How SBA Lenders Ensure Expense Recovery in Loan Liquidation and Litigation

Lenders should be cognizant about what expenses are classified by the SBA as recoverable or non-recoverable. The SBA does not pay for non-recoverable expenses, such as any fee or cost incurred that was not necessary, reasonable or customary. In addition, the SBA does not pay for legal expenses for non-routine litigation without the SBA’s prior approval of a Litigation Plan or Amended Litigation Plan. Investing the time and effort upfront to determine what types of expenses a lender can recover from the SBA, what documentation the SBA requires to approve an expense recovery request, and when the lender can submit an expense recovery request, will ensure lenders are able to maximize their liquidation and litigation expense recoveries.

What Expenses are Recoverable

“Recoverable Expenses” are defined as SBA approved, necessary, reasonable, and customary costs incurred to collect and enforce the terms of the Loan Documents, or to preserve or dispose of collateral. Recoverable Expenses can be added to the principal balance of the loan. See SOP 50 51 3. Recoverable Expenses include, for example:

• Searches:
  • C.C. lien searches;
  • Title reports; and
  • Credit and asset search reports on Obligors.
• Appraisals:
  • Post-default Appraisals;
  • Post-default Environmental Investigation Reports; and
  • Site visit reports, including a list of the assets viewed and a specific description.
• Litigation Expenses:
  • Attorneys’ fees; and
  • Costs such as court filing fees, court reporter, and transcription fees.
• Collateral Care and Preservation:
  • Utility bills;
  • Insurance premium payments;
  • Caretaker fees;
  • Repair bills;
  • Real estate and personal property taxes; and
  • Expenses related to non-tax senior liens, including Third Party Loans.

“Non-recoverable Expenses” are defined as the costs associated with liquidation of a loan that cannot be added to the principal balance of the Loan Documents. See SOP 50 51 3. Non-recoverable Expenses include, for example:

• Any fee or cost incurred that was not necessary, reasonable or customary;
• Expenses that are not related to collection of amounts due under the Note or preservation or disposal of the collateral for the loan;
• Overhead costs that should be absorbed as a cost of doing business, e.g., telephone calls, photocopying, meals, mileage, etc.;
• Interest and service fees on expenses incurred after SBA purchased its guaranty;
• Legal expenses incurred in asserting a claim, cross claim, counterclaim, or third-party claim against SBA or in defense of an action brought by SBA against a 7(a) Lender or CDC, unless payment of such fees or costs is otherwise required by federal law;
• Expenses incurred in connection with the performance of liquidation activities that do not require the services of an attorney, unless preauthorized by SBA;
• Expenses related to actions take for the sole benefit of the 7(a) Lender or CDC, as determined by SBA;
• Legal expenses incurred in the defense of, or payment of any settlement or adverse judgment resulting from a suit, counterclaim or other claim by an Obligor or other person seeking damages based on 7(a) Lender’s or CDC’s alleged wrongful action unless SBA expressly directed the 7(a) Lender or CDC to take the alleged wrongful action;
• Expenses incurred by a 7(a) Lender or CDC that failed to liquidate the SBA Loan in accordance with prudent lending practices including those pertaining to promptness; and
• Expenses incurred by a 7(a) Lender or CDC that failed to liquidate the SBA Loan in accordance with Loan Program Requirements, including those pertaining to Liquidation or Litigation Plans.

Legal Expenses

If a lender is seeking approval of legal expenses, the lender must obtain the SBA’s written approval of a litigation plan and budget prior to proceeding with any non-routine litigation. Non-routine litigation includes, for example, any litigation where legal fees are estimated to exceed $10,000. 13 C.F.R. 120.540(c). Failure to obtain the SBA’s approval of a Litigation Plan prior to incurring $10,000 in legal expenses, will jeopardize the lender’s right to reimbursement of those fees. In addition, failure to submit an Amended Litigation Plan if any material changes arise during the course of litigation that was not addressed in the original litigation plan, including an increase in anticipated or actual legal fees by more than 15 percent, will also jeopardize the lender’s right to reimbursement. See SBA Information Notice 5000-1394, effective October 4, 2016.

Reimbursement of all legal expenses must be reviewed and approved by the SBA in writing, even if the estimated legal expenses were approved by the SBA in a Litigation Plan or Amended Litigation Plan. The SBA requires copies of detailed invoices, including the attorney’s name, hourly rate, time spent on each service, detailed description of each service performed or costs incurred, and the date the service was performed. The invoices must clearly identify the law firm and the law firm’s address.

