Pannone Lopes Devereaux & O’Gara attorneys have provided detailed coverage of the key take-aways about the recently enacted, historic Coronavirus Aid, Relief and Economic Security Act (“CARES Act”), which provides economic relief to businesses and individuals affected by COVID-19. Several of the programs available under the CARES Act are limited to employers with less than 500 hundred employees. Some small business that are part of a larger affiliated group may find that their employees are aggregated under the so-called “affiliation rules” to determine if the 500-employee limitation applies. The federal regulations on affiliation predate the CARES Act and have existed for many years for programs administered through the Small Business Administration (“SBA”). These regulations are found at 13 CFR § 121.103.

Under these SBA regulations, affiliation exists if the same person (defined as an individual or entity) owns or control 50% percent or more of the voting stock of two businesses. If two or more persons each owns or controls less than 50% of the voting stock of two businesses and each shareholder’s holdings are approximately equal in size, there is a presumption that the businesses at issue are affiliated. This presumption may be rebutted by a showing that the power to control does not in fact exist.

One of the more challenging parts of these regulations is found in sub-section (e) which provides:

“(e) Affiliation based on common management. Affiliation arises where one or more officers, directors, managing members, or partners who control the board of directors and/or management of one concern also control the board of directors or management of one or more other concerns.”

Of note, businesses that have engaged in estate planning and that have placed their holdings in different Trusts with overlapping boards of directors or management teams may be subject to the affiliation rule. However, trusts are somewhat unique entities in that even though management of the entities inside a certain trust may overlap with other entities inside other trusts, the overriding duty of a trustee is viewed in light of the particular trust’s terms and the identity and needs of its beneficiaries. Certainly, identical trusts with identical trustees and identical beneficiaries should not be used as a device to work around the affiliation rules.

However, an argument does exist that trusts that have become irrevocable, that have different trustees and different beneficiaries should not be aggregated for purposes of the affiliation rules given the possible different goals of their ultimate constituents. Perhaps this rationale is enough to remove trust owned entities with overlapping management out of the language in sub-section (e) noted above in the appropriate fact pattern. The regulations do caution that “it does not matter whether control is exercised, so long as the power to control exists.” However, they also state that the presumption of affiliation may be overcome in family situations by showing a clear line of fracture between family concerns.

The affiliation rules are challenging to navigate and business owners are advised to contact their PLDO attorney for information on their unique situation relative to Trusts and/or the two sections outlined below that bear on the 500-employee limit, which are designed to bring desperately needed relief to those in the food and hospitality industries – two of the areas hardest hit by the effects of the COVID 19 pandemic.

First, section 1102(a)(1)(D)(iii) of the Act provides that the 500-employee limit is applied on a per physical location basis if the business is assigned a North American Industry Classification System Code (NACIS) beginning with 72. The NAICS defines Code 72 as the Accommodation and Food Services Sector, which comprises establishments providing customers with lodging and/or preparing meals, snacks, and beverages for immediate consumption. For example, if two business had identical ownership and one was in the hotel business in one city with 260 employees and ran a catering business from a different physical location, perhaps in another city, with 270 employees, presumably affiliation would not apply

Second, section 1102(a)(1)(D)(iv) of the Act provides that the affiliation rules under the federal regulations are waived for any business concern, which as of the date that the loan is disbursed does not have more than 500 employees and is assigned a NACIS Code 72. For example, a business that ran a hotel business from one company that had 400 hundred employees and a separate commercial real estate business with identical ownership in the same city that had 300 hundred employees, the affiliation rules would not apply to the hotel business.

Pannone Lopes Devereaux & O’Gara business, employment and estate, trust and tax attorneys will continue to monitor the CARES Act and provide updates on this legislation and other important issues. For further information and answers to your questions, please contact your PLDO attorney or PLDO Managing Principal Gary R. Pannone and PLDO Partner and estate, trust and tax attorney Gene M. Carlino in the firm’s Rhode Island office at 401-824-5100 or in our Florida office at 561-362-2030 or email gcarlino@pldolaw.com and gpannone@pldolaw.com. To access our Coronavirus alerts, advisories and other information, please visit PLDO COVID-19 Resources and sign up to receive our e-newsletters and advisories here.

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