Spot Checks: No-Nos and Uh-Ohs of EIDL - SBA Spot Checks and Audits.
Updated: Feb 15, 2022
Tales from recent spot checks SBA performed on our clients.
By Thomas W. Tramaglini, BRP Onesta
Recently, two of our clients’ EIDL applications for additional funding initiated a spot check by the SBA. The SBA reviewed how they used their EIDL proceeds. We take their experiences and use previous survey data from our clients to write this article underscoring the importance of using EIDL in compliance with code. Implications are provided at the end of this article.
SBA can and (actually) does check on how small business owners used proceeds
When the COVID-19 Pandemic hit, immediately small business owners began to seek relief. In several bills passed by Congress and signed into law by former President Trump and current President Biden, billions of dollars went to small business owners who needed help. According to the SBA, the Economic Injury Disaster Loan program disbursed over $88 Billion dollars through November 2021 through EIDL. There were also grants provided to small businesses under the same program guidelines.
With so much money being loaned out to small business owners, there are cases, albeit rare where the SBA will either spot check or audit how proceeds are used.
A Wide Range of How Small Business Owners Spent or Intend to Spend EIDL Proceeds
As helpful as some of those funds were to many small businesses, the allowable uses of small business loan funds were confusing to many. For instance, in our survey of small business owners, nearly 70% (69.7%) of small business owners identified that they were unclear at that start of the program of what funds were to be used for and then in a subsequent question, 46.2% of the business owners in the same survey said that they would like to receive expansion funds provided by SBA for expansion. Amidst the confusion shared by so many small business owners, small businesses owners are still responsible for using their funds adequately or face possible implications of misuse of funds as laid out in their SBA EIDL Notes.
Purpose of EIDL Proceeds and How Small Business Owners Used or Will Use EIDL
The SBA describes the EIDL program1 purpose: “The purpose of EIDL is to provide financial assistance for small businesses to meet financial obligations and operating expenses that could have been met had the disaster not occurred.” In our survey, small business owners said they used or would be using the EIDL funds for the following:
New Equipment – 29.1%
Refinance or Pay Off Debt – 54.2%
Payroll – 67.1%
Working Capital – 81.2%
New Hires – 39.6%
Operating Expenses (rent, utilities) – 24.7%
Expansion – 46.2%
Other Uses – 80.4%
As you can see, the data suggests that small business owners used EIDL funds in various ways.
Significantly, this survey was completed before the SBA revised allowable uses on September 21, 2021, to include paying off previous debt (“Working capital to make regular payments for operating expenses, including payroll, rent/mortgage, utilities, and other ordinary business expenses, and to pay business debt incurred at any time (past present or future”).
EIDL Spot Checks
Recently, two of our clients were spot checked by the SBA for their EIDLs. Both were spot checked during their application review for EIDL expansion. The SBA asked the following to be submitted:
How first time EIDL proceeds were spent.
Backup/receipts/bank statements demonstrating what proceeds were used for.
How the first time EIDL funds were not sufficient for the business owners and to show cause for needing additional funds.
One of the two business owners were asked to provide additional records, including financials.
It is important to note that both of our clients were not fully prepared for the spot check. While both clients have our company doing their books and have clean books, many business owners do not keep or have someone keeping their books. On the contrary, any taxpayer would want to make sure that any small business who was provided Relief Funding would want the proceeds to be used for an appropriate purpose.
One area on the horizon for small business owners to take note: Taxes should match your records.
One note that needs mention but is not the subject of this article is that SBA in their spot checks asked for transcripts of FY 2019 Taxes. The implications of doing so are important. That is, numbers on original applications should match the same numbers from the 2019 IRS tax forms which are appropriate for the type of entity type. From our experiences, many of our clients were denied additional funds because their tax amounts in areas such as Revenue and Cost of Goods Sold were not in alignment. Furthermore, if one is to defend themselves on how they expended their EIDL proceeds, it is important to make sure that those expenditures match what is on the FY 2020 or FY 2021 taxes submitted. Just to ponder extrapolation of discrepancies between tax forms and EIDL forms is unsettling. The bottom line is that small business owners should be conscious of this occurrence and the implications, inferred or not.
What if SBA spot checks or audits my EIDL loan?
If you are spot checked by the SBA or more importantly, audited, you should be prepared to provide backup of how you spent the funds. Experts suggest that you keep business records for up to six years after your loan was received however some states have specific laws that govern business records that some business owners should be aware of.
Regardless, if you have an EIDL loan you should be ready for an EIDL audit. Specifically, you should keep a record of the EIDL deposit, payments, and keep all receipts of expenditures that you utilized using the funds.
What can I use, or should I have used my EIDL loans for?
For those who received EIDL proceeds, you probably misused EIDL proceeds if you used the funds to expand your operations. Remember, EIDL proceeds were provided to help you maintain your operations during the Pandemic. As previously stated, some of these costs include payroll, benefit costs for employees, rent, utilities, fixed debt payments, repairs and replacing inventory. Any working capital would need to be verifiable and align to EIDL appropriate uses.
EIDL Restrictions
If you used your EIDL funds to expand or do new things for your business, you probably misused proceeds. Some of the other misuses include refinancing new debt not incurred during the period of the proceeds, buying new capital assets such as new vehicles or new buildings, dividends or bonuses, owner disbursements, repayment of stockholder or principal loans, or paying a direct federal debt from the IRS (unless exempted from the September 8th update).
So what?
Well, if you received EIDL funds or applied for more funds, expect a check in or an audit. These occurrences are rare, but like our two clients who were not prepared, you should be prepared. That is, if you used EIDL funds to expand your business you probably misused the funds. On the surface, the Pandemic funds were there to provide a bridge. In many cases the funds were totally used the right way. However, if you were one of those who did not use the funds adequately, regardless of if you were confused or not you will likely be liable for consequences. In each note from the SBA, the consequences are laid out and can include a host of different options.