SBA Says Farmers in Chapter 12 Ineligible for PPP Loans

Overview

Economic conditions in agriculture have been difficult for several years.  Added to the down economic cycle that much of agriculture has experienced are the severe hits the economy has taken by actions of state governors reacting to the virus.  Prices for various agricultural commodities are off significantly and Chapter 12 farm bankruptcy filings are up.  One of the measures that the Congress has created to try to provide relief to businesses is the Paycheck Protection Program (PPP).  I have written about the details of that program in other posts, but another aspect of the program that impacts farmers has now come into focus – the issue of whether a farmer in Chapter 12 bankruptcy is eligible for a PPP loan.

Chapter 12 filers and PPP loan eligibility – it’s the topic of today’s post.

Chapter 12

Under 1986 amendments to the Bankruptcy Act of 1978, Congress created Chapter 12 bankruptcy for “family farmers.”  Bankruptcy Judges, United States Trustees, and Family Farmer Bankruptcy Act of 1986, Pub. L. No. 99-554, 100 Stat. 3105 (1986), adding 11 U.S.C. § 1201 et seq.  The Act was scheduled to expire on October 1, 1993 but was extended numerous times before being made a permanent part of the Bankruptcy Code by the Bankruptcy Act of 2005, effective July 1, 2005.  Chapter 12 was designed as a response to the difficulties that farmers (and fishermen) suffered in the 1980s.  Chapter 12 is conceptually and statutorily similar to other reorganization-type bankruptcies, but provides more flexibility in making periodic payments to take into account the seasonal nature of many farming or fishing operations.  Under Chapter 12, the debtor proposes a repayment plan that lasts three to five years.  Chapter 12 is also less expensive and, in many respects, less complex than other forms of reorganization bankruptcy. 

PPP and Applicants in Bankruptcy

On March 27, 2020, the President signed into law the Coronavirus Aid, Relief, and Economic Security (“CARES”) Act, Pub. L. No. 116-136, 134 Stat. 281 (2020).  The CARES Act amended the Small Business Administration’s (SBAs) existing “7a Loan Program” to create the PPP.  The PPP provides loans for eligible small businesses to cover allowed uses including payroll costs, interest on mortgage obligations and rent.  The SBA’s First Interim Rule did not address eligibility of bankrupt debtors for the PPP, but it did require an applicant to fill out a form that required the applicant to certify that the applicant was not “presently involved in bankruptcy.”  However, in the SBA’s Fourth Interim Final Rule, posted to its website on April 24, 2020, the SBA said in a Q and A that a business would not be approved for a PPP loan if the business was in bankruptcy.  The rationale given was that making a PPP loan to an applicant in bankruptcy would be too risky – either via unauthorized use of funds or non-repayment of unforgiven loans. 

Implications for Applicants in Bankruptcy

A bankruptcy court in Wisconsin recently dealt with the issue of PPP loan eligibility for a farmer in Chapter 12 bankruptcy.  In Schuessler v. United States SBA, No. 20-02065-bhl, 2020 Bankr. LEXIS 1347 (E.D. Wisc. May 22, 2020), the debtors, a married couple operating a farm dairy operation, filed Chapter 12 bankruptcy in late 2018.  On the same day, their wholly-owned, limited liability company (LLC) entity that runs the daily farming and dairy operation filed a separate Chapter 12 petition.  The debtors direct the farming operation and own the real estate and improvements.  The cases were jointly administered, and the debtors’ second amended plan was confirmed on May 8, 2019.  The debtors’ income comes primarily from milk sales and from the sale of culled cows.  Due to the present economic crisis exacerbated by state governors, the debtors’ milk sale revenue declined by more than 30 percent.  Since January of 2019, the wholesale price of milk declined from nearly $19.00 to $12.50 per cwt.  In addition, due to slaughterhouse closures, the debtors received much lower than historical prices for their culled cow sales.  The debtors listed a significant mortgage and utility expenses on the bankruptcy schedules and noted that they employ 14 people with an average monthly payroll of $59,835. 

The debtors applied for a Paycheck Protection Program (PPP) loan from the Small Business Administration (SBA) and were rejected because of their pending bankruptcy case.  They otherwise met the requirements of the PPP.  Without the loan, there was no doubt that the debtors would be forced to lay off essential employees and would be potentially driven out of business.  The debtors then filed for Declaratory Judgment, Writ of Mandamus and Injunctive Relief against the SBA.  The bankruptcy court rejected the debtors’ claims and dismissed the complaint. 

