Regulation O and Prior Approval of Paycheck Protection Program Loan

Inquiry/Issue

The Bank has made SBA Paycheck Protection Program loans to companies that are related interests of its directors. The minutes of the Board of Directors indicate that the prior approval of the Board was not obtained before the loans were made. Is this a violation of Regulation O?

Response Summary

Under certain circumstances, Regulation O requires the prior approval of a majority of the Board of Directors before a bank can extend credit to an insider. Whether the prior approval of the Board of Directors is required for an SBA Paycheck Protection Program loan to a related interest of a director depends on whether such a loan is an extension of credit for the purposes of Regulation O. Since SBA Paycheck Protection Program loans are excluded by Regulation O from its definition of an extension of credit, the prior approval of the Board of Directors is not required under the regulation.

Response Detail

Regulation O provides that no bank may extend credit to any insider of the bank or its affiliates in an amount that, when aggregated with the amount of all other extensions of credit to that person and all related interests, exceeds the higher of $25,000 or five percent of the bank’s unimpaired capital and unimpaired surplus, unless the following is true:

• The extension of credit has been approved in advance by a majority of the entire board of directors of that bank
• The interested party has abstained from participating directly or indirectly in the voting.

In no event may a member bank extend credit to any insider of the bank or insider of its affiliates in an amount that, when aggregated with all other extensions of credit to that person, and all related interests of that person, exceeds $500,000, except by complying with the requirements for prior approval. 12 CFR 215.4(b).

The Bank made three SBA Paycheck Protection Program loans in June to companies that are related interests of its directors. The minutes of the Board of Directors indicates that the loans in question were not presented to the Board of Directors and that the prior approval of a majority of the Board was not obtained for the loans. Whether prior approval should have been obtained before the loans were made will depend on, among other things, whether the loans were extensions of credit for the purposes of Regulation O.

Under Regulation O, an “extension of credit” is a making or renewal of any loans, a granting of a line of credit, or an extending of credit in any manner whatsoever. 12 CFR 215.3(a). A “related interest” of a person includes a company controlled by that person. The term “company” includes any corporation. 12 CFR 215.1(b);2(b) & (n)(1).

The regulation exempts certain transactions from the definition of extension of credit, including the following:

• (8) Except for purposes of §215.5 of this part, a loan:
  • (i) In which the participation by the Small Business Administration on a deferred basis is 100 percent pursuant to section 1102(a)(1) of Pub. L. 116-136 (to be codified at 15 U.S.C. 636(a)(2)(F))
  • (ii) That is made during the period beginning on February 15, 2020, and ending on August 8, 2020
  • (iii) That would not be prohibited by paragraph 120.110(o) of Title 13 or rules or interpretations thereof issued by the Small Business Administration

The reference to 15 U.S.C. 636(a)(2)(F) is to the SBA Payroll Protection Program. This section of Regulation O, then, is intended to exclude such loans from the definition of extensions of credit covered by the regulation.

The reference to Section 215.5 is regarding restrictions that pertain to extensions of credit made to executive officers. Such loans are limited $25,000, or 2.5 percent of the bank’s unimpaired capital and surplus, not to exceed $100,000, but subject to exceptions for purposes such as the purchase of a residence or the education of the executive officer’s children. This means that SBA Payroll Protection Program loans made to executive officers would be subject to these restrictions. Such restrictions, however, would not be applicable in this case, since the loans concerned directors of the Bank, not executive officers.

As noted, the prior approval of the board of directors is only required when an extension of credit is made to an insider. Since SBA Payroll Protection Program loans are excluded from the definition of “extension of credit” under Regulation O, it does not matter that the loans in question were made to companies that are related interests of Directors of the Bank.

It should be noted that the Bank’s Insider Lending Policy should also be reviewed to determine whether it requires the prior approval of the Board of Directors for such loans. While Regulation O may not require prior approval in such case, the failure to obtain it may be a policy violation.

This response is for informational purposes only and is not intended for legal guidance.

This entry was posted on Monday, October 5th, 2020 at 9:03 am.