M&A Considerations for Buyers of Targets with PPP Loans

Alerts / August 17, 2020

While the Paycheck Protection Program (PPP), created under the Coronavirus Aid, Relief, and Economic Security (CARES) Act, has provided much-needed relief to small businesses in response to the COVID-19 pandemic in recent months, a buyer contemplating acquiring a target that has received a PPP loan should take time to carefully consider how the target’s PPP loan will affect the transaction in its due diligence, contract negotiation and post-closing stages. Buyers that have claimed or are considering claiming the Employer Retention Tax Credit (ERTC) should be particularly mindful of how a target’s status as a PPP loan recipient may impact access to stimulus measures in the post-closing environment.


During the diligence process, buyers should carefully tailor their diligence requests related to the PPP loan and supporting documentation in order to assess and allocate risks associated with the PPP loan. This is true regardless of the transaction structure or whether the loan will be repaid in connection with closing. PPP borrowers could be subject to criminal or civil liability related to inaccuracies or misrepresentations made in their PPP applications or related certifications. Because of this potential liability, even if the parties decide to repay the PPP loan at closing, a buyer should review any documentation related to the target’s initial loan application, any documents supporting its initial PPP eligibility determination and any related certifications to confirm that the target maintained sufficient documentation to support its initial eligibility under the program, in case of a future audit of the PPP loan.

Similarly, buyers should carefully review the PPP loan documents for any required consents to the transaction by the lender or the SBA in order to preserve potential forgiveness of the PPP loan. If required consents are not obtained, the PPP loan will be in default, which may trigger default remedies of the lender, including default interest rates or accelerated repayment of the loan. A requirement of prior consent to a change of control, change of ownership, change in the nature of the business, assignment of the loan, or an asset sale outside of the ordinary course of business is very common in PPP loan documents. PPP lenders are still developing their consent and forgiveness procedures, and buyers will likely run into various delays and issues in this process. Loan documents will likely provide for lender consent, and SBA loan servicing guidelines provide that any proposed changes in the ownership of a borrower in the first 12 months after final disbursement of an SBA 7(a) loan require prior SBA approval. In addition to their potential effect on mergers and equity purchases, the SBA loan servicing guidelines could also be construed to require SBA consent to asset sales. Buyers should note that there is no SBA guidance on how an M&A transaction impacts PPP loan forgiveness.

During the diligence process, buyers should also review any documentation that will be (or has been) submitted with or used to evaluate a target’s forgiveness application. The Paycheck Protection Program Flexibility Act (PPPFA) extended the covered period that a PPP borrower has to use its PPP funds for covered uses under the program from eight weeks to the earlier of 24 weeks after the date of the PPP loan origination or Dec. 31, 2020. PPP borrowers that received their loan before June 5, 2020, may elect to use either the eight-week or 24-week covered period. Confirming which covered period applies to a certain PPP borrower will help the buyer assess the timeline on which it can expect a forgiveness decision from the SBA and the PPP lender. The borrower may submit its forgiveness application before the end of the period if it meets certain requirements. The SBA has 90 days to approve the loan forgiveness amount, but only after the 60-day period the PPP lender has to approve the forgiveness application. This means that loan forgiveness could take up to 150 days (or longer if there is an investigation into the borrower’s application or certifications) after the borrower’s submission of its forgiveness application at the end of the covered period. Any documentation showing how the target spent the PPP loan proceeds, and whether the target reduced salaries or wages or failed to maintain its pre-loan average number of full-time-equivalent employee positions during the covered period, is also important to the buyer’s assessment of whether a target’s PPP loan forgiveness application will be viable.

Information regarding how a target accounts for expenditures funded by PPP loan proceeds may also be relevant in assessing and allocating tax risk and in making working capital adjustment determinations – the U.S. Treasury and Congress have been at loggerheads regarding the tax deductibility of such expenditures, but absent a legislative fix, the IRS will treat these expenditures as nondeductible. Due diligence inquiries should also seek to ascertain whether the seller or its affiliates (broadly construed and inclusive of joint ventures) have claimed the ERTC, as the ability to claim the ERTC and a PPP loan are mutually exclusive. Accordingly, any discovery of claimed ERTCs within the seller’s broadly defined affiliate group will signify a need for additional scrutiny of the target’s PPP loan since the ERTC, when claimed, often represents the more significant economic stimulus for a group.

Transaction Structure

When deciding whether to structure the transaction as a direct merger, equity purchase or asset purchase, buyers might be inclined to limit potential liability related to a seller’s PPP loan and related applications and certifications by choosing an asset purchase where the seller keeps all cash and other assets and liabilities related to the PPP loan. Such a strategy may be particularly attractive where the buyer or its affiliates intend to claim the ERTC on a post-closing basis. However, an asset purchase strategy could result in neither party receiving the benefit of the PPP loan forgiveness if all other assets, including employees, are transferred to the buyer at closing and the seller has not met the use-of-funds requirements of the PPP loan. The parties also should consider whether the particular structure of the transaction will subject the buyer’s business, the acquired business or both to ongoing restrictions as a result of the PPP loan, including a prohibition on dividends, limits on executive compensation or, as noted above, a potential inability to claim the ERTC. Continued restrictions and potential liabilities are more likely with a direct merger than with an indirect merger, equity or asset purchase by a subsidiary, though buyers should remain mindful that there are nuances associated with each transaction structure.

