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SBA Hot Topic Tuesday — Inspector General Denys $850,000 SBA 7(a) Guaranty

SBA Hot Topic Tuesday — Inspector General Denys $850,000 SBA 7(a) Guaranty

By Bob Coleman
Editor, SBA Hot Topic Tuesday

A $1.6 million SBA 7(a) approved by Newtek Small Business Finance was audited by the Inspector General and the guaranty was denied.

Under it’s high-dollar/early-default review program — loans over $500,000 defaulting within 18 months — the OIG reviews if the lender has acted “prudently” with no material deficiencies that “warrant recovering guaranteed payments made to lenders.”

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The OIG says Newtek’s “material deficiencies” will cost the lender $850,791.

Debt Refinance

“The majority of proceeds from the $1.6 million SBA loan refinanced a $1 million loan from Associated Mortgage Investors. The loan from AMI was disbursed on April 29, 2013, only five months prior to the SBA loan approval.

“SBA procedures state that loan proceeds may not be used to refinance debt originally used for a loan purpose that would have been ineligible for SBA financing at the time it was incurred.

“Additionally, SBA requires the lender to prepare and maintain in the loan file a written analysis of why the debt was incurred along with supporting documentation. Further, the SBA loan authorization states that the loan must be made for a sound business purpose and must benefit the small business.

“We confirmed that the lender did not perform adequate due diligence to verify the original use of proceeds for the AMI loan

“Consequently, the majority of the loan proceeds did not benefit the borrower. The lender’s analysis stated that the AMI loan was used to purchase real estate. However, documentation in the lender’s loan file supporting the debt to be refinanced only included a payoff statement from AMI and a copy of the original note.

“Neither of these documents supported that the original debt was used to purchase real estate.

“Further, we noted that the fixed assets on the borrower’s May 31, 2013 balance sheet, which would indicate the purchase of any new real estate, had remained unchanged since December 31, 2012. In addition, we obtained documentation outside of the lender’s file that showed the majority of the AMI loan proceeds did not benefit the borrower. Specifically, $890,380 of the $1 million AMI loan purchased certificates of deposit and paid off delinquent property taxes for the owners of the borrower.

Borrower Benefit

“Only $20,123 directly benefited the borrower. (See Table 1.)

Affiliation and Size Standard Issues

“The lender also did not reasonably assure that the borrower had repayment ability and met SBA size standards.

“As defined by SBA regulations, affiliation exists when either one individual or entity controls or has the power to control another or a third party or parties controls or has the power to control both.

“The SOP also requires the lender to retain affiliate and subsidiary financial statements in its loan file.

“As previously noted, a managing member owned 60 percent of the borrowing entity, and a real estate investment company owned the remaining 40 percent.

“The borrower’s managing member disclosed on the SBA Form 4, Application for Business Loan, that the business or its owners owned or had a controlling interest in other businesses.

“However, there was no evidence in the lender’s loan file that the borrower provided a full list of affiliated businesses, their relationship with the borrower, and all financial data.

“Instead, to identify business affiliates, the lender relied on a letter from the borrower’s CPA and the tax returns of the borrower’s owners.

“While the CPA’s letter and tax returns included seven affiliated LLCs, we found evidence that suggested the managing member was affiliated with and may have had ownership interests in at least 18 other businesses.

“We confirmed his affiliation with at least seven other businesses not considered by the lender.

“Based on this evidence, the lender did not adequately assess the impact that the borrower’s other affiliated businesses would have had on the repayment ability and size of the borrower.

Read the OIG Report 16-19

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