The SBA does not reimburse litigation expenses or legal fees and costs that are not necessary, reasonable, or customary. These include, for example, the following:

• Overhead, including conflict of interest determinations, file set-up, calendaring, secretarial work, and billing;
• Intra-law firm communications and billing by more than one person for the same activity;
• Inter-law firm communications and billing by more than one law firm for the same activity, when the justification for using more than one law firm was not included in a Litigation Plan that was pre-approved by SBA;
• Performance of routine servicing or liquidation duties, such as the preparation of a demand letter, Liquidation Plan, Purchase Package, or a Protective Bid analysis;
• Assertion of a claim, cross claim, counterclaim, or third-party claim against SBA;
• Rectifying lender error(s) that would justify a partial Denial of Liability, Repair, or full Denial of Liability;
• Defense of an action brought by SBA against a Lender;
• Defense of a claim by an Obligor or other person seeking damages based on a Lender’s alleged wrongful action unless SBA expressly directed the Lender to take the alleged wrongful action;
• Services rendered by Lender’s in-house counsel;
• Services pertaining to litigation handled by SBA legal counsel that were not pre-authorized in writing by SBA;
• Travel costs that were not justified and itemized in a Litigation Plan that was pre-approved by SBA;
• Attorney fees and costs that exceed the recovery obtained in affirmative litigation that was undertaken without a Litigation Plan that was pre-approved by SBA;
• The appointment of a receiver to perform routine litigation activities; and
• Generic, i.e., non-itemized, bills for attorney fees or costs.

See Litigation Plans and Legal Fee Reimbursement Requests.

Lenders are expected to hire local legal counsel. In unusual circumstances, hiring legal counsel from another geographic area may be necessary, reasonable, and customary. If so, the justification for hiring non-local counsel and the estimated travel expenses should be included in a Litigation Plan submitted to the SBA for approval.

Recovering Expenses

Lenders and CDC’s can recover expenses from the SBA by deducting the expenses from the recoveries on the loan, provided that the expenses have been reviewed and approved by the SBA, or by submitting a request for reimbursement after the SBA purchased its 7(a) guaranty or debenture.

CDC’s can also submit a request to the SBA for direct payment to a vendor at any time after the SBA purchased the debenture. See SOP 50 51 3.

When Lenders May Submit Requests for Expense Recovery

Requests for approval of Recoverable Expenses may only be submitted with the Lender’s Purchase Package, or with the Lender’s Wrap-up Report. See the SBA Information Notice 5000-1311, effective April 7, 2014. Lenders are no longer able to submit Recoverable Expense requests after guaranty purchase when aggregate expenses total $5,000 or more. After a loan has been charged-off, the SBA will not accept a request for reimbursement of recoverable expenses.

Obtaining SBA Approval

Requests for approval of deduction, payment of, or reimbursement of Recoverable Expenses must be submitted to the appropriate SBA Loan Center. Lenders must use the Care and Preservation of Collateral (CPC) Tabs when submitting Recoverable Expense requests with the Purchase Package or Wrap-up Report.

Lenders and CDC’s should include the following items in their request packages, as applicable:

• Lender or CDC contact information, including name, address, e-mail address, phone number, fax number, and Tax Identification Number;
• Borrower’s name and loan number;
• Summary of expenses;
• Copy of original invoice, which must be dated and include a thorough description of the goods or services provided, the date, name of person providing services, location of services, amount charged, and total amount due;
• Copy of all supporting documents, including site visit reports, Post-default Environmental Investigation Report, Post-default Appraisal, or legal pleadings for which payment or reimbursement is sought.

Takeaways for Lenders

Expense recovery is a critical function for lenders in SBA liquidation actions, and special care should be taken throughout the liquidation action to ensure maximum recovery.  Lenders will not be able to obtain expense recovery from the SBA unless they provide actual invoices on the vendor’s letterhead, and the invoice must detail the service location, service provided, and billing total. It is important that lenders ensure they are provided detailed invoices from the vendor, and the lender should keep the original invoice and supporting documentation in the loan file until it is time to submit an expense recovery request to the SBA.

If lenders are seeking recovery of legal expenses, it is important to obtain the SBA’s prior approval of a Litigation Plan and budget before proceeding with any non-routine litigation, such as when legal fees are estimated to exceed $10,000. It is also important for lenders to submit an Amended Litigation Plan if any material changes arise during the course of the litigation that was not addressed in the original Litigation Plan, or when the anticipated or actual legal fees increases by more than 15 percent. Compliance with these requirements is mandatory. The SBA will not reimburse legal expenses if the lender failed to comply with these requirements, absent the grant of an emergency waiver.

The best way for lenders to ensure liquidation and litigation expense recovery is to follow the above-mentioned requirements, and keep original invoices and supporting documentation until the time to submit an expense recovery request.

Authors:

• Brandon C. Meadows, Esquire
• Melissa Murrin, JD Candidate 2021

Continued reading in this series:

• Which Liquidation Actions Require SBA’s Pre-Approval: Part 1 – SBA 7(a) Loan Liquidation
• Which Liquidation Actions Require SBA’s Pre-Approval: Part 2 – SBA 504 Loan Liquidation
• Classifying SBA Loans in Liquidation Status
• What Responsibility and Authority do SBA Lenders Have in Servicing and Liquidating Loans?
• Loan Modification and Deferment Requirements for SBA Lenders
• SBA Loan Site Visits: How to Prepare and What to Expect
• SBA Loans: How to Maximize Recovery by Liquidating Real Property
• SBA Loans: How to Maximize Recovery by Liquidating Personal Property
• How to Maximize Recovery on a SBA Loan by Negotiating a Workout Agreement
• Assumption, Assignment and Sale of SBA Loans
• SBA Loans: Insurance Requirements and Considerations
• SBA Loans: Offers in Compromise