The recent interest rate increase has triggered concern among some SBA lenders regarding the impact that future additional interest rate increases could have on borrowers’ ability to continue making their SBA 7(a) loan payments for loans with interest rates based on the Prime Rate. When a borrower starts experiencing cash flow challenges, one of the first options utilized by SBA lenders may be a short-term payment deferment.
Pursuant to SOP 50 57 4, a deferment is a temporary solution to a temporary problem. When used appropriately, i.e., when a borrower is experiencing a temporary cash flow problem, a deferment can enable the borrower to improve its cash flow so that it can resume payments on its loan. That said, a deferment should not be used when a borrower’s cash flow problems are permanent.
If the borrower’s cash flow problem is temporary, lenders may defer (i.e., postpone without accelerating the Note or transferring the loan into liquidation status) any delinquent payments, as well as full or partial future monthly payments for a 7(a) loan, for a stated period of time. Generally, interest will continue to accrue during the deferment period.
When structuring the deferment, lenders must keep in mind that the allowable deferment terms will depend on whether the loan has been sold on the secondary market. As set forth in SOP 50 57 4:
- For 7(a) loans that lenders have not sold in the secondary market, lenders may grant payment deferments of up to six consecutive months. Generally, deferments should not exceed six cumulative monthly payments, or 20 percent of the original Loan amount, whichever is less.
- For 7(a) loans that lenders have sold in the secondary market, lenders may grant only one payment deferment of up to three consecutive months without the prior written consent of the investor. Lenders must immediately notify the FTA and the appropriate SBA Loan Center in writing if they defer any payments for loans sold in the secondary market. Any additional payment deferment requires the prior written consent of the investor. (See Section 3.8 of Secondary Participation Guaranty Agreement – SBA Form 1086).
During the deferment period, payments are not mandatory, but are preferred and lenders may collect the accrued interest in one of the following ways:
- Lenders may allow borrowers to pay accrued interest during the deferment period;
- Lenders may allow borrowers to pay the accrued interest in a lump sum at the end of the deferment period;
- After the deferment period, lenders may increase the loan payments for a period of time to allow the borrower to catch up to the original amortization schedule;
- If a lender allows the borrower to resume making the same pre-deferment regular payments after the deferment period ends, the lender must apply the payments to accrued interest first and then to principal, and extend the original loan maturity date for up to 10 years to ensure the orderly repayment of the loan;
- Lenders may not capitalize or add accrued interest to the principal balance of the loan.
In addition to the deferment requirements set forth in SOP 50 57 4, lenders must also comply with the requirements set forth in Secondary Participation Guaranty Agreement – SBA Form 1086 which requires the lender to immediately notify FTA and the SBA Servicing Office in writing of any deferment. The notification will include:
- The SBA Loan Number;
- The borrower’s name;
- The terms of such deferment;
- The date borrower is to resume payment; and
- Reconfirmation of the basis of interest calculation (e.g. 30/360 or Actual Days/365).
Finally, it is important for a deferment to be properly documented in the same manner as any other substantive loan modification. The deferment agreement should reflect the pertinent terms and conditions of the deferment (including the duration and required payments, if any), as well as the post-deferment repayment terms (such as payment amounts, order of application of payments, extension of maturity (if any) and reamortization of the loan.