How startups can benefit from the new federal stimulus package

Last updated: March 29, 2020

Congress just passed a $2 trillion coronavirus stimulus package, and it contains some provisions that should be of particular interest to startups. After spending a bunch of time nerding out on it, I wanted to quickly summarize the most relevant pieces.

(But first, a disclaimer: I’m a three-time startup founder and startup finance enthusiast, but I’m not a lawyer, financial advisor, etc. This article is not legal, financial, accounting or tax advice and isn’t meant as a substitute for consulting your own qualified advisors.)

tl;dr

By far the most interesting part for our purposes is the Paycheck Protection Program, which says:

• Startups may be eligible to receive a forgivable loan (a loan that can convert to money you keep) of 2.5x your average monthly payroll (up to $10m), subject to some restrictions
• The loan will not require a personal guarantee from the business owner
• To be forgiven, the amount needs to be spent in eight weeks, and the amount of the loan that is forgiven will be reduced by layoffs or certain salary reductions
• Some startups may not be eligible for the program (people are collectively still figuring that out)
• No one yet knows exactly what the application process (or the application for loan forgiveness) will look like — I’ll update this page when I know more

Why is this interesting for startups?

The government has always administered a loan program for small businesses via the US Small Business Administration, but this loan is different for two key and important reasons: (1) the loan can be forgiven, and (2) it doesn’t require a personal guarantee.

Loan forgiveness is an incredibly powerful thing, because it means that if you comply with the requirements for the loan being forgiven, it functions more like a grant — free non-dilutive capital from the government to help keep your startup afloat when it probably needs it the most.

The fact that it doesn’t require a personal guarantee is also huge, because it means that you’re not saddled with a bunch of personal debt in the unfortunate situation where the startup fails.

In general, the loan requires you to certify in good faith that (1) the uncertainty of current economic conditions makes the loan request necessary to support your ongoing operations, and (2) that you’ll use the loan proceeds to retain workers, maintain payroll, etc. — but given what we’re seeing in the market, that seems very likely applicable to most startups.

How is the loan amount calculated?

The loan can be up to 2.5x your startup’s average monthly payroll cost, but not more than $10m. That average is calculated looking at the average total monthly payroll costs incurred the twelve months prior to the loan. (Or if your business was not active in 2019, it looks at the average in January and February). That payroll cost includes insurance premiums for your company’s healthcare benefit, and commissions (e.g. for your sales reps.)

However, one key thing is excluded from that calculation: if you have employees paid more than $100k/year, their contribution to this amount is capped at an annualized rate of $100k.

What can you use it for?

There are two major constraints if you’d like the loan to be forgiven:

1. You have to spend the money in the eight-week period beginning on the date of the origination of the loan
2. It needs to be spent on payroll costs, rent, mortgage interest, or utilities. The payroll cost is subject to the same constraint as above — you can’t use it for the incremental compensation over $100k for anyone who is paid that amount.

Fortunately, that’s probably where you’re spending most of your money anyway.

What will reduce loan forgiveness?

Two things: (1) reducing the number of employees, or (2) a 25%-or-greater reduction in the wages of any employee paid less than $100k. In both of these cases, the loan forgiveness reduction is proportional to the decrease in payroll cost (the idea here is that the government is helping you keep your employees employed).

Are VC-backed startups eligible?

No one is really sure yet. One of the components of the definition of “small business” is “500 or fewer employees.” Easy, right? You almost certainly don’t have 500 employees.

But here’s the catch: if you have an investor that holds a significant stake in your company and a bunch of other companies, and the total employee count in all of those companies is greater than 500, one interpretation is “Oh, these are all actually like one big company because they’re controlled by one investor,” in which case none of those startups would be eligible.

As of this writing, the tests that seem to be coming into play are: (a) does an investor own more than 50% of your company, or (b) whether you’ve raised a Series A with certain protective provisions — but no one’s really sure yet.

How do I apply? What materials do I need?

No one knows. Everyone is still waiting for guidance from the Treasury department. My suspicion is that it’ll look like a simplified version of the SBA 7(a) process. Hopefully a very simplified version, because the full process is pretty onerous :) Beyond that, no one can say for sure.

I’ll update this guide as I learn more.

Our startup, Pilot is looking into this very actively, and if you sign up here, we’ll email you with updates.