The bankruptcy court noted that the SBA’s Fourth Interim Final Rule, Section III (4) specified that a debtor in bankruptcy is not eligible for a PPP loan.  The issue was whether the SBA’s position violated the anti-discrimination provisions contained in 11 U.S.C. §525(a).  Those provisions bar the government from revoking, suspending, or refusing to renew “a license, permit, charter, franchise, or other similar grant” based on a person either being in or having been a debtor in bankruptcy.  The bankruptcy court noted that the U.S. Court of Appeals for the Seventh Circuit (to which any appeal would be made) had not yet ruled on the issue of the scope of 11 U.S.C. §525(a), but that four other Circuit Courts of Appeal had.  Three of those courts took a narrow view of 11 U.S.C. §525(a) and only the U.S. Court of Appeals for the Second Circuit determined that debtors in bankruptcy couldn’t be denied any “property interests” that were essential to the debtor’s “fresh start” in bankruptcy.  Stolz v. Brattleboro Housing Authority, 315 F.3d 80 (2d Cir. 2002). 

The bankruptcy court also agreed with the SBA’s reliance on other courts that had recently held that the denial of PPP eligibility to bankrupt debtors did not violate 11 U.S.C. §525(a) because the PPP funds are distributed via “loans” and are, as a result, outside the scope of the antidiscrimination provisions of 11 U.S.C. §525(a).  See Cosi, Inc. v. SBA, Adv. No. 20-50591 (Bankr. D. Del. Apr. 30, 2020); Trudy’s Texas Star, Inc. v. Carranza, Adv. No. 20-1026 (Bankr. W.D. Tex. May 7, 2020).  In addition, the bankruptcy court noted that in In re Elter, 95 B.R. 618 (Bankr. E.D. Wis. 1989) the refusal to extend a government-guaranteed student loan based on the debtor’s bankruptcy history did not violate 11 U.S.C. §525(a). It was the plain terms of the CARES Act creating the PPP as a subsidized loan guarantee program, the bankruptcy court reasoned, that kept it beyond the anti-discrimination provisions of 11 U.S.C. §525(a) that applied to a “license, charter, franchise, or other similar grant.”  While the underlying statute (15 U.S.C. §636(a)(36)(F)(i)) is silent on whether bankrupt debtors are ineligible for PPP loans, the bankruptcy court noted that there was nothing in the statute that suggested the Congress intended to limit the SBA’s rulemaking or that the Congress provided an exhaustive list of eligibility requirements that the SBA couldn’t supplement via rulemaking.  Thus, the Fourth Interim Final rule was not beyond the SBA’s delegated authority.  In addition, the court held that the Fourth Interim Final Rule did not violate the APA for being arbitrary and capricious.  The bankruptcy court noted that had the Congress intended to bar the SBA from denying loan eligibility to applicants in bankruptcy, it could have done so. 

Conclusion

The Wisconsin bankruptcy court’s conclusion barring Chapter 12 debtors from PPP eligibility is harsh.  It clearly runs counter to the policy objective of Chapter 12 bankruptcy – to keep farming operations in business and servicing their debt after having their debt restructured.  Chapter 12 was enacted based heavily on the recognition that farming is subject to numerous factors that can be beyond the control of the particular farmer.  That’s certainly the case with the economic collapse brought on by the (largely unconstitutional) actions of various state governors.  The bankruptcy court’s decision also runs counter to two other bankruptcy court decisions on the PPP eligibility issue – a bankruptcy court in Texas and one in Vermont.  See Hidalgo County Emergency Service Foundation v. Carranza, Adv. No. 20-2006, 2020 Bankr. LEXIS 1174 (Bankr. S.D. Tex. Apr. 25, 2020); and In re Springfield Hospital, Inc., No. 19-10283, 2020 Bankr. LEXIS 1205 (Bankr. D. Vt. May 4, 2020).   Indeed, the Texas bankruptcy court also noted the lack of collateral requirements to obtain a PPP loan and that the funds need not be repaid if they were used in a qualified manner, illustrating the minimal-to-non-existent risk to a lender of a borrower’s default. 

Congress has been apprised of the SBA’s position and the inconsistent rulings by courts.  Unless the Congress takes action (or the SBA changes its mind), more farming operations will fail than otherwise would.