We got a call last week from Jeff, a client’s loan officer. He’d just finished his presentation at loan committee for one of his loans and Mo, the underwriter, presented next. Mo observed that the loan didn’t meet SBA’s definition of “fully secured.” Jeff explained that their policies require a lien on the principal’s house in these situations. Jeff called it “an abundance of caution.” Mo’s SOP knowledge is extensive, but he pushed back on this one. Jeff asked me to have a little talk with Mo. So of course I did:

MO. Richard, I looked all over the SOP and couldn’t find any reference to “abundance of caution.” I even checked the CFR because I knew you’d ask me to. It’s just not anywhere. What the heck is an “abundance of caution”?

ME. You know what, Mo? It’s one of those terms lenders use for which there is no federal regulatory definition. In general use, “abundance of caution” means that the additional security isn’t required by underwriting guidelines, but – being abundantly cautious – the lender requires it. Regarding this loan, a lien on the house is necessary because the SBA loan isn’t fully secured by the project assets or the borrower’s other assets. This isn’t just being cautious. It’s following federal requirements.

SBA’s definition of “fully secured” means that the lender has taken security interests in all assets being acquired, refinanced, or improved with the 7(a) loan; and all available fixed assets of the Applicant business or EPC with a combined net book value, adjusted per SBA’s requirements, up to the loan amount.

Only if there is a collateral shortfall must the lender lien equity in the personal real estate of the owners of 20% or more of the Applicant and guarantors. The lien amount can be limited to 150% of the equity in the collateral.1 Those are the rules. Of course, if the equity in the real estate is less than 25% of the property’s value, a lien on that isn’t necessary unless the 7(a) loan proceeds were used to acquire, refinance, or improve that asset.

MO. I told the principal that the spouse would have to guarantee the loan. But the spouse has no ownership in the business so SBA’s underwriting guidelines don’t require it. So is the guaranty of a non-owner spouse an example of an abundance of caution?

ME. No not really. Let’s parse this out: The spouse has no ownership interest in the business, so ordinarily SBA wouldn’t require a spousal guaranty. But since the loan isn’t fully secured, SBA requires a lien on the personal residence. And both owners of the residence, both spouses, must guarantee the loan. It’s the only way you can get that lien.

I imagine a title search would tell us that the spouse is on the title to the house. Now remember that the collateral and the debt must be tied together somehow. The personal guaranty of the Note by the owner of the collateral accomplishes that. The spouse has an ownership interest in the collateral, so the spousal guaranty is necessary for SBA to have a good and valid lien. The spousal guaranty is not an “abundance of caution.” The SOP requires it.

As I’ve said, we can limit the spousal guaranty to 150% of the equity on the collateral.1 But the lien on the principal’s house is a “sine qua non” – absolutely indispensable. Without it, you’d be unable to make the loan. We must have it. All clear?

Richard Jeffrey, Senior Associate
Chief Underwriter
richard@jrbrunoassoc.com
www.jrbrunoassoc.com

.1 SOP 50 10.7.1 p. 114