One key restriction in the SBA loan programs is that loan proceeds must be used to benefit an active small business. To that end, the SBA has many requirements to ensure that loan proceeds are not used to benefit businesses that are passive in nature. One of those requirements concerns the occupancy of rentable property by the small business. Rentable Property is defined by the SBA as "the total square footage of all buildings or facilities used for business purposes." Occupancy requirements are driven by the use of proceeds and arise when proceeds are used for the purchase of an existing building, the renovation of an existing building, or the construction of a new building. In these situations, the SBA requires certain occupancy standards to be placed in the Loan Authorization ("Authorization") and the Lender must perform adequate due diligence to ensure the Borrower complies with these requirements. The Lender's failure to both include these requirements in the Authorization, and to ensure the Borrower complies could impact the Lender's SBA Guaranty.

            As stated above, the structure of the loan and the use of proceeds determine which occupancy requirement pertains to that loan.  If the loan structure features an Eligible Passive Company ("EPC") using loan proceeds to purchase or renovate an existing property, the Authorization must include language stating that the Borrower is leasing 100% of the Rentable Property to the Operating Company ("OC"). In turn, the OC can then rent up to 49% of the Rentable Property for business purposes, so long as the loan proceeds were not used to renovate or improve any of the subleased property. There is also an exception which by the OC can rent up to 49% of the Rentable Property to a resident owner or manager to be occupied if the nature of the business demands it.

            If the loan is structured as an EPC/OC loan, and the loan proceeds are used to construct a new building, then 100% of the Rentable Property must be leased to the OC and it must immediately occupy at least 60% of the Rentable Property, and must maintain at least that percentage for the life of the loan. The OC may sublease the remaining percentage, but cannot lease long term more than 20% of that remaining Rental Property. They also must plan to occupy the remaining Rental Property not leased or occupied after three years, and the remainder of it after ten years. Similar to the previous paragraph, the loan proceeds are not to be used to renovate or improve the subleased property beyond what is necessary for the OC's intended future occupancy.

When loan proceeds are used to purchase or renovate an existing building and there is no EPC/OC structure involved, the Borrower must occupy at least 51% of the Rentable Property and although it may sublease up to 49% of the Rentable Property, none of the loan proceeds may be used to renovate or improve the subleased portion of the Rentable Property.   This occupancy provision also allows that 49% of the Rentable Property to be occupied by a resident owner or manager if the nature of the business demands it.

            If the loan proceeds are used to construct a new building and there is no EPC/OC structure involved, the Borrower must occupy at least 60% of the Rentable Property, and must maintain at least that percentage for the life of the loan. The Borrower may sublease the remaining percentage, but cannot lease long term more than 20% of that remaining Rentable Property. The borrower also must plan to occupy the remaining Rentable Property not leased or occupied after three years, and the remainder of it after ten years. Once again, the loan proceeds are not to be used to renovate or improve the subleased property beyond what is necessary for the borrower's intended future occupancy.

            Because the SBA's occupancy requirements are a method by which the SBA ensures that loan proceeds are not used to benefit an ineligible passive business, faithful adherence to the occupancy requirements summarized herein is an important aspect of preserving the SBA guaranty.

            For more information on occupancy requirements in the SBA 7(a) program, please contact Tim at (215) 542-7070 or [email protected]. 

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