After deciding which type of transaction structure to use, the parties must then decide whether to pay the PPP loan in connection with closing or to keep it in place. This decision should take into account the likelihood that forgiveness of the loan will survive the transaction. If the buyer is entering into the transaction with an intent to distribute cash out of the seller post-closing, it would be best for the PPP loan to be paid at closing. Ensuring that the PPP loan is paid at closing may also place the buyer and its affiliates in a better position for claiming the ERTC on a post-closing basis, particularly if recently circulated legislative provisions are incorporated into new COVID-19 stimulus legislation.

An alternative to address the uncertainty surrounding PPP loan forgiveness is to delay closing until such forgiveness is obtained. However, as outlined above in the Diligence section of this article, delaying the transaction until PPP loan forgiveness occurs is probably not practical, since final approval of the forgiveness amount can take upward of 150 days from the date the forgiveness application is submitted. If the post-closing business would also qualify for a PPP loan, post-closing loan forgiveness would likely be granted. The parties should consider whether the PPP borrower’s business will continue to operate separately from the buyer’s business, since this factor would make it easier to account for use of the PPP loan proceeds, thus supporting arguments in favor of post-closing loan forgiveness.

Purchase Price Considerations

Assuming that the PPP loan will remain with the acquired business post-closing, the parties next need to assess how to treat the loan in the purchase price calculation and any corresponding adjustments. The parties could treat the PPP loan as (i) ordinary indebtedness that reduces the purchase price; (ii) indebtedness that reduces the purchase price, with a covenant that the buyer will remit any forgiveness amount to the seller after it is obtained; (iii) an escrow amount to be paid when the loan is forgiven, in the amount actually forgiven; (iv) a credit for forgiveness at closing with a post-closing true-up procedure when the forgiveness decision has been finalized by the SBA and the PPP lender; or (v) a separate escrow amount if the loan has been forgiven in full prior to closing, but the buyer has doubts about whether the seller properly qualified for the loan at its initial application or has adequately met forgiveness requirements. These mechanics are meant to address any risk that the PPP loan is not ultimately forgiven and require the seller to bear the risk of non-forgiveness.

Representations and Warranties for Buyers to Request

Assuming the PPP loan will remain in place post-closing, buyers should consider requesting the following representations from the seller in the definitive acquisition agreement:

  1. That in obtaining and applying for the PPP loan, the seller and target satisfied all eligibility and certification requirements at the time of its initial application.
  2. That all PPP-related certifications were and are true, correct and made in good faith.
  3. That the seller and target have complied with all loan programs that the seller and target participate in under the CARES Act (or any similar legislation), including any restrictions on the use of any borrowed funds.
  4. That no directors, officers or other employees of the seller or target have been debarred or otherwise prohibited from engaging in any government contracting activities.
Covenants the Seller May Request

Depending on the transaction structure, the seller may request the following covenants from the buyer in the definitive acquisition agreement in an attempt to maintain PPP loan forgiveness post-closing:

  1. That the buyer will maintain separate legal existence of the PPP borrower entity.
  2. That the buyer will comply, and cause the PPP borrower entity to comply, with applicable terms of the PPP loan program, including any restrictions on equity repurchases and dividends.
  3. That the buyer will file, or cause the PPP borrower entity to file, an application for forgiveness and use commercially reasonable efforts to obtain PPP loan forgiveness.
  4. A prohibition on any action by the buyer or the PPP borrower entity that could reasonably be expected to result in non-forgiveness of the loan or a determination of the borrower’s ineligibility for the PPP loan.

If the buyer or its affiliates intend to claim the ERTC on a post-closing basis, then the buyer should scrutinize the specific covenant language requested and consider prevailing CARES Act (or successive law) guidance prior to committing to that covenant. Under present guidance, significant uncertainty exists regarding whether the acquisition of a PPP loan recipient will taint a buyer and its affiliates in terms of past or future ERTC claims. Because the ERTC, when claimed, represents a considerable economic benefit, one might envisage a scenario where a buyer seeks to preserve ERTC benefits, if viable, and elects to forgo continued entitlement to PPP loan benefits.

Covenants the Buyer Should Request

Buyers should request the following covenants from the seller in the definitive acquisition agreement to minimize any potential post-closing liabilities related to the PPP loan:

  1. That the buyer will control any PPP loan-related audits for the applicable six-year audit period.
  2. That the seller will fully cooperate with any SBA audit or other government investigation or litigation related in any way to the PPP loan, and will ensure sufficient access to its books, records and any individuals who were involved in the application for and the administration of the PPP loan.
Indemnification Considerations

Finally, a buyer purchasing a company that received a PPP loan should carefully consider tailoring the indemnification provisions in the definitive acquisition agreement, regardless of whether the loan will remain in place post-closing, be repaid in connection with closing or be excluded from the transaction and maintained by the seller. Depending on how much risk the buyer thinks is associated with a target’s PPP loan and any related eligibility determinations or certifications made by the target or seller, buyers might include different caps and baskets or consider making PPP loan liability representations fundamental ones. A buyer that thinks these options provide insufficient coverage should request a special indemnity for any potential PPP loan liability.

Authorship Credit: Peter W. Van Euwen III, J. Brian Davis and Leah D. Sibbio

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