In April 1997, the OIG issued Inspection Audit Report 97-04-02, Increasing Lender Liquidation Responsibility in the 7(a) Business Loan Program. This inspection was initiated out of concern that increased loan volume and decreased staffing may diminish SBA’s capability to monitor and perform loan liquidations. The objective of the inspection was to examine the lenders’ role in the liquidation process and explore the potential for increasing their responsibility for liquidating SBA loans.
Under Section 7(a) of the Small Business Act, the Small Business Administration (SBA or the Agency) guarantees loans made by private lenders, i.e., banks and Small Business Lending Companies (SBLCs), to small business borrowers who cannot obtain credit elsewhere on reasonable terms and conditions. The 7(a) program has increased dramatically in recent years. Specifically, the number of 7(a) loans approved each year more than tripled between FY 1990 and FY 1996, from 10,848 to 45,845. However, during the same period, the number of SBA employees decreased from 4,120 to 3,054. The increase in workload —combined with the decrease in staff— strained an already overburdened SBA liquidation workforce. Even if default rates for the Agency remain unchanged, the number of loan liquidations can be expected to rise because of the increase in the number of guaranteed loans.
The OIG examined the lenders’ role in the liquidation process and compiled the arguments for and against increasing lender liquidation responsibility. The OIG also performed an extensive review of the current legislation, regulations, and Standard Operating Procedures (SOPs) governing the liquidation process. The team conducted interviews with SBA officials at 11 district offices and, with the assistance of Agency officials, identified 17 SBA lenders for the sample. The lenders varied by size, geographic location, small business lending focus, and type (bank or SBLC). The OIG then obtained their views on the respective roles of the Agency and lenders in the liquidation process.
Generally, a loan is transferred to liquidation status when it becomes apparent that the borrower cannot repay or if insolvency proceedings have been initiated. Once a lender has asked the SBA to honor its guaranty, it is the Agency’s policy to have the lender service and liquidate the loan. If the SBA chooses to handle these responsibilities itself, the lender must assign the loan to the Agency. Lenders participating in the Preferred Lenders (PLP), LowDoc, and FA$TRAK programs are required to liquidate all of their 7(a) loans with minimal involvement by the SBA. The liquidation activity of lenders in the Certified Lenders Program (CLP) and general loan program is monitored more closely by the SBA.
Based on the information gathered during the inspection, the OIG determined the following:
- Existing Controls in the Liquidation Process Should Adequately Protect the Interests of the Government, If Consistently and Effectively Applied.
The SBA has in place a number of regulations, SOPs, and other controls that encourage lenders to obtain maximum recoveries or allow the SBA to take action against lenders for negligent liquidation actions. Controls include the requirement of a lender liquidation plan, a reduced guarantee percentage on 7(a) loans as an incentive for recoveries, the ability to deny or repair SBA’s guarantee liability, special requirements for participation in the certified and preferred lender programs, and laws outlined in the Uniform Commercial Code governing the sale of some collateral. The lenders in the OIG sample believed that these measures provide appropriate incentives and disincentives to effectively safeguard SBA’s interests when objectively and uniformly applied.
- The SBA Currently Does Not Take Full Advantage of Lender Liquidation Capabilities .
The OIG believes that the SBA should no longer be involved in a step-by-step transactional liquidation role for PLPs and CLPs, especially in light of the Agency’s reduced resources. Instead, it needs to commit its resources to effective monitoring of their activities. This approach would make more efficient use of SBA resources while also alleviating the pressure from Congress and lender associations to give more authority to lenders to liquidate their SBA loans.
At the district level, two perspectives existed with regard to how much responsibility lenders should be given to liquidate loans. Inconsistencies among district offices often confused and frustrated lenders seeking guidance on liquidation policies and procedures. The OIG recommended that the Associate Administrator for Financial Assistance:
1. Develop policies to refocus SBA’s efforts away from direct involvement in liquidation activities and toward improved monitoring of PLP and CLP performance.
2. Use the new decision-making authority given to PLPs and CLPs to conduct a test of a “hands-off” liquidation policy.
3. Create a reliable method for collecting data to measure individual lender liquidation performance.