PPP: for billions in fees should banks have some skin in the game?

Banks have generated more than $18 billion in fees for administering the Paycheck Protection Program (PPP), a Small Business Administration (SBA) lending program designed to help “businesses keep their workforce employed during the Coronavirus (COVID-19) crisis,” according to a new data analysis by McClatchy and the Miami Herald. New York Times estimated that the fees might be as high as $20.9 billion.

Source: McClatchy

$18 billion in fees is “a tidy profit for zero-risk lending.” The lenders receive full compensation from the U.S. Treasury not only for the forgiven portion of the loan, but also for any unpaid portion of the loan. For their minimal role of receiving the application paperwork and confirming that receipts fall into eligible spending categories, without a requirement to independently verify the borrower’s information, the lenders collect a fee of 1% to 5% of the loan value. This is the same percentage that they normally charge as an origination fee for a regular business loan.  The government paid banks a sliding fee of 5% on loans under $350,000, 3% on loans between $350,000 and $2 million, and 1% on loans above $2 million. Researchers at the University of Massachusetts-Amherst argued that the banks’ cut could have been much lower.

There’s not much incentive to do oversight,” a bank insider told Project on Government Oversight (POGO). “The incentives are to just get the money out and that’s what we did.”

Lenders might have to forfeit fees if the SBA later determines that a borrower should not have received a loan, but the likelihood of that is very low. While the SBA has said it will audit all PPP loans above $2 million, they account only for 0.6% of all loans. “The banks were kind of absolved of any responsibility. I think the banks were almost like a pass-through to the SBA. Here’s the steps that you take and we’re not going to take any action against you,” said Jeffrey Scheer, an attorney for small and mid-sized businesses, to the Miami Herald. “I think the banks are pretty much operating on the basis of as long as they acted in good faith, they’ll be okay.”

According to the Government Accountability Office (GAO), one factor enabling potential fraud is that the “SBA required minimal loan underwriting from lenders—limited to actions such as confirming receipt of borrower certifications and supporting payroll documentation—leaving the program more susceptible to fraudulent applications.” The agency did so to simplify small businesses’ access to loans, yet that empowered fraudsters seeking easy money.

Banks fully rely on borrowers’ self-certification. While a simple step, such as an independent verification of tax returns, could have prevented more than 60 percent of fraud cases. POGO’s review of the first 56 fraud cases brought by the Department of Justice shows that in over two-thirds of the cases, the alleged scheme involved falsified tax records. SBA did not require lenders to verify tax information; it didn’t even require applicants to fill out a form authorizing the lender to verify tax return information (as required, for example, by SBA’s Economic Injury Disaster Loan program) or provide tax return information for the prior two years (as required by SBA’s 7(a) loan program for small businesses).

The design of the PPP program creates wrong incentives for the banks. “There’s huge moral hazard,” POGO reports. “All the lenders are getting a percentage of the processing fee for each loan approved, and the government is backing the loans.” PPP was also criticized for structural inequities built-in to the administration of the program and the fee structure. Since business owned by people of color are likely to have fewer employees and less revenue than white-owned businesses, they were less likely to qualify for larger loans that would yield the higher fees that would make them a priority for lenders. GAO recommended that “SBA develop and implement plans to identify and respond to risks in PPP to ensure program integrity, achieve program effectiveness, and address potential fraud.”

The lending institutions are certainly aware of a potential “boomerang effect six months down the road on banks that they didn’t do enough.” There is currently an ongoing lobbying effort to push for an automatic forgiveness for smaller PPP loans under $150,000 that would protect lenders from any responsibility for fraudulent loans. For example, Cross River Bank’s lobbying disclosures note that the proposed legislation it is supporting “prohibits any enforcement or other action against a lender relating to loan origination, forgiveness, or guarantee based on the lender’s reliance on certifications or documentation submitted by a loan applicant or recipient.”

To avoid the negative perception of banks and SBA wanting to conceal the massive misdirection of taxpayer-backed loans, the agency should increase the due diligence requirements for banks processing PPP loans and hold them accountable for not ensuring proper verification of borrowers’ background. SBA should also fully disclose the identities of recipients of 87 percent of PPP loans to allow for public oversight and evaluation of these loans.