If a borrower is experiencing difficulties making payments on their SBA loan, they may seek relief with the lender or CDC by requesting a loan modification or deferment. When a lender or CDC receives such a request from a borrower, the lender or CDC must be cognizant of the requirements of granting a modification or deferment, and recognize when the loan should be classified in liquidation instead.
What is a Loan Modification?
A loan modification is any change to the original loan documents, including changes in interest rates, repayment terms, or maturity date. If a borrower is struggling to make their loan payments because of a long-term, systemic issue, a loan modification may ensure payments continue and prevent the loan from being classified in liquidation. Borrowers can request, for example, the following loan modification(s):
- Temporary/ permanent reduction of interest;
- Payment deferment(s);
- Change from a revolving loan to a non-revolving loan;
- Extension in the maturity date to reduce payments;
- Increase in loan amount;
- Temporary reduction of payments; and
- Re-amortization of loan payments. SOP 50 57 2; SOP 50 55.
When considering a loan modification, 7(a) lenders and CDC’s must review and analyze the borrower’s written request and supporting documentation, and act in accordance with prudent lending practices. Borrowers must submit current financial statements, federal income tax returns for the last two years, and any additional supporting documents necessary. Generally, terms of a loan will not be modified unless there has been a material change in the borrower’s circumstances since the loan was made. When reviewing a loan modification request, lenders and CDC’s must:
- Analyze the borrower’s financial documents and determine whether the borrower will be able to repay the loan if the modification request is approved;
- If the request impacts the collateral, analyze the recoverable value;
- Review the loan documents to ensure that the servicing request is consistent with the borrower’s previous representations, and ascertain whether there are any non-monetary defaults, collateral deficiencies, or problems with the loan document that need correction;
- List conditions for approval;
- Comply with applicable SBA loan program requirements, including any SBA pre-approval requirements and E-Tran updates pursuant to the 7(a) Lender Matrix; and
- Note the response to the servicing request in the computer tracking system or loan file. SOP 50 57 2; SOP 50 55.
7(a) Loan Modifications
Generally, if a 7(a) loan was sold on the secondary market, changes to the repayment terms of the loan cannot be changed unless the guaranteed portion of the loan has been purchased by the SBA or the secondary market investor has provided written consent. Lenders have unilateral authority, however, to issue a one-time deferment that does not exceed a continuous period of three (3) monthly installments. If the borrower’s ability to repay the loan—without a modification—is at stake, and the secondary market investor does not provide consent to restructuring the repayment terms of the loan, the lender may request authority from the SBA to repurchase the loan by submitting a written request to the SBA, with the following documentation:
- Current financial statements of the borrower;
- Written evidence that the secondary market investor did not provided consent to restructuring the terms of the loan, such as:
- A written decline from the investor to the lender’s specific request;
- A written statement from the FTA indicating that the investor failed to respond within 30 calendar days; or
- A written statement from the FTA that the guaranteed interest is part of a pool;
- A statement that the proposed change in repayment terms is solely for the benefit of the borrower; and
- A certification by the lender that it will make the requested change if SBA approves the repurchase of the loan. See SOP 50 57 2.
If the loan is held in a secondary market pool, rather than by an individual investor, modifications may be approved so long as the interest rate is not changed.
504 Loan Modifications
Generally, the terms of a 504 loan cannot be modified until the SBA purchases the debenture, unless the modification involves a deferment. For example, before the SBA purchases the debenture, the following terms cannot be modified: payment due date, installment amount (unless it involves a deferment), interest rate, and maturity date. However, after the debenture has been purchased, the payment due date, installment amount, and interest rate may be modified to facilitate a workout. The maturity date may also be extended up to 10 years beyond the original maturity date. The loan amount, however, may be increased before and after the debenture has been purchased. See SOP 50 55.
What is a Loan Deferment?
A loan deferment provides temporary relief to borrowers suffering temporary cash flow problems by deferring payments for a short period of time. A loan deferment can help a borrower improve its cash flow and resume making regular payments on its SBA loan after a stated period of time, without classifying the loan in liquidation. 7(a) lenders and CDC’s have unilateral authority to provide temporary relief by deferring payments to existing borrowers under certain circumstances.
Prior to granting a loan deferment, 7(a) lenders and CDC’s must obtain, review, and analyze several documents to determine whether the borrower’s financial issues are temporary. If the lender determines the issue is permanent or long-term, the borrower cannot receive a loan deferment and the loan will instead be classified in liquidation. 7(a) lenders and CDC’s must review the following documentation when considering a deferment request:
- Current financial statement, including borrower’s assets, liabilities, income, and expenses;
- Borrower’s financial statement from last year-end;
- If the borrower has any affiliates, a current consolidated financial statement;
- A complete copy of the borrower’s (and each affiliate’s) business federal income tax return for the past two years or a written explanation as to why a copy is not available; and
- A complete copy of borrower’s personal federal income tax return that each guarantor filed for the past two years or a written explanation as to why a copy is not available.
If a loan deferment is granted, interest on the SBA loan will continue to accrue during the deferment period. There are several options to deal with the accruing interest, such as:
- The borrower may pay the interest during the deferment period;
- The borrower may pay the interest in a lump sum at the end of the deferment period;
- After the deferment period, the loan payment may be increased for a period of time necessary for the borrower to catch up to the original amortization schedule; or
- When payments resume, the payment may be applied first to accrued interest, then to principal. See SOP 50 57 2.
7(a) Loan Deferments
Lenders may assist qualified borrowers by deferring payments on 7(a) loans, as follows:
- If a 7(a) loan was not sold on the secondary market: lenders may grant a deferment of up to six (6) consecutive months; or
- If a 7(a) loan was sold on the secondary market: lenders may grant a one-time unilateral deferment of up to ninety (90) days without requiring prior investor consent. The lender is required to notify the investor through the Fiscal Transfer Agent of the unilateral deferment and report the affected loan on SBA Form 1502. Additional loan deferments can be made with prior investor consent. SBA Information Notice, Deferments on SBA 7(a) and 504 Business Loans and Microloans.
504 Loan Deferments
CDC’s may assist qualified borrowers by deferring payments on 504 loans for up to six (6) cumulative months or 20% of the original loan amount, whichever is less. The CDC must notify the Central Servicing Agent of any deferment in order to avoid acceleration of the note and the need to purchase the debenture, unless the SBA has purchased the debenture. The CDC should continuously monitor the borrower’s business operations to determine whether an additional loan deferment would be necessary and prudent, or if the loan should be classified in liquidation. If the CDC determines an additional loan deferment is appropriate, the CDC must document a strategy that details a justification for a deferment of more than six (6) months. The CDC must also negotiate a “catch-up” plan with the borrower to repay all deferred payments. The borrower should remit catch-up payments to the CDC to ensure the loan is caught up prior to the maturity date of the loan. SBA Information Notice, Deferments on SBA 7(a) and 504 Business Loans and Microloans; SOP 50 55.
Loan modifications and deferments help ensure the borrower is able to continue making payments on their SBA loan and prevent the loan from being classified in liquidation. Whether a lender or CDC grants a loan modification or deferment depends on whether the borrower’s financial hardship is short-term or long-term, and whether the borrower can continue making payments after the request is granted. If the lender or CDC determines the borrower would not be able to make the payments after the modification or deferment request is granted, the loan must be classified in liquidation instead.
- Brandon C. Meadows, Esquire
- Melissa Murrin, JD Candidate
Continued reading in the series:
- Which Liquidation Actions Require SBA’s Pre-Approval: Part 1 – SBA 7(a) Loan Liquidation
- Which Liquidation Actions Require SBA’s Pre-Approval: Part 2 – SBA 504 Loan Liquidation
- Classifying SBA Loans in Liquidation Status
- How SBA Lenders Ensure Expense Recovery in Loan Liquidation and Litigation
- What Responsibility and Authority do SBA Lenders Have in Servicing and Liquidating Loans?
- SBA Loan Site Visits: How to Prepare and What to Expect
- SBA Loans: How to Maximize Recovery by Liquidating Real Property