Bankrupt Debtor Trumps SBA in Arizona District PPP Loan Dispute
The Paycheck Protection Program (“PPP”) was a forgivable loan program administered by the US Small Business Administration (“SBA”) that was created under the Coronavirus Aid, Relief, and Economic Security Act (“CARES Act”). “) in March. 2020. The PPP ended on May 31, 2021. Since the passage of the CARES Act, litigation has ensued over whether bankrupt companies are eligible to receive PPP loans.
The SBA has issued several interim final rules outlining key arrangements for the implementation of the PPP. One of these provisional final rules released on April 20, 2020, the fourth provisional rule, provided that debtors in active bankruptcy proceedings were not eligible to receive PPP loans. Although the original CARES Act was silent on the debtor’s eligibility for PPP loans, the fourth interim final rule specifically provided, among other things, that if a PPP loan applicant (or business owner) is the debtor in a proceeding. bankruptcy either when submitting the application or at any time before the loan is disbursed – he is not eligible to receive a PPP loan.
Many bankrupt debtors have sued the SBA for its decision to exclude debtors from the PPP. The debtors’ objections revolved around two main arguments. First, the debtors argued that the bankruptcy-specific exclusion from the PPP violates Article 525 of the Bankruptcy Code, an article of the Bankruptcy Code which generally protects bankrupt entities from laws that discriminate against bankrupt entities. Second, the debtors argued that the SBA’s general ban on lending PPP funds to debtors is arbitrary and capricious, and therefore unenforceable under the Administrative Procedures Act.
In this context, on September 9, 2021, the United States District Court for the District of Arizona rendered judgment in favor of PCT International Inc. (“PCT”), a debtor in pending bankruptcy proceedings. who got a PPP loan while in bankruptcy. . See Carranza v. PCT International Inc., No. CV-20-01307-PHX-DJH, 2021 WL 4060551. PCT brought an action against the SBA in its bankruptcy proceedings, seeking a ruling that the SBA wrongly denied PCT a PPP loan because PCT was bankrupt. The bankruptcy court agreed and found that the SBA had arbitrarily and capriciously overstepped its authority by enacting the fourth interim rule which prohibited debtors from obtaining PPP loans. The SBA orally requested that the bankruptcy court stay the decision, but did not subsequently file a stay motion with the appeals court or bankruptcy court. The SBA subsequently appealed the bankruptcy court ruling. In response, PCT filed a motion to dismiss the appeal, arguing that the appeal was moot because the SBA failed to protect its rights by requesting a stay as required by applicable bankruptcy rules, and because that the PPP loan funds had been spent by PCT.
The appellate court applied a four-factor test to determine whether the appeal is fairly moot. The first factor – that a stay was requested by the SBA – weighed in favor of a finding of equitable non-compliance because the SBA failed to obtain a stay from the district court or to file a petition in suspension with the bankruptcy court. The second factor – that there had been substantial execution of the court order – also weighed in favor of finding a notion of fairness, as the PPP loan had been fully funded and the funds had been disbursed by PCT. . The third factor – the effect that any remedy may have on third parties – also weighed in favor of a finding of fair non-compliance, as it would be impractical to unwind payments made to third parties with the proceeds of the PPP loan. The fourth factor – the bankruptcy court’s readiness to shape effective and fair relief – was neutral because PCT was unable to establish that the bankruptcy court would be unable to fashion effective and fair relief. In total, the appellate court found that three of the four factors weighed in favor of a finding of just non-compliance and determined that a finding of just non-compliance was warranted. Therefore, the court did not reach the merits of the appeal.
Since the PPP ended on May 31, 2021, we may never have the finality in the Ninth Circuit whether the SBA’s decision to prohibit debtors from obtaining PPP loans was arbitrary and capricious, or in violation of the Bankruptcy Code. However, the only two appellate courts that have ruled on this issue (the Fifth and Eleventh Circuit) upheld the bankruptcy restriction in favor of the SBA and found that the SBA had not overstepped its authority in refusing to ” grant PPP loans to debtors.