SBIC Funds: A Practical Investing Guide for Banks

Investment mechanics, regulatory treatment, side letter terms and practical benefits for bank investors

For a bank, a commitment to a well-managed Small Business Investment Company (SBIC fund) can do several things at once. It can offer attractive risk-adjusted return potential, benefit from a clear exclusion from the Volcker Rule, support the bank’s Community Reinvestment Act (CRA) record, and open doors to commercial lending and treasury management relationships. Below we explain how such an investment works, why banks make it, what to diligence, and which side letter terms protect the bank’s position. 1. What is an SBIC Fund and How Does a Bank Invest in One? An SBIC fund is a privately owned and managed investment fund that holds a license from the U.S. Small Business Administration (SBA) and operates under the Small Business Investment Act of 1958 and SBA regulations. It raises private capital from limited partners such as banks, pension plans, endowments, family offices, other institutional investors and high net worth investors. The general partner of the SBIC fund sources, underwrites, monitors and exits portfolio investments. 1

Feature

What It Means For The Bank

The manager must satisfy SBA licensing requirements. Once licensed, the SBIC fund is subject to ongoing SBA reporting, examination and regulatory requirements.

SBA license and oversight

The bank signs subscription documents and commits capital, which the SBIC fund calls over its term. The bank receives a limited partner interest and fund-level reporting.

Capital commitment

A leveraged SBIC fund may issue SBA-guaranteed debentures. Standard Debenture leverage is generally limited to the lesser of (i) 200% of private capital, or (ii) $250 million, for a single fund. Accrual Debentures, designed for longer-duration growth equity strategies, provide leverage up to 125% of private capital. The SBIC fund must invest in qualifying U.S. small businesses that meet SBA size and eligibility rules. Strategies range from senior and mezzanine credit to growth equity and buyouts, depending on the license and mandate.

SBA leverage

Portfolio investments

Interest, repayments, refinancings and exit proceeds are distributed through the SBIC fund’s waterfall after expenses and amounts then due on SBA leverage are satisfied.

Distributions

Leverage is central to the SBIC program. Each Standard Debenture carries a 10-year term with semiannual interest payments. Accrual Debentures also carry 10-year terms but defer current interest payments, which suits strategies that do not generate consistent or predictable current income. 2

How the Investing in All of America Act Changed SBIC Leverage Limits

In May 2026, the Investing in All of America Act of 2025 (IAA Act) was signed into law, increasing the statutory leverage limits. A single Standard Debenture licensee’s outstanding leverage is now capped at the lesser of (i) 200% of private capital, or (ii) $250 million (up from $175 million). The cap for individual Accrual Debenture licensees remains at $175 million. For commonly controlled licensees, the combined ceiling is $475 million for Standard Debenture licensees, up from $350 million, and remains $350 million for all others. The IAA Act also allows for what is commonly called “bonus leverage,” which provides that investments made after May 19, 2026 in small businesses located in low-income or rural areas, small businesses operating primarily in a covered critical technology category, and small manufacturers are excluded from the leverage calculation, up to the lesser of (i) 50% of private capital, or (ii) $125 million. This allows individual licensees to exceed their applicable leverage cap by the amount of available bonus leverage. 3

Which Companies Qualify as Small Businesses Eligible for SBIC Investments?

The universe of eligible companies is broader than the label “small business” suggests. A company may qualify under its industry size standard based on its North American Industry Classification System code or, alternatively, under the SBIC financial test. That test permits tangible net worth of up to $24 million and average after-tax net income of up to $8 million for the two preceding completed fiscal years, in each case including affiliates. 4

2. Why Banks Invest in SBIC Funds: Four Practical Benefits

Attractive risk-adjusted return potential and diversification

A bank can generally invest up to 5% of the bank’s capital and surplus in SBIC funds. 5 An SBIC fund allocation gives a bank exposure to private credit or private equity in companies that may initially be too small for the bank’s direct lending or investment programs, allowing the bank to access alternative asset classes with attractive return potential. SBA leverage increases the capital an SBIC fund can deploy, allowing the SBIC fund’s limited partners to benefit from the spread between the return earned on the SBIC fund’s investments and the SBIC fund’s cost of capital. For reference, the September 2026 Standard Debenture pool priced at 5.454%, before the SBA’s annual charge and fees. 6 At the same time, bank investments in SBIC funds can create a pipeline of potential new client relationships with the SBIC fund’s portfolio companies, many of which may be taking on their first institutional investment. These ancillary benefits are discussed in more detail below.

A clear Volcker Rule path

The Volcker Rule generally restricts banking entities from owning or sponsoring covered funds. The implementing regulations exclude SBIC funds, and SBIC applicants that have received a “green light” letter from the SBA 7 , from the definition of a covered fund. Since 2020, the exclusion also covers an SBIC fund that voluntarily surrenders its SBIC license and begins to wind down as long as it makes no new investments after the license surrender other than in cash equivalents. U.S. Office of the Comptroller of the Currency (OCC) rules similarly permit a national bank or federal savings association to retain its interest in such a fund. This exclusion makes an investment in an SBIC fund simpler for a bank to evaluate than an investment in most private equity funds or hedge funds. Many banks nonetheless seek additional comfort in their side letters with any SBIC fund regarding the SBIC fund’s investment activities following any license surrender.

