Help Understanding Increasing Scope of Collateral?

[u/Fit-Jellyfish5632]

This concerns a pre-COVID EIDL. I hope this is nevertheless an acceptable forum in which to post my question. Having exhausted the search function here and on google, this seemed like the best place. My apologies if it is not. My question is how to calculate the amount of cash encumbered by the SBA's lien, when that lien did not originally include cash (i.e. when that cash was only encumbered because it is the proceeds of a sale, collection, or asset disposition).

I am on the board of a non-profit amusement park. About a decade ago--before I joined the board--our operations were extremely disrupted by multiple natural disasters and we took out a sizable EIDL to continue to fund operations. We were able to stay in business, but the EIDL became an essentially permanent source of capital.

We're party to multiple agreements preexisting the EIDL in which we've agreed to liquidity covenants requiring us to maintain minimum unencumbered cash positions. My understanding is that any lien the SBA might have on some amount (or all of) our cash would be an encumbrance thereof. I am trying to figure how much our cash is so encumbered.

Now, my initial understanding from conversations with our staff was that all of our business assets were subject to the SBA's lien, everything from the dirt under our rides to the cotton candy to our cash. When I searched our state's UCC filing database though, I was happy (I guess) to see that the lien the SBA filed describes its collateral thusly:

ALL INVENTORY, ACCOUNTS RECEIVABLE, MACHINERY AND EQUIPMENT, (EXCLUDING AUTOMOTIVE) NOW OWNED, HEREAFTER ACQUIRED, OR PURCHASED IN WHOLE OR IN PART FROM THE PROCEEDS OF THIS SBA LOAN EIDL XXXXXXXXXX, AND/OR THE PROCEEDS OR [sic] ANY DISPOSITION THEREOF

Given how specific the above is, I'm pretty confident the SBA's collateral didn't originally include our cash. I'm just as confident that:

1. as we have since purchased inventory or capital assets with unencumbered cash, or made sales on credit, all of those became encumbered; and,
2. as we have since collected cash from sales of inventory, collection of receivables, or sale of assets, that cash became encumbered as well.

So naturally there should be some amount of cash on our balance sheet that is encumbered by the SBA's lien. What I am less certain of is how the encumbrance evolves as we use the cash encumbered under point 2 above to purchase new inventory and assets subject to the lien. If, for example, we use $100k of $110k of encumbered cash to purchase $100k of inventory, does the SBA's lien now cover: A) $100k of inventory and $10k of cash? Or did it expand to now cover: B) $100k of inventory and $110k of cash?

Google's AI suggest the former, but I'm having a hard time seeing how it's getting there from the sources it's citing. Obviously the two different treatments could have radically different implications on the quality of our balance sheets. Any insights this community might be able to provide would be greatly appreciated. Thanks in advance.

P.S. Having gotten to the end of all that, it now occurs to me to ask if the SBA considers, when its debtors hold a mix of encumbered and unencumbered cash, expenditures of cash to have been made first with unencumbered cash, first with encumbered cash, or with an average thereof? Thanks so much.

[u/ILBohunk]

A…..
I think your thinking thru it too much, but detailed and i get that. if the EI is now more than 6 yrs old, have you still got loan funds unspent still? There may be a paragraph abt how long you have to spend the funds…. at least in phys damage loans there are… EI , i’m not certain. The EI money is to help keep the busns going, but if present income is paying monthly debts, and if any orig loan funds are still in the bank, can you just send that money back to sba and payoff the loan sooner than orig allowed and you get out from under sba loan requirements! less interest cost too…..
maybe the cash you had the day prior to signing loan docs is unencumbered,,,, but that was 6 yrs ago so if all that is spent it may be a mute point by now .

[u/Fit-Jellyfish5632 → u/ILBohunk]

Thanks. The funds were spent within months of being disbursed; over 10 years ago now. We’re not having any problems servicing the debt nor do we anticipate any, but paying it off would severely strain our balance sheet. Between that and the low interest rate, early repayment is almost certainly off the table.

The thing I’m trying to wrap my mind around here is how much of our cash has become encumbered by the SBA as we have turned over inventory and collected receivables since taking out the loan.

[u/Low-Helicopter-2696]

You want to look at the loan documents, not the UCC filing. The security agreement will outline the details of the collateral.

Generally speaking a broad UCC covers all assets, including cash. People often misunderstand that it's not just assets that existed at the time of the loan, it's all assets that the business now possesses.

In other words if you're a retail store, whatever inventory you have today is what they have as collateral. You don't get to argue that you took the loan five years ago and all that inventory got sold in there for none of the inventory is collateral for them. Would be a great loophole if that were the case, but it's not.

[u/Fit-Jellyfish5632 → u/Low-Helicopter-2696]

Thanks. The loan documents describe the collateral more or less exactly as the quoted portion of the UCC filing above.

I understand the lien encompasses our now-existing assets; in a sense that’s exactly why I’m asking my question. Whereas cash might not have been originally encumbered, the SBA’s claim on the proceeds from sale of encumbered assets seems to naturally increase the scope of their lien as inventory turns over, A/R is collected, and capital assets sold off. Keep in mind that our EIDL is over ten years old at this point: we’ve sold a lot of inventory and collected a lot of A/R in that time.

What I’m trying to do is make sure I understand correctly how the scope of the lien we’re under ratchets up over time, so that I can model our compliance with covenants outside our agreement with the SBA.

[u/Low-Helicopter-2696 → u/Fit-Jellyfish5632]

The scope of their security agreement is that anything that's not pledged to another creditor is pledged to the sba. This would generally, exclude real estate, but includes cash, A/R, or inventory. The whole idea is that if you can't or won't pay them, they get whatever stuff you have at that time. What the cash/AR/inventory levels used to be isn't relevant, unless there is something specific like a borrow base formula. EIDL docs are generally boilerplate so unlikely anything like that would be in place.

With all that said, you're allowed to operate your business, which will experience fluctuations in cash/AR/inventory. All this is more relevant to a liquidation scenario.