Bill Changes Size Determination Measurement Period from Three Years to Five

With the stroke of a pen, Congress may have just paved the way for some soon-to-be large businesses to remain small for longer. 

Both the House of Representatives and the Senate have passed a bill that would amend the Small Business Act to change the period of measurement used to determine the size of a business from three years to five. The bill awaits the president’s signature to become law. 

The Small Business Runway Extension Act of 2018 simply amends Section 3(a)(2)(C)(ii)(II) of the Small Business Act “by striking ‘3 years’ and inserting ‘5 years’.” The House passed the bill on September 25 and the Senate passed it on December 6. It went to the president’s desk for signing on Tuesday (December 11). 

Leaving aside the sloppy editing (my lord, Congress, why are you striking “years” and replacing it with “years”?), this simple change has the potential to preserve the small-size status of growing businesses for much longer. 

Businesses are not born fully functional like Athena from the head of Zeus, with the newborn grace of a baby gazelle. Most have at least one lean year as they grow. 

In many industries, the SBA’s current system calculates a business’s size by adding up the annual receipts of the last three years and dividing by three to get the average. (The rules are a little different for companies that haven’t been in business for three years).  That means, by year four of a business’s existence, those lean times no longer get included in the calculus. 

The purpose of the bill, according to the House Committee on Small Business report, is to “help advanced-small contractors successfully navigate the middle market as they reach the upper limits of their small size standard.”

By making the period of measurement five years, even a relatively quickly growing new business can stay small for far longer. According to Congress, the Act will allow businesses more time to prepare for “graduation” to other-than-small status, allowing businesses to develop the infrastructure needed to compete with the Boeings and Lockheeds of the world. 

The change will also build in some wiggle room for companies to take on additional revenue in a particularly robust fiscal year. Congress said this will “reduce the impact of rapid-growth years which result in spikes in revenue that may prematurely eject a small business out of their small size standard.” In other words, through careful planning, a business could double its receipts in a particular year without exceeding the size standard, because the difference is spread out over a much longer time. 

Although this change may benefit businesses that have grown at a relatively linear rate, others that, for example, had planned on having a particularly robust year fall out of their calculation, will now face the prospect of remaining “other than small” for an additional two years. One of the things missing from the Congressional record is any idea of how many businesses the change will impact positively, and how many it will impact negatively. 

If the bill becomes law—and we should say that there is no reason to think that it will not—it will become effective immediately. Although the SBA will need time to update its regulation (found at 13 C.F.R. § 124.104), the text of the Small Business Act will be clear that the measurement period will be five years, not three. Because statutes override regulations, the law will be five years and the SBA will have to follow that rule immediately.