The CARES Act for Franchisors

This past week was filled with news stories about Congress debating and eventually passing the Coronavirus Aid, Relief, and Economic Security Act (“CARES”).  The details emerging through the news this past week changed daily, which left small business owners somewhat influx.  The bill passed on Friday and the final details are now known (for the most part). 

Franchisors should be taking the lead to inform and support their franchisees through some of the help that this bill offers.  This article will walk through three key areas where support may be available for your franchisees.  It may be helpful to read the actual text of the bill in some cases, which can be found at this link.

The three parts of the bill that will be potentially important to your franchisees are the Payroll Protection Program, the effect on payroll taxes, and the potential impact on any SBA 7(a) loans.  I will briefly touch on a couple of smaller points that may also affect your franchisees, as well as a few developments outside of the CARES act that you should be aware of. 

Payroll Protection Program

Who is eligible?

Employers with less than 500 employees are eligible.  There was some question about franchise systems that had a total of more than 500 employees that would be classified as affiliates.  However, this concern was put to rest as the CARES Act has a specific provision that exempts franchise systems from having to group employees. 

Some franchisees may operate as a sole proprietorship, self-employed, or as an independent contractor.  These individuals are also be covered under the CARES act.

How much would an eligible applicant be able to receive?

This is a particular issue where franchisees may need some guidance.  In general, the maximum loan amount is the lesser of the average total monthly payments for payroll costs incurred during the one year before the date on which the loan is made multiplied by 2.5 or $10,000,000.  For most of us, the $10,000,000 is not relevant. 

If an otherwise eligible applicant was not in business during a period beginning February 15, 2019 and ending on June 30, 2019, the payroll period they would look at would then be January 1, 2020 through February 29, 2020.

So what costs are eligible payroll costs?  I copied this section straight from the CARES Act language from Congress.gov:

A few important notes.  First, it would appear that state unemployment taxes paid as well as any other local taxes paid (for instance, the City of Denver has an Employer Occupational Tax) would be able to be included in this definition of payroll costs.  Second, while most small business owners likely do not have a health plan, any accident plan (such as Aflac) or dental plan would be able to be included as well. This is important because an applicant will want total payroll costs to be as high as possible, so they don’t want to omit anything erroneously.

Another note is that if individual employees are making over $100,000, the amount of salary that can be included in this calculation is capped at $100,000. There are a few other provisions for employees working outside the U.S. that I will not discuss, but should be reviewed if relevant.

Lastly, one more important note for most business owners.  Many don’t pay themselves or pay themselves a low salary.   The sum of payments of any compensation to or income of a sole proprietor or independent contractor that is a wage, commission, income, net earnings from self-employment, or similar compensation and that is in an amount that is not more than $100,000 in 1 year, as prorated for the covered period can be included.  In other words, if a business reported or will report earnings that are subject to self-employment tax, that would be allowed to be included in payroll costs.  This is one area where additional guidance will most likely be provided.

What can loan proceeds be used for?

There are defined uses in which proceeds under this program can be used.  Again, here is the language straight from the bill-

What is the term and interest rate of the loan?

The loans made under this program have a maximum term of 10 years from the date on which the borrower applies for forgiveness (more on this later).  The interest rate will not exceed 4%.  There is also deferment on any loan repayment for 6-12 months.  Lastly, there is a waiver for any prepayment penalty on the loan.

What are the personal guarantee requirements?

Most small businesses are used to having to guarantee any debt for their business personally.  The good news is no personal guarantee is required, and there is no collateral needed for the loan.

How does the loan get forgiven?

This is probably the best news for small business owners and franchisees.  There is a path for complete forgiveness of the loan.   The mechanics of how this will work have not been released.  However, the calculation and formula have been detailed for the most part. 

In general, if a franchisee or small business owner employs the same number of full-time equivalent employees (FTEE) during an 8-week period subsequent receiving the loan as they did previously, the loan can be 100% forgiven. Let’s dive into this a little more.  

The first step is to calculate the denominator (the number below the line in a fraction).  This would be the number of FTEEs per month employed beginning on February 15, 2019 through June 30, 2019.  There is an alternative measuring period of January 1, 2020 through February 29, 2020.   One question where more guidance is required is how to calculate a FTEE.  Under the Affordable Care Act, a FTEE formula was given.  I only bring this up because, as of this moment, this is the only FTEE formula that has been released recently.  This is an area where guidance is still needed.

