Debtor-Hospitals Can Be Denied Federal Coronavirus Aid

By: Meghan Paola

St. John’s University School of Law

American Bankruptcy Institute Law Review Staff


            In March of 2020, Congress enacted the Coronavirus Aid, Relief, and Economic Security Act (the “CARES Act”) in response to the Covid-19 pandemic.[i] Section 1102 of the CARES Act allows parties to apply for loans under the Paycheck Protection Program (“PPP”), which may be forgiven under certain circumstances.[ii] In In re Penobscot Valley Hospital, a bankruptcy court in Maine found that two hospitals could legally be denied federal assistance under the PPP because they were debtors in cases under chapter 11 of title 11 of the United States Code (the “Bankruptcy Code”).[iii] Penobscot Valley Hospital (“PVH”) and Calais Regional Hospital (“CRH”) were hospitals located in Maine.[iv] The hospitals had already filed for bankruptcy when the onset of the Covid-19 pandemic detrimentally affected their business operations.[v] The PPP Application Form provides that a loan will not be approved if an applicant answers “Yes” to question 1, which asks “whether the applicant is ‘presently involved in any bankruptcy[.]’”[vi] PVH and CRH each answered “Yes” in their loan applications and were subsequently denied loans.[vii] The hospitals filed a complaint against Jovita Carranza, who, in her capacity as Administrator for the Small Business Administration (“SBA”), had been tasked with administering the PPP.[viii] The court considered two of the claims in the complaint: a claim under the Administrative Procedure Act (“APA”) and a claim under 11 U.S.C § 525 (“Section 525”). Because the claims were not “core proceedings” arising under the Bankruptcy Code, the bankruptcy court could not issue a final order.  Instead, it issued proposed findings and referred the litigation to the District Court of Maine.[ix]

            The hospitals sought a judgment declaring that: (i) the CARES Act required the SBA to consider its PPP loan application on the same terms as entities that were not debtors in bankruptcy cases, and (ii) that Carranza exceeded her authority in excluding debtors from eligibility for PPP loans.[x] The bankruptcy court considered the text of the CARES Act and the APA in its analysis. The CARES Act established parameters for PPP eligibility[xi] and gave the Administrator authority to issue regulations to carry out the program.[xii] Pursuant to certain regulations, the Administrator excluded debtors in bankruptcy cases from the program.[xiii] The APA “provides for judicial review of whether an agency’s action is contrary to law in either procedure or substance.”[xiv] Using the APA’s two-step analytical framework,[xv] the court first found that Congress’s failure to address the question of whether debtors were eligible for PPP loans reflects an intent to allow the SBA to make the determination.[xvi] Moving on to the second step of the analysis, the court reasoned that Congress defined the universe of “eligible” recipients that could receive PPP loans, and that the use of the word “eligible” indicated a connotation of choice.[xvii] According to the court, Congress would not have “infused the PPP with concept of ‘eligibility’ if the intention was for the SBA to have no ability to choose which individuals and businesses would benefit from the loan guarantees.”[xviii] This, in combination with the nature of PPP[xix] and Congress’s intention that the funds be distributed quickly, led the court to find that the bankruptcy exclusion was “a proper exercise of the SBA’s rulemaking function” and thus was based on a permissible construction of the CARES Act.[xx]

            The hospitals also claimed that the SBA’s bankruptcy exclusion was discriminatory under Section 525, which prohibits the denial of a “license, permit, charter, franchise, or other similar grant” solely because a person has been involved in bankruptcy.[xxi] The federal government may discriminate against bankruptcy debtors so long as the discrimination does not violate Section 525.[xxii] After analyzing the definitions of these terms and their meanings in the particular governmental context,[xxiii] the court determined that the PPP does not constitute a license, permit, charger, or franchise.[xxiv] Further, it determined that the PPP was a form of financial assistance, which is not a “similar grant” under Section 525.[xxv] The bankruptcy exclusion also does not fall within the anti-discrimination provision in the broader view of Section 525 adopted by some caselaw, because the caselaw is either distinguishable, unpersuasive, or stretches the statute too far.[xxvi]

            The bankruptcy court’s proposed findings concluded that Carranza did not exceed her authority as Administrator of the SBA and that the hospitals were not “unfairly and illegally denied their spot in the corporate breadline.”[xxvii] According to the court, “[its] task is not to sympathize” with the hospitals.[xxviii] It found that, without violating the Bankruptcy Code, Carranza was authorized to make such decisions regarding the allocation of a finite amount of funds during an unprecedented economic crisis.[xxix] While debtors may apply for PPP loans under the CARES Act, the ultimate determination of whether or not they are eligible to receive the loans rests with the SBA. The bankruptcy court referred the case to the District Court of Maine to consider these proposed findings.

            The hospitals then filed timely objections to the Bankruptcy Court’s proposed findings.[xxx] After reviewing the record de novo, the District Court of Maine fully accepted and adopted the Bankruptcy Court’s findings that the SBA’s bankruptcy exclusion rule did not violate Section 525 and that Carranza was authorized to make such a rule.[xxxi] The court sent the case back to the Bankruptcy Court to reevaluate the bankruptcy exclusion rule under the second step of the APA’s two-step analytical framework.[xxxii] In reevaluating this issue, the District Court wanted the Bankruptcy Court to consider the significance of the Miller Declaration, which was the declaration of an SBA administrator filed by Carranza in response to the hospitals’ objections. The District Court asserted that the Miller Declaration contained a more thorough explanation of the reasons for the adoption of the bankruptcy exclusion rule than the original record.[xxxiii] On October 23, 2020, the Bankruptcy Court issued an order resolving a discovery dispute that had arisen between the parties as to whether the entire administrative record had been produced and scheduled a further hearing.[xxxiv] The hospitals’ efforts to secure additional discovery were denied and a hearing was scheduled for November 6, 2020 for which the parties were instructed to be prepared to argue their respective positions as to the viability of the bankruptcy exclusion under the second step of the APA framework.[xxxv]

[i] See In re Penobscot Valley Hospital, No. 19-10034, 2020 WL 3032939, at *1 (68 Bankr. Ct. Dec. 220).

