As the number of investigations into Paycheck Protection Program loan fraud grows, experts are split on whether the first-ever penalty against a participating bank is likely to be the start of a trend.
In September, Houston-based Prosperity Bank reached a settlement that federal prosecutors touted as the first of its kind with a PPP lender.
Some experts saw the settlement as a rare example of a bank that lowered due diligence standards to quickly approve a PPP loan application.
But others said the case may be part of a pattern of scrutiny of the role that lenders played in disbursing around $800 billion in federal funds to help stimulate a shuttered pandemic-era economy. These observers say such cases could prove to be expensive for banks even if they do not ultimately result in large penalties.
Prosperity, a subsidiary of Prosperity Bancshares, was accused of approving a $213,400 loan to a doctor who bank employees knew was facing criminal charges. The criminal charges, which related to prescribing opioid medication, made the doctor ineligible for a PPP loan.
The Department of Justice said that Prosperity was not entitled to a $10,670 processing fee that it received. The $37.8 billion-asset bank agreed to pay around $18,670 for allegedly violating the False Claims Act.
"Although the penalty against Prosperity Bank was small," said Kevin Toomey, a financial services lawyer at Arnold & Porter, "it's often not the penalty but the investigation that will be extremely expensive and disruptive."
Toomey said the Prosperity case could represent the start of a wave of cases against lenders that may have lowered their due diligence standards when quickly disbursing PPP loans.
The DOJ's decision to cite the False Claims Act demonstrates that the government "has a number of tools, all with different legal standards, to go after perceived bad actors," Toomey said.
A Prosperity spokesperson did not respond to a request for comment. The DOJ said in a press release that the settlement amount reflected the bank's cooperation as well as its implementation of compliance measures.
In just the first 14 days of the PPP, the U.S. Small Business Administration disbursed $343 billion to applicants through private-sector lenders. Since then, there is growing evidence that a substantial percentage of the applications were fraudulent.
In June, DOJ Inspector General Michael Horowitz said in congressional testimony that an estimated 10% of funds disbursed under the PPP and another pandemic-era program for small businesses, the Economic Injury Disaster Loan program, did not conform with income eligibility requirements. In August, President Biden signed legislation
The PPP contained certain legal protections for lenders, and some experts argued that the government will have to meet a high standard to show that banks and fintechs engaged in wrongdoing.
"The whole purpose was to get the money out there," said Timothy McInnis, a former assistant U.S. attorney who runs a legal service for PPP loan fraud whistleblowers. "Given the tenor of what the SBA was trying to do, and the great leeway that they gave banks and lenders, I think legal risk is at the higher end of the standard to prove deliberate ignorance or that they knowingly lowered due diligence standards."
The Prosperity settlement is actually a "very rare case" of a PPP lender facing legal repercussions, McInnis argued.
At least one other PPP lender — Kabbage, which has filed for bankruptcy protection but continues to work with borrowers under the brand KServicing — has disclosed facing a Department of Justice investigation under the False Claims Act. A company spokesperson declined to comment.
David Snitkof, the former head of analytics and data strategy at Kabbage, parts of which were sold to American Express prior to the bankruptcy filing, noted that the federal government's guidance to lenders changed frequently during the early days of the pandemic. But he said that the priority of distributing the funds quickly remained unchanged.
"You can't turn back the clock," said Snitkof, who is now head of analytics at the document automation firm Ocrolus. "What's really important for a lender now is to maintain a good audit trail of all loan decisions that were made."
Both lenders and fraudsters "saw a cash cow" in the PPP, said Peter Brill, an attorney who has done defense work in connection with alleged PPP fraud. "There's a lot of blame to go around," he said.
Under normal circumstances, loan officers at lenders should have noticed that certain loan applications had red flags, Brill said. He noted that some PPP applicants lacked business leadership experience, and he said that certain applicants did not have a geographic connection to their stated businesses.
"In the rush to get the funds out, a conscious decision was made to limit due diligence more than what should normally be the case," Brill said. "You would think that, had banks had the time and opportunity, they should have been able to look into this."
