Whether you know from firsthand experience or have read our blogs on the topic, it’s no secret that a company applying for one of SBA’s socioeconomic programs will be examined extremely closely by SBA during the application process. Sometimes even more so in the 8(a) Program. This can include sifting through the language in a company’s operating agreement (as in this case we blogged on here), down to the meeting minutes. It can sometimes be overlooked that this close review also includes a look at the personal finances of the qualifying individual, at least for 8(a) and EDWOSB programs.
In Izen Ai, Inc., SBA No. BDPE-619 (Feb. 28, 2025), OHA considered the denial of an applicant’s entry into the 8(a) Program based on the CEO’s withdrawal of funds from his Individual Retirement Account (IRA).
One of SBA’s main eligibility criteria for the 8(a) Program is that the company must be unconditionally owned and controlled by one or more socially and economically disadvantaged individuals. 13 C.F.R. § 124.101.
SBA defines economically disadvantaged individuals as “socially disadvantaged individuals whose ability to compete in the free enterprise system has been impaired due to diminished capital and credit opportunities as compared to others in the same or similar line of business who are not socially disadvantaged.” 13 C.F.R. § 124.104(a). You can check out our Back to Basics blog for a deeper dive into the economically disadvantaged requirement here.
When examining “diminished capital and credit opportunities,” SBA considers several factors relating to the personal financial condition of the individual claiming disadvantaged status. For this requirement, the qualifying individual’s personal finances are put under SBA’s microscope, rather than the company. Relevant here is SBA’s consideration of an individual’s personal income for the past three years,
SBA will presume that an individual is not economically disadvantaged if his or her adjusted gross income averaged over the three preceding years exceeds $400,000. The presumption may be rebutted by a showing that this income level was unusual and not likely to occur in the future, that losses commensurate with and directly related to the earnings were suffered, or by evidence that the income is not indicative of lack of economic disadvantage.
13 C.F.R. § 124.104(c)(3)(i) (emphasis added).
iZen ai Inc. (what SBA calls the Petitioner) was denied entry into the 8(a) Program after SBA concluded Petitioner was not owned and controlled by an economically disadvantaged individual. The financial reports of Petitioner’s CEO exceeded the personal income threshold, thus the firm was not 51% owned by an economically disadvantaged individual.
Based on the figures in Petitioner’s 8(a) application, the CEO’s adjusted gross income (AGI) was at least $475,000, exceeding the $400,000 limit. The CEO’s tax records (submitted in the 8(a) application) showed income from IRA distributions for two out of the past three years. In 2021, he received $963,000 from IRA distributions, resulting in a total income of over $1 million for that year.
According to the CEO, this was a one-time withdrawal from his personal IRA that he had accumulated over 30 years, which ultimately “artificially inflated” his AGI. He claimed the large AGI from 2021 was an “anomaly” and an isolated event that was unlikely to ever occur again.
While reviewing the 8(a) application initially, SBA reached out to Petitioner seeking clarification on why the CEO’s AGI exceeded the regulatory threshold. In response, the CEO’s accounting firm prepared calculations showing his average AGI was below the threshold. However, these calculations excluded the IRA withdrawals.
The SBA regulatory presumption related to an AGI over $400,000 can be rebutted in some cases, to preserve a finding of economic disadvantage. The individual can demonstrate that the “income level was unusual and not likely to occur in the future, that losses commensurate with and directly related to the earning were suffered, or by evidence that the income is not indicative of lack of economic disadvantage.” 13 C.F.R. § 124.104(c)(3)(i).
However, Petitioner was not able to rebut this presumption during the application process and the 8(a) application was denied.
On appeal, OHA concluded that SBA reasonably determined the CEO was not economically disadvantaged, and thus the company was not owned and controlled by an economically disadvantaged individual. The individual, OHA noted, has the burden of proving why the funds were unusual during the application process. Here, the CEO made no attempt to rebut the presumption by demonstrating that the funds were used to reinvest in the company, or for the payment of taxes related to the business’ operations.
Further, OHA found the exclusion of the IRA from the AGI calculations not applicable here. Funds invested in an IRA may be excluded from SBA’s calculation of an individual’s net worth when determining economic disadvantage. 13 C.F.R. § 124.104(c)(2)(ii). However, OHA noted that here, the CEO voluntarily withdrew funds from his IRA and reported the funds on his personal income tax return, indicating personal use of the funds. The funds were no longer in the IRA and thus were not excluded from AGI. The Petitioner also tried to argue that the funds were stolen, but OHA concluded that what happens to the funds after the withdrawal was irrelevant.
OHA affirmed the denial of Petitioner’s entry into the 8(a) Program.
It is always a good idea to review SBA’s regulations and the eligibility criteria prior to starting an application process for one of the socioeconomic programs. Here, the CEO’s personal transaction resulted in the company’s denial of entry into the 8(a) Program. Voluntarily withdrawing funds from an IRA may not be a good idea for personal finance reasons, but it can also cause 8(a) problems. The 8(a) application can be a long process, but it will be even longer if you don’t take the time to understand the criteria prior to applying.
Seeking legal counsel can be a beneficial first step in determining whether a socioeconomic program is worth pursuing and steps to take before applying.
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