I always enjoy getting questions from CDC lenders. They give me a chance to see case study examples of what’s going on day-to-day. Sometimes their situations take twists and turns. Then, like Sherlock Holmes, I dig deeper. Let’s call this “The Case of Construction Loan Interest.”

An experienced 504 lender recently sent me an email:  

Q: Richard, I was just told that interest on a construction loan wasn’t an eligible project cost, that I can only count as eligible interest the portion of the financing the 504 debenture will pay off. Is that right?

A: The answer of course: “It depends.”

The plot thickens. In this case the CDC was assisting a bank in structuring a 504 project. The CDC told the banker that interest on the construction financing was an eligible project cost. The banker told the CDC that the bank was working on another 504 loan where the interest on the construction loan was not eligible. The banker was obviously confused.

Despite the banker’s confusion, evidence shows that SOP 50 10 5 (J) doesn’t intend for anybody to be confused. First, repayment of interim financing (whether or not the project involves construction) is an eligible project cost. (Subpart C, Chapter 2, D. 1. h) Eligible Project Costs, pg. 299) The question: What is Interim Financing?  The SOP makes it clear: “Interim Financingis any disbursement of funds (other than the borrower’s contribution) to finance eligible project costs after the loan is approved by SBA but before the debenture is sold.” (Subpart C, Chapter 1, III, G. Interim Financing, pg. 256)

As long as the construction loan, or any other interim loan, hasn’t been disbursed before the date on the Authorization, interest on that loan is eligible, up to the date the debenture is sold. At least, that’s what the SOP says.

However, in the last few years, some people in the industry have taken a more conservative approach. That approach considers only that portion of interest accrued on the interim portion (i.e., that portion of the financing to be taken out by the 504 loan) to be eligible. There’s no doubt:  If the CDC structures the project that way, it will not be an ineligible structure. However, that approach is more restrictive than what the SOP allows.

Case solved. Elementary, my dear lenders. At JRB we advise our clients to follow the SOP. In cases where the SOP is silent or open to interpretation, we suggest a more conservative approach. Yet in this case the SOP is clear, even though the conservative approach isn’t specifically prohibited. Therefore my advice to the client was, “Follow the SOP, and consider as eligible all the interest accrued between the date on the Authorization and the date of the Debenture funding.” 

I say this knowing there’s a new SOP coming down the pike. If there’s a change in the SOP, you’ll be among the first to know.

 Keep your cases coming in. I’ll continue to help solve them!

CDC/504 Programs