The numerator for this equation is the number of FTEEs that are paid at least 75% of their regular wage during the eight weeks subsequent receipt of the loan.  As such, if an employee made $20 per hour, their wage could be reduced to $15.00 without penalty. 

This calculation is essential.  My best guess at this point is that banks will be able to provide additional guidance and assistance.  If not, franchisors should be helping franchisees determine how many employees must be paid to achieve maximum forgiveness (hint: you’ll need a spreadsheet).  In some instances, there could be a benefit to coming up with a plan that does not achieve full forgiveness of the loan.

What If a franchisee already laid-off employees?

Simple, hire them back.  There is an exemption that allows franchisees and small business owners to hire back any employees that were laid off since February 15, 2020.  If an individual employee has obtained new employment, hire another employee.  Based on the language in the bill, it does not designate that the employees paid in the 8-week period described above must be the same employees before that period.  I would expect some clarification to prevent potential issues that this may create.

What is the timing of these loans and how does someone apply for them?

The loans will be administered through financial institutions already qualified to work with the SBA.  In other words, if a bank is already working with the SBA, they are qualified to give loans under this program. Currently, there are more than 700 financial institutions in the US that have SBA programs. 

The timing is a little more in question.  Since the bill waived any personal guarantee or collateral requirement as well as the loans are fully backed by the government, the underwriting process is significantly shortened.  Inc. magazine hosted a national town hall on Friday where Neil Bradley, who is the executive VP of the U.S. Chamber of Commerce, said he believed business owners could expect the loans to be available within two weeks. Asked if he thought one week was possible, he replied: “I would bet that if we were doing this call next week, we would be talking to folks who have already applied for the loans and were in the process of receiving it.” 

I emailed my banker this morning (Sunday morning) and he said that as of now they have received “zero guidance” despite what is being reported in the press as of now. While this isn’t completely unexpected since the bill just passed Friday, I think it is reasonable to think that loans won’t start getting funded for at least two business weeks. As of now, this is the best information we can go on.

The entire provision in the bill related to the Payroll Protection Program spans about ten pages.  What has been summarized above will suffice for 95% of situations.  However, there are small details that may be relevant, not described above (such as multiple locations with more than 500 employees total and foreign workers).

Payroll Taxes

The bill passed has an impact on payroll taxes in two different ways. 

Employers ordinarily have to pay individual employment taxes—known as the Federal Insurance Contributions Act (FICA) taxes—for their employees. The employer is responsible for paying its share of social security taxes (6.2%) and Medicare taxes (1.45%) for each employee’s covered wages.

The CARES Act will allow employers (and self-employed individuals) to defer paying their portion of the social security payroll tax (6.2 percent) otherwise due. Deferments on payroll taxes go through December 31, 2020. The amounts will ultimately have to be paid over in two installments. Half of the deferred cost of payroll taxes from 2020 will be due December 31, 2021, with the remaining half due December 31, 2022.

However, employers who received Small Business Act loans that were forgiven under the CARES Act  are not eligible for this payroll tax deferral.

The other significant payroll tax item is a possible retention payroll tax credit for franchisees and small businesses.  Any employer whose business was fully or partially suspended in 2020 due to government orders associated with COVID-19 or that experienced a significant decline in gross receipts may be eligible to receive a refundable employment tax credit. A significant decrease in gross revenues is generally established when a business’s gross receipts in a calendar quarter in 2020 are less than 50 percent of the gross receipts of the same calendar quarter in 2019.

For purposes of the credit, qualified wages vary depending on whether the employer has more than 100 full-time employees or not. For those with more than 100 full-time employees, qualified wages are those paid to employees when they are not providing services due to the COVID-19 outbreak. For those with 100 or fewer full-time employees, essentially, all wages qualify for the credit. The credit amount is equal to 50 percent of the qualified wages of an employee, but such wages cannot be more than $10,000 per employee.

With this provision, if a franchisee or small business receives an SBA 7(a) loan, they are not eligible for this credit.

For both of these provisions, the franchisee or small business should contact their payroll provider to learn the mechanics of how these credits can be taken.