[ii] Id. (“A PPP loan may be forgiven—in whole or in part—under the circumstances set forth in section 1106 of the CARES Act.”).

[iii] Id. at 2.

[iv] PVH and CRH’s claims were consolidated into one proceeding pursuant to Fed R. Civ. P. 42. Id. at *1.

[v] Id. at *2. (explaining that many procedures and office visits, where the hospitals derived a significant portion of revenue from, were postponed, rescheduled or canceled in the wake of Covid-19. As a result, PVH and CRH’s net patient revenue was about $1.2 million and $1.8 million less than budgeted for March-May 2020, respectively. Id. Both are also likely accruing overpayment liabilities due to low patient volume that will need to be resolved in order to reorganize and avoid liquidation. Id. at *3).

[vi] Id.

[vii] Id.

[viii] Id. at *1, *6.

[ix] Id. at *3–4.

[x] Id.

[xi] Id. at *6–7. See also 15 U.S.C. § 636(a)(36(A)(iv) (defining eligible recipients as “an individual or entity that is eligible to receive a covered loan[.]”); § 636 (a)(36)(D)(i)-(ii) (expanding the universe of eligible recipients).

[xii] In re Penobscot Valley Hospital, No. 19-10034, 2020 WL 3032939, at *6 (68 Bankr. Ct. Dec. 220).

[xiii] Id. at *8 (“The Administrator, in consultation with the Secretary, determined that providing PPP loans to debtors in bankruptcy would present an unacceptably high risk of an unauthorized use of funds or nonrepayment of unforgiven loans.”).

[xiv] Id. at *4.

[xv] The first step in the analytical framework is to ask “whether Congress has directly spoken to the precise question at issue.” If the answer is no, then the court must ask whether Congress has left a gap in the statute for the agency to fill in addressing the question, and whether the agency’s answer is “based on a permissible construction of the statute.” Id. at *5–6.

[xvi] Id. at *8.

[xvii] Id. (“In common parlance, the word ‘eligible’ carries a connotation of choice.”).

[xviii] Id.

[xix] Id. at *9 (“[T]he PPP is a loan program . . . not merely a grant of aid” and so holder and guarantor are “rightfully concerned about the maker’s ability to satisfy the debt.”). 

[xx] Id. at *8.

[xxi] See 11 U.S.C. § 525(a)) (“[a] governmental unit may not deny, revoke, suspend, or refuse to renew a license, permit, charter, franchise, or other similar grant to . . . a person that is or has been a debtor . . . under the Bankruptcy Act . . . solely because such bankrupt or debtor is or has been a debtor under this title or . . . under the Bankruptcy Act[.]”).

[xxii] In re Penobscot Valley Hospital, No. 19-10034, 2020 WL 3032939, at *10 (68 Bankr.Ct.Dec. 220).

[xxiii] Id. at *10 (defining “license” as “a revocable permission to commit some act that would otherwise be unlawful,” “permit” as a “certificate evidencing permission,” “charter” as an “instrument by which a governmental entity . . . grants rights, liberties, or powers to its citizens,” and “franchise” as “the right conferred by the government to engage in a specific business or to exercise corporate powers.”).

[xxiv] Id. at *11.

[xxv] Id. at *14 (citing United States v. Cleasby (In re Cleasby), 139 B.R. 897, 900 (W.D. Wis. 1992)).

[xxvi] See Rose v. Connecticut Housing Authority (In re Rose), 23 B.R. 662 (Bankr. D. Conn. 1982) (unpersuasive); Hillcrest Foods Inc. v. Briggs (In re Hillcrest Foods, Inc.), 10 B.R. 579 (Bankr. D. Me. 1981) (distinguishable); In re The Bible Speaks, 69 B.R. 368 (Bankr. D. Mass 1987) (stretching the terms of section 525 too far).

[xxvii] In re Penobscot Valley Hospital, No. 19-10034, 2020 WL 3032939, at *1 (68 Bankr.Ct.Dec. 220).

[xxviii] Id.

[xxix] Id.

[xxx] Penobscot Valley Hospital v. Carranza, 620 B.R. 1, 2 (D.Me., 2020) (explaining that the hospitals did not object to any of the Bankruptcy Court’s proposed factual findings, but that they did object to Judge Fagone’s legal conclusions that (1) the bankruptcy exclusion rule did not violate Section 525 (2) that under the first step of the APA’s framework Carranza was authorized to engage in rulemaking and (3) that the bankruptcy exclusion rule was within the bounds of a reasonable interpretation of the CARES Act).

[xxxi] Id. at 2–3.

[xxxii] Id. at 2, 6.

[xxxiii] Id. at 3.

[xxxiv] In re Penobscot Valley Hospital, 2020 WL 6840683 *1, *2 (Bkrtcy.D.Me., 2020) (“The defendant avers that it has already produced the administrative record, and that it consists of the components referenced in the Miller Declaration . . . [t]he plaintiffs seems to believe that there must be more material.”).

[xxxv] Id. at *4–5 (“But the plaintiffs’ efforts to augment the administrative record through discovery do not appear to be supported by the binding caselaw to which they refer, or by other caselaw from the Supreme Court and the First Circuit that this Court has reviewed independently. For this reason, to the extent the plaintiffs’ efforts to secure additional discovery can be treated as a motion under Rule 37, that motion is denied without an award of fees or a protective order.”).