31 March 202010 minute read

CARES Act relief for private equity portfolio companies

The Coronavirus Aid, Relief, and Economic Security (CARES) Act, a $2.2 trillion stimulus package aimed to provide relief to individuals and businesses suffering from the economic crisis caused by coronavirus disease 2019 (COVID-19), was signed into law by the President on March 27, 2020.  Among other things, the CARES Act seeks to help small businesses, including by way of the Paycheck Protection Program, which will provide forgivable, federally guaranteed loans to small businesses.


Many private equity (PE) portfolio companies may find it difficult to take advantage of this small business aid.  The CARES Act implements changes to the 7(a) Loan Guarantee Program of the Small Business Administration (SBA), but makes only limited changes to the SBA’s affiliation rules, which generally preclude PE portfolio companies from 7(a) eligibility. 


While the Paycheck Protection Program and other small business relief under the CARES Act may be of limited utility to PE portfolio companies, other features of the CARES Act are more broadly applicable to PE sponsors and their portfolio companies. 


We note that the CARES Act is emerging legislation, and as regulations and other guidance is published we will update this article as necessary. 


Stimulus aid to small businesses


The CARES Act small business stimulus aid includes (a) $349 billion for the Paycheck Protection Program aimed to provide payroll relief to small businesses by way of forgivable, federally guaranteed loans; (b) $10 billion for Economic Injury Disaster Loans (EIDLs) to fund working capital and ordinary course expenditure; and (c) $17 billion in relief for borrowers with existing SBA loans.


In order to be eligible for the small business aid provided by the CARES Act, a business must either be considered a “small business” under the SBA rules or meet the alternative standards in the Paycheck Protection Program.  Generally, to be considered a “small business,” a business must have an employee headcount and revenue below the SBA-published level applicable for the industry segment in which a business operates.  For the Paycheck Protection Program in particular, eligibility requires either (a) having less than 500 employees or, if greater, the applicable size standard for the relevant industry established by the SBA or (b) having less than 500 employees at each physical location of the business if the business is assigned NAICS industry codes beginning with 72 (such as such as operators of hotels, motels and certain other travel accommodations, as well as restaurants). 


However, under the SBA’s “affiliation rules,” a business is generally required to determine its eligibility by aggregating with its affiliates their respective numbers of employees and, where applicable, revenues.  If the “affiliation rules” are traditionally applied, this aggregation will result in most PE portfolio companies’ not qualifying as a “small business” under the SBA rules or for relief under the Paycheck Protection Program due to the employee headcount restrictions. 


While there had been discussions in Washington about waiving or modifying the SBA affiliation rules to provide broader relief for purposes of the Paycheck Protection Program to small businesses, including PE portfolio companies, the CARES Act itself only expressly waives the requirements of the affiliation rules for the following types of business:


(a) businesses that are assigned NAICS industry codes beginning with 72 (accommodation and food services) that have fewer than 500 employees. Unlike the business size test described above, which allows business in this NAICS industry code sector to count employees on a location-by-location basis, the corresponding waiver of affiliation rules refers to a business with less than 500 employees and does not expressly permit counting by location rather than in aggregate. As a result of this distinction, the ability of PE portfolio companies with NAICS codes beginning with 72 and greater than 500 employees to qualify for Paycheck Protection Program loans may be limited on a location-by-location basis);


(b) certain SBA-approved franchise businesses; and


(c) businesses that have received funds from a small venture investment company licensed under the Small Business Investment Act.


As such, PE portfolio companies that fall into the express exception may be eligible to receive small business aid under the Paycheck Protection Program. 


Stimulus aid to larger businesses


The CARES Act also appropriates $500 billion for loans, guarantees and other investments by the federal government to support larger businesses that have suffered losses as a result of the coronavirus and that do not otherwise receive aid under the CARES Act, broken down as follows: (a) $25 billion for passenger air carriers and certain related eligible businesses; (b) $4 billion for cargo air carriers; (c) $17 billion to businesses critical to maintaining national security; and (d) $454 billion for other businesses. Unlike the Paycheck Protection Program loans, these loans, guarantees and other investments will not be forgivable.   


The CARES Act delegates broad authority to the Secretary of the Treasury to establish programs to distribute these funds, subject to the oversight of a newly created special inspector general and Congressional oversight commission.  The CARES Act also provides for reporting and disclosure of the use of these funds, which will subject borrowers to public scrutiny.  The CARES Act specifically requires, among other things, that (a) during the term of the loan and for 12 months after repayment, the borrower may not (i) repurchase any securities of the borrower or a parent listed on a national securities exchange, unless required by a pre-existing contractual obligation, or (ii) pay any dividend or make other capital distributions with respect to common stock; (b) the borrower agree to certain executive compensation restrictions; (c) to the extent practicable, until September 30, 2020 the borrower must maintain 90 percent of its employment levels as of March 24, 2020; and (d) the borrower is a US-domiciled business with significant operations and a majority of its employees in the US.


While the CARES Act does not expressly subject these programs to the affiliation rules described above, and as such may present a more attractive opportunity for certain PE portfolio companies to pursue, the federal government has in the past required investment-grade debt as collateral for similar loans.  As such, the availability of this aid to many PE portfolio companies will in large part depend on the flexibility offered in rules to be published by the Secretary. Further, PE portfolio companies are encouraged to carefully consider the implications of the public disclosure requirements relating to receipt of these loans.


Employee retention credit


The CARES Act also provides relief to certain employers whose operation was fully or partially suspended as a result of “shelter-in-place” or “stay at home” orders or whose gross receipts were less than 50 percent of gross receipts during same calendar quarter of the prior year.  Such an employer (of any size) may credit against quarterly employment taxes an amount equal to 50 percent of wages for each employee during a quarter, capped at $10,000, and which includes health plan expenses.  The excess credit amount can be claimed as a tax refund if credits exceed quarterly tax liability.  This credit ends in the quarter following the quarter in which the employer’s gross receipts reach 80 percent of prior year same quarter receipts.


Additional detail on the tax provisions of the CARES Act discussed herein can be found here. 


Employer Payroll Tax aid


The CARES Act provides for deferral of payment by certain employers of both the employer portion of the 6.2% FICA tax portion due for the period beginning after the date of enactment of the CARES Act through December 31, 2020. These taxes will be deemed timely paid if deposited not later than the following dates: (a) 50 percent no later than December 31, 2021 and (b) the remainder no later than December 31, 2022.  However, employers with loans that are forgiven under the CARES Act are not eligible to defer payment of payroll taxes under the CARES Act.


Net operating loss changes


The CARES Act relaxes requirements from the Tax Cuts and Jobs Act of 2017 (TCJA) that limited the use of net operating losses (NOLs) from prior years.  The TCJA limited the use of NOL carryforward deductions for NOLs arising after 2017 to only 80 percent of the taxpayer’s taxable income in the year of the carryforward.  The CARES Act restores that limitation to 100 percent of taxable income with respect to such NOL carry-forwards for taxable years beginning in 2018, 2019 and 2020.  Further, the CARES Act temporarily restores the ability for a taxpayer to carry back an NOL arising in 2018, 2019 and 2020 to each of the five prior tax years. As such, PE portfolio companies can amend their prior income tax returns to claim losses from 2018 and 2019 carried back five years, and the CARES Act ensures NOLs can be fully utilized in offsetting taxable income.


PE sponsors and their portfolio companies carrying NOLs are encouraged to review the tax provisions in the relevant acquisition or sale transaction documents to determine whether those provisions allow for carrybacks to years in which the target company was owned by the seller(s), and if those provisions address which party will be entitled to the benefit resulting from the use of losses in light of this change in law.


Changes to business interest deduction limitation


The TCJA limited the amount of business interest that a business was able to deduct to 30 percent of a modified taxable income.  However, the CARES Act increases this limitation to 50 percent of modified taxable income for the business’s taxable years beginning in 2019 and 2020.  In 2020, a business can elect to use the amount of its 2019 income to determine the limitation amount, allowing a greater deduction for 2020 to businesses whose modified taxable income fell year over year than would have otherwise applied.




Although participation in the Paycheck Protection Program may be limited for PE portfolio companies, the CARES Act will provide relief to many PE portfolio companies in a variety of other ways.  To discuss eligibility for these important programs, please contact your DLA Piper relationship partner or a member of DLA Piper’s Private Equity group.


Please also visit our Coronavirus Resource Center and subscribe to our mailing list to receive alerts, webinar invitations and other publications to help you navigate this challenging time.