Community Reinvestment Act credit

Banks have long used SBIC investments in their CRA strategies because investments in SBIC funds can be treated as “qualified investments” under the CRA. Under the current CRA framework, a “qualified investment” is one whose primary purpose is community development. Community development includes activities that promote economic development by financing businesses that meet the size eligibility standards of the SBA’s Development Company or SBIC programs. 8, 9 The interagency CRA guidance lists SBIC funds among its examples of qualified investments and presumes that an investment in an SBIC fund promotes economic development, which addresses the purpose element of the agencies’ size-and-purpose analysis. On July 31, 2026, the OCC and Federal Deposit Insurance Corporation (FDIC) issued a notice of proposed rulemaking that would amend the existing CRA framework for the banks they supervise. The Federal Reserve did not join the rulemaking, which is significant because it could result in the application of different CRA standards depending on which agency regulates a given bank. 10 The proposal would continue to credit financing of businesses that meet SBIC size standards, would expressly name SBIC funds as qualifying small business programs and would drop the requirement that such activities create or retain jobs for low and moderate-income individuals or areas. It would also eliminate credit for activities that benefit a broader statewide or regional area in favor of a capped allowance for activities outside a bank’s assessment areas. 11 Banks should monitor this proposed rule and related rulemaking developments. To maximize the likelihood of receiving CRA credit for its investment in an SBIC fund, a bank should undertake additional diligence to confirm that the SBIC fund’s purpose, mandate or function includes serving the bank’s assessment area(s) or a broader statewide or regional area that includes them. 12 This is often accomplished through a deeper understanding of the SBIC fund’s target investment markets and through covenants and reporting obligations in the bank’s side letter with the SBIC fund, discussed in greater detail below. As noted above, the pending OCC and FDIC proposal would change the treatment of broader statewide or regional areas, if adopted.

Commercial banking relationships

For many banks, the strategic value of investing in SBIC funds extends beyond the investment return. Portfolio companies need treasury management, deposit services, revolving lines of credit, acquisition and equipment financing, letters of credit, and other bank products. SBIC fund managers also see companies that fit a bank’s senior credit profile better than the SBIC fund’s own mandate. The OCC has observed that SBIC funds often refer portfolio companies needing commercial banking services to the banks that invested in them as limited partners. 13 These opportunities are best viewed as additional upside to an SBIC investment, rather than a core part of the base case for making such an investment but can nonetheless yield attractive ancillary benefits to a bank. While a limited partner commitment in an SBIC fund does not entitle a bank to portfolio company business, a thoughtful manager can become a lasting source of introductions, particularly where the SBIC fund’s target geography overlaps with the bank’s footprint. 3. Diligence Best Practices Before Investing in an SBIC Fund A disciplined bank investor will underwrite the SBIC fund manager and its strategy first and foremost, and then evaluate regulatory fit and the potential for ancillary business within that qualified subset of SBIC fund managers. Typical diligence includes: Manager and team. Who makes investment decisions? How long has the team worked together? How much is the team committing to invest in the SBIC fund? How is the realized and unrealized track record attributed? Strategy and portfolio construction. Is the SBIC fund primarily credit, mezzanine, equity or a blend? What leverage will it use at the portfolio company and fund levels? Which sectors and geographies are targeted? Which are excluded? SBA leverage plan. How much leverage does the SBIC fund manager expect to use, and when? How sensitive are projected returns and liquidity to higher financing costs, slower exits or portfolio losses? CRA fit. What share of expected activity is likely to benefit the bank’s assessment areas? What CRA reporting and

confirmation will the SBIC fund manager provide? Valuation and credit discipline. How are loans and equity positions valued? What are the covenant, watch-list, workout and reserve practices? How did the team handle prior losses? Fund terms and governance. Experienced SBIC fund counsel can assist the bank in reviewing the key terms and market conformity of the limited partnership agreement, private placement memorandum, subscription agreement and other ancillary agreements of the SBIC fund. A review of the provisions regarding key persons, devotion of time, removal, conflicts of interest, expense allocation, valuations, advisory board rights, transfer restrictions and reporting obligations can deepen the bank’s understanding of the investment terms and mechanics, allow for thoughtful negotiation of a side letter that targets rights important to the bank, and align the bank’s expectations with those of the SBIC fund manager. Bank-specific legal and accounting review. Does the proposed investment sit within the bank’s investment authority? Does the proposed commitment amount keep the bank below the 5% statutory cap and any other applicable regulatory or diversification limits? Side letter. What bank-specific protections and rights are required to be negotiated into the side letter? 4. The Side Letter: Provisions Banks Commonly Request A bank’s side letter is typically where the regulatory and relationship benefits described above are secured for the bank. Bank investors in SBIