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Focus on Regulation

VA and SBA Release Complementary Final Rules Updating their Veteran-Owned Small Business Regulations

On September 24, 2018 and September 28, 2018, the Department of Veterans Affairs (VA) and the Small Business Administration (SBA), respectively, released complementary final rules (VA final rule and SBA final rule) that amend the regulations governing Veteran-Owned Small Businesses (VOSBs) and Service-Disabled Veteran-Owned Small Businesses (SDVOSBs). Effective October 1, 2018, the SBA’s regulations now govern the ownership and control requirements for all VOSBs and SDVOSBs, and the VA regulations that formerly provided eligibility requirements for VOSBs and SDVOSBs have been eliminated.

The VA will continue to be responsible for verifying that applicant firms qualify as VOSBs or SDVOSBs under the SBA’s ownership and control regulations at 13 C.F.R. Part 125, and the Center for Verification and Evaluation (CVE) at the VA will continue to receive and review applications for eligibility. Firms that have been verified by the VA will be listed in the Vendor Information Pages (VIP) database as “verified”, and will be eligible to compete for government contracts that are set aside for VOSBs and SDVOSBs.

The changes in the final rules are significant because they eliminate inconsistencies between the former VA and SBA regulations and provide more clarity on various guidelines and definitions that apply to SDVOSB and VOSB concerns. Below is a summary of significant amendments to the VA and SBA regulations of which contractors should be aware.

VA Final Rule Significant Changes

The VA’s final rule:

  • Refers to the SBA’s regulations to govern issues of affiliation, ownership, and control related to VOSBs and SDVOSBs, and adopts the SBA’s definitions for “service-disabled veteran,” “SDVOSB,” “surviving spouse,” “veteran,” and “VOSB.”
  • Clarifies the effect of “good character,” or lack thereof, on participation in the Vets First Contracting Program (the “Program”). It provides that any individuals having an ownership or control interest in the concern and who are suspended, debarred, incarcerated, on parole or probation, or formally convicted of certain crimes will jeopardize the concern’s eligibility and be cause for immediate removal from the VIP database. Moreover, applicants and concerns that are found to have knowingly submitted false statements during the application process will have their applications denied and/or will no longer be eligible for the Program.
  • Expands Program ineligibility grounds to include certain disqualifying financial obligations, such as tax liens and other unresolved debts owed to governmental entities. Under the cancellation procedures, a concern has the opportunity to explain the circumstances of any financial obligation, and if such explanation is adequate, it may remain in the VIP database.
  • Allows concerns that have undergone a change in ownership to submit a new application to the VA within 30 days of the change.
  • Outlines new application processing procedures. For example, it increases the application processing time to 90 days, establishes that an applicant’s eligibility will be based on the totality of the circumstances, and identifies bankruptcy as a change in circumstance that could make a concern ineligible for the Program.
  • Provides that the SBA’s Office of Hearings and Appeals (OHA) will adjudicate appeals of initial denials on the grounds of ownership and control in accordance with 13 C.F.R. Part 134. The VA notes that concerns do not retain their eligibility during the appeal process—a concern will be removed immediately upon a finding that it no longer qualifies for the VIP database.
  • Adopts the SBA’s regulations at 13 C.F.R. Part 125 regarding joint venture requirements. Previously, the VA and the SBA had different rules regarding profit allocation for joint ventures, but under the new regulations, the VA and the SBA treat joint ventures the same. The final rule also requires that, for VA contracts, a joint venture applicant must be a separate legal entity.

 SBA Final Rule Significant Changes

The SBA’s final rule:

  • Adds new regulations addressing when a firm is allowed to qualify as an SDVOSB when there is a surviving spouse of a deceased veteran.
  • Replaces the definitions of “permanent caregiver,” “service-disabled veteran,” and “surviving spouse.” The final rule also adds a new definition of “service-disabled veteran with a permanent and severe disability.”
  • Adds a definition for Employee Stock Ownership Plan (ESOP) and clarifies certain circumstances in which a firm can qualify as an SDVOSB when there is an ESOP. Under the new SBA regulations, a public corporation qualifies as a SDVOSB if one or more service-disabled veterans control the concern’s management and operations and own at least 51% of the stock, exclusive of stock owned by an ESOP.
  • Adds multiple new rebuttable presumptions regarding ownership and control of SDVOSBs, including the following:
    • A service-disabled veteran does not control the firm when he/she is unable to work for the firm during the normal working hours for businesses in that industry.
    • A service-disabled veteran does not control the firm if that individual is not located within a “reasonable commute” to the firm’s headquarters and/or job site.
    • One or more non-service-disabled veterans control or have the power to control a firm under the following circumstances:
      • The non-service-disabled veteran is (1) involved in the management or ownership of the firm and (2) is a current or former employer, or a principal of a current or former employer, of any service-disabled veteran upon whom the firm’s eligibility is based.
      • The non-service-disabled veteran receives compensation from the firm that exceeds the compensation received by the highest-ranking officer (i.e., CEO or President).
      • Where the concern is co-located with another firm in the same or similar line of business and that firm or an owner, director, officer, or manager, or a direct relative of an owner, director, officer, or manager of that firm owns an equity interest in the concern.
      • Where the concern shares employees, resources, equipment, or services with another firm in the same or similar line of business, and that firm or an owner, director, officer, or manager, or a direct relative of an owner, director, officer, or manager of that firm owns an equity interest in the concern.
      • Where a non-service-disabled veteran with an equity interest in the concern provides critical financial or bonding support or a critical license.
      • Business relationships exist with non-service-disabled veterans that cause such dependence that the concern cannot exercise independent business judgment without great economic risk.
  • Permits five “extraordinary circumstances” under which a minority investor may have a veto power (i.e., negative control) over a SDVOSB’s decision-making process without rendering the firm ineligible. These five extraordinary circumstances are (1) adding a new equity stakeholder; (2) dissolving the organization; (3) selling the organization; (4) merging the organization with another organization; and (5) declaring bankruptcy.
  • Requires that service-disabled veterans own at least 51% of the aggregate voting interest in the partnership.

Overall, these revised regulations will eliminate much of the confusion that veteran-owned businesses have faced when dealing with parallel and sometimes conflicting VA and SBA regulations. One issue not addressed in the final rules is the impact of the new regulations on currently verified concerns under the VA’s Program that do not meet these new ownership and eligibility requirements. This issue may be resolved in future SBA OHA cases and VA guidance.

In light of these changes, current and prospective VOSBs and SDVOSBs should carefully review their ownership structure, bylaws, and shareholder, voting, and operating agreements to ensure that they comply with the new eligibility requirements, especially regarding ownership and control. A business that fails to comply with these requirements may be ineligible for or disqualified from the VOSB and SDVOSB contracting programs and could become vulnerable to small business size challenge.

The authors are available for questions. The Government Contracts Practice at Hogan Lovells advises businesses on interacting with the VA and the SBA and optimizing opportunities to do business with the Federal Government.