Small Business Administration SOP 50 10 5(K) Updates: What it Means for Your Risk Management

By now, you have already heard the Small Business Administration (SBA) just released the new SOP 50 10 5(K), which includes (among other minor revisions) a couple of notable updates to the environmental policy and a clarification on risk management for construction components above $350,000. These changes will go into effect April 1, 2019.

The impact of these changes will be to further tighten environmental risk and liabilities associated with construction defaults. In general, these changes shouldn’t have a drastic effect on prices, and in some cases, can even help save funds during the underwriting process.

Environmental Due Diligence Changes

There are two major changes to the SBA SOP that impact environmental investigations. They are as follows:

1. Added guidance that if the Environmental Professional recommends proceeding directly from a Transaction Screen Assessment to a Phase II Environmental Site Assessment, agreed upon by the Lender, the Lender must seek in advance a policy exception from the SBA Environmental Committee. This will be on a case-by-case basis.

This was previously an option – it is now stipulated in writing. This should be reserved and discussed with the client first and full confirmation that absolutely no valuable information can be obtained by a Phase I Environmental Site Assessment.

2. Lead Assessments on all daycare, child care, and/or facilities occupied by children must henceforth be performed following EPA/HUD guidelines. As such, all buildings constructed in 1978 and prior that do not serve the above commercial businesses still apply, as this falls within the HUD lead assessment guidelines. This SOP change mandates that for the above facilities, all taps and possible sources of water be sampled for lead and all painted surfaces assessed for lead contamination. Depending on these results, the due diligence consultant can provide additional guidance and recommendations for further laboratory analysis to satisfy SBA requirements.

Construction Risk Management Changes

For construction components of SBA Loans greater than $350,000, the new SOP (Subpart B, pages 216-217) stipulations remain largely unchanged. Borrowers still must provide evidence that their licensed contractor has furnished a 100% performance bond and labor and materials payment bond from a Treasury-approved corporate surety in the Borrower’s name to mitigate default risk on the project. The SBA will continue to waive this requirement in lieu of construction management services that control the disbursement of the proceeds.

In the new SOP, however, the SBA has clarified this previous position by dictating the necessary engagement of a third-party firm, or an existing internal bank construction management department, to conduct these construction risk management services as long as that firm or department routinely manages construction for similarly-sized, non-SBA commercial loans in a reasonable and prudent manner, including funds control for all disbursements.

For some large lenders who have dedicated funds disbursement and construction risk management departments in-house, this is a great opportunity to consolidate construction oversight while staying SBA-compliant. Smaller or alternative lenders who may not have these dedicated resources should engage with an experienced, knowledgeable risk management firm that has direct portfolio experience working with SBA loans and provides a suite of construction risk management services, including funds control and disbursement. In many cases, these solutions can be more cost-effective and proactive than bonding, while helping to see that project development objectives are met on budget and on schedule.

What This Means for You

Download a full copy of the new SBA SOP 50 10 5(K) policy. Version K becomes effective April 1, 2019, and the new guidance and changes will apply to all applications received by SBA on or after that date. Participants must continue to use SOP 50 10 5(J) for all SBA 7(a) and 504 applications that were submitted through March 31, 2019.

Additional SOP guidance updates are provided to conform to recent changes in SBA regulations and loan program requirements including, the Final Rule on Debt Refinancing in the 504 Loan Program, the addition of a 25-year Debenture in the 504 Loan Program, and revisions to guidance on credit elsewhere, minimum equity requirements for certain 7(a) loans, and the eligibility of marijuana-related and hemp-related businesses issued in SBA Policy Notice 5000-17057.

Remember, the SBA SOP is only a minimum set of guidelines to follow for due diligence and risk management. Each site can have unique risks and liabilities associated with it, and due diligence solutions must be accordingly tailored to meet specific business objectives. Lenders, owners and investors would best be served by engaging the expertise of environmental professionals who are familiar with SBA SOP standards and can also offer a range of due diligence assessments and solutions.