September 11, 2018

By Bob Coleman
Editor, SBA Hot Topic Tuesday

SBA Hot Topic Tuesday — OIG Says Lender to Lose Guaranty for Failing to Correctly Underwrite Projections

A lender who received a check from the SBA for a SBA 7(a) guaranty in the amount of $552,406 should pay it back says the Inspector General.

The OIG pulled the loan for review as it fell into two buckets — early default (only 16 payments made) and a purchase amount over $500,000.

The OIG concluded the lender did not prove repayment ability.

The purpose of the loan was to finance the start-up of a second franchise for the borrower. Proceeds were used to finance construction of leasehold improvements, purchase equipment and provide working capital.

The problem is the lender’s repayment analysis. The OIG says the lender based the repayment on one year of “estimated” financial statements from the first franchise, which had only been in operation for 13 months.

Sales for the second location were projected at $1.5 million — however, the existing franchise first year sales were only $1.4 million. Using these projections, the lender calculated a debt service coverage of 1.98 to 1. The OIG says the correct dsc is only 1.03 to 1– by definition any loan with a dsc of less than 1.1.5 to 1 is ineligible for the SBA 7(a) guaranty.

Also problematic for the lender are RMA benchmarks. RMA says gross profit margin for the industry is 61% — the borrower’s projections show 69%.

“The lender indicated efficiencies and increased purchasing power as reasons for outperforming RMA averages however, the lender did not provide any analysis to support those reasons.”

The OIG also cited the following deficiencies:

  • The lender did not document credit elsewhere
  • The lender did not obtain personal financial statements
  • The lender did not obtain an executed franchise agreement

Next week: OIG Report Part II

Read the OIG report here