Impact on SBA 7(a) loans

SBA 7(a) loans are the dominant funding source for small business owners and franchisees.  One of the things I do not see talked about nearly enough in the press is the impact of the bill on SBA 7(a) loans.

First, the Act stated “(3) in addition to the relief provided under this Act, the Administration should encourage lenders to provide payment deferments, when appropriate, and to extend the maturity of covered loans, so as to avoid balloon payments or any requirement for increases in debt payments resulting from deferments provided by lenders during the period of the national emergency declared by the President under the National Emergencies Act”.  In other words, the bill is actively encouraging lenders to tack any deferred payments onto the end of the loan instead of creating one large balloon payment at the end of the loan. 

Here is some additional language straight from the bill –

(c) Principal And Interest Payments.—

(1) IN GENERAL.—The Administrator shall pay the principal, interest, and any associated fees that are owed on a covered loan in a regular servicing status—

(A) with respect to a covered loan made before the date of enactment of this Act and not on deferment, for the 6-month period beginning with the next payment due on the covered loan;

(B) with respect to a covered loan made before the date of enactment of this Act and on deferment, for the 6-month period beginning with the next payment due on the covered loan after the deferment period; and

(C) with respect to a covered loan made during the period beginning on the date of enactment of this Act and ending on the date that is 6 months after such date of enactment, for the 6-month period beginning with the first payment due on the covered loan.

It goes on to state, “Any payment made by the Administrator under paragraph (1) shall be applied to the covered loan such that the borrower is relieved of the obligation to pay that amount.” This could be potentially a game-changing impact for many small business owners and franchisees, however, it is rarely discussed in the main press.  These provisions appear to not only defer payment on 7(a) loans but provide an avenue for the forgiveness of up to 6 monthly payments.  All small business owners and franchisees should discuss this part of the CARES Act and how it impacts any balance due with there bank.  Further, the 7(a) program might provide a path of liquidity to existing owners over the next few months. These loans appear to have the same treatment as existing loans. 

More guidance from the SBA, Treasury, and other sources will be out regarding this, but it is part of the bill that may have a significant impact on owners.

Other Resources

Above, I have detailed only the CARES Act and how it should help small business owners and franchisees.  However, there are also additional resources available. 

There are some additional provisions around handling net operating losses (NOLs) and other tax items that may be relevant.

In case you have not heard, the Internal Revenue Service has delayed both filing and payment deadlines for everyone until July 15.  Most states have also done so.

There are additional lending programs available as well, mainly through the SBA.  Economic Injury Disaster Loans (EIDL) are available for companies within specific areas that have been declared disaster areas.  Traditionally EIDL loans would require a personal lien such as on a home. In this case, personal guarantees have been modified and sometimes eliminated. Small businesses have the opportunity for an immediate advance of $10,000, which, according to the SBA, will be given within three days of a request. The loan doesn’t have to be repaid if it’s used for payroll, even if you get denied for the EIDL loan later on.  These loans are applied for directly from the SBA on their website.  At a minimum, there appears to be a $10,000 grant available.

The SBA Express program features an accelerated turnaround time for SBA review. The SBA will respond to your application within 36 hours.  These loans can be up to $1 million and are applied for from banks.  Lenders and borrowers can negotiate the interest rate, but they may not exceed the SBA maximum.  Lenders are not required to take collateral for loans up to $25,000.

What Should Franchisors Due

A franchisor’s responsibility, first and foremost, should be to educate their franchisees.  Put together an email with options, forward this article, or pick up the phone to talk with franchisees. 

Franchisors should also help their franchisees establish a strategy to determine which of these programs make sense and how to apply for them.  Part of this strategy should be coming up with a communication plan for the franchisee.  That could involve talking with their banker, accountant, and payroll company.  The franchisor should lay out the questions and talking points for each of these discussions.  If possible, the franchisor or their accountant should be helping franchisees compute their Payroll Protection Plan numbers that are needed for qualified assistance and forgiveness.

While the franchisor is not expected to have all of the answers, they are expected to be the project manager that is helping execute the overall strategy.  There still is guidance that is yet to come out that will inevitably impact plans.  As the franchisor, you need to stay on top of the news and strategies to make sure that your franchisees and your system are navigating this crisis as best as possible.

If you have any questions, don’t hesitate to reach out to me at [email protected].