The Paycheck Protection Program (PPP) was created under the Coronavirus Aid, Relief, and Economic Security Act (CARES Act) to help provide relief to small businesses through loans that are forgivable and guaranteed by the Small Business Administration (SBA). Lenders who process PPP loans earn a fee from the SBA upon funding the loan. In addition, PPP loans bear a 1% interest rate.
Since its inception, the program has provided a total of $550B of funding to businesses. The second wave of the PPP loans (PPP2), which was put into place in January 2021, has been equally popular, lending $35B in the first week. As a result, in recent months, these loans have become a material part of bank balance sheets. With changes in the program with each subsequent wave of funding from the SBA, this has raised many questions for lenders on:
- The right processes to track and report on these loans to the SBA and to investors.
- The appropriate accounting for these loans.
- Reserving considerations for these loans.
These questions are compounded by the fact that the guidance for these loans has changed with additional funding in June 2020 and the PPP2 program. Many financial institutions have not had to deal with significant deferred fees in the past and the impact that they have on loan yield.
This post focuses on the first two questions. Part II will focus specifically on the reserving considerations.
The first question that’s arisen around these loans is how they should be classified. The AICP addressed this question in TQA 2130.42, noting that creditors should account for advances made under the PPP and PPP2 programs as interest-bearing loans receivable, and not as facilitated government grants.
Loan tracking requirements have varied throughout the rollout of the program, with requirements evolving as the program continues. Loan systems must be flexible to allow appropriate setup for the variation in these.
For example, the term of SBA loans was initially two years for the first wave and extended to five years for subsequent programs. For another, the application to be filled out and the reporting to SBA changed from the first PPP loans to PPP2 loans. In addition, the calculation of the maximum loan amount for a borrower has changed between the programs and is also dependent on whether the loan is a first or second draw. It is the lender’s responsibility to calculate the correct maximum loan amount and to report that to the SBA.
Additionally, and notably, the processing fee paid to servicers by the SBA varies based on the amount of the loan as originated. As such, business rules will need to be in place to ensure that the lender accurately calculates the appropriate accrual.
Finally, the processing fee paid to the creditor may be subject to clawback by the SBA if any one of the following criteria applies:
- The PPP loan is canceled or voluntarily terminated and repaid after disbursement but before the borrower-certification safe harbor date.
- The PPP loan is canceled, terminated, or repaid after disbursement (and after the borrower-certification safe harbor date) because the SBA reviewed the loan and determined that the borrower was ineligible for the PPP loan.
- The creditor has not fulfilled its obligations under the PPP regulations.
Because calculating the appropriate loan limits, reporting accurately and timely to SBA and managing borrower communication, are the responsibility of the lender, a lender’s system limitations may mean that it can lose the processing fee it would otherwise have earned from the SBA.
Lenders Accounting for PPP Processing Fees and Prepayments
Due to the unique structure of these loans, including:
- Large processing fees
- Low-interest rates
- Government guarantee
The accounting for these loans raises many questions that banks will need to address, complicated by the fact that many institutions do not have experience dealing with fees and the yield calculations required to account for them.
The AICPA has been engaged in responding to questions, providing guidance to lenders to:
- Account for loan processing fees as adjustments to yield over the term of the loan, rather than recognizing it into income at the time of origination.
- Apply prepayments—payments received prior to the maturity date of these loans—at the time that they are received and adjust the yield on a go-forward basis.
But lenders will need to think through the following questions as their portfolios continue to grow and fees become more material. Lenders should look for systems that can appropriately handle some of the complicated accounting associated with these loans, such as:
- Restructuring and yield adjustments because of these modifications.
- Calculating the yield adjustment required after prepayments are received, whether from the borrower or the SBA.
- Processing the volume of transactions and the number of counterparties.
- Accounting for the possibility of clawback and systematically tracking decisions by SBA around clawback that may require accrual adjustments.
- Tracking the various PPP and PPP2 loan processing requirements and ensuring that staff is completely following requirements.
- Ensuring that subsequent draws meet the additional requirements as laid out in the PPP2 program.
These processes are complex and require technical loan accounting that significantly deviates from the operational processing done by servicing systems. Lenders will face having to comply with some of the more technical loan accounting standards.
Having the right processes in place can prevent material misstatements. Ensuring appropriate GAAP-compliant loan accounting systems and allowance processes that provide enough flexibility that lenders can layer in their own accounting policies around things like non-accrual for SBA clawbacks, among others, will become a crucial investment for lenders.
Continue reading with part two of this blog series.
To learn more about how we can help you solve the accounting, reserving and reporting challenges associated with PPP loans, contact us.
Commercial Lending, Regulation, Risk Management