, Case No. 19-65910-WLH (Bankr. N.D. Ga. April 28, 2020). Some have even successfully dismissed their bankruptcy case, obtained a PPP loan, and moved to reinstate their bankruptcy case. See e.g., In re Advanced Power Technologies, Case No. 20-13304-PGH (Bankr. S.D. Fla. May 12, 2020).

The Fifth Circuit has now become the first Court of Appeals to weigh in on the issue. Our initial article highlighted the decision by the bankruptcy court in the Hidalgo County EMS case pending in the Southern District of Texas to issue a preliminary injunction restraining the SBA and lenders from conditioning approve of any PPP loan on a debtor not being presently involved in a bankruptcy proceeding. That injunction was appealed directly to the Fifth Circuit. On June 22, 2020, the Fifth Circuit reversed in a short, three-page opinion. The Fifth Circuit did not consider the merits of the injunction, but held that the Small Business Act and prior precedent of the Fifth Circuit prohibit injunctive relief against the SBA, stating “The issue at hand is not the validity or wisdom of the PPP regulations and related statutes, but the ability of a court to enjoin the Administrator. Because, under well-established Fifth Circuit law, the bankruptcy court exceeded its authority when it issued an injunction against the SBA Administrator, we VACATE its preliminary injunction.” Carranza v. Hidalgo County Emergency Service Foundation (In re Hidalgo County Emergency Service Foundation), No. 20-40368 (5th Cir. June 22, 2020).

There is still PPP loan money left unallocated for small businesses, but at least in the Fifth Circuit the window for DIPs to obtain PPPs by enjoining the enforcement of the SBA’s Interim Final Rule has been closed.

The Workouts & Restructuring Group at KMK Law is here to provide you with advice and guidance in connection with these and other issues. Please contact a KMK attorney for assistance, including those listed below.

Robert G. Sanker
513.579.6587
rsanker@kmklaw.com 

Stephanie M. Scott
513.579.6582
sscott@kmklaw.com 

Jason V. Stitt
513.639.3964
jstitt@kmklaw.com 

Joseph E. Lehnert
513.639.3929
jlehnert@kmklaw.com 

KMK Law articles and blog posts are intended to bring attention to developments in the law and are not intended as legal advice for any particular client or any particular situation. The laws/regulations and interpretations thereof are evolving and subject to change. Although we will attempt to update articles/blog posts for material changes, the article/post may not reflect changes in laws/regulations or guidance issued after the date the article/post was published. Please consult with counsel of your choice regarding any specific questions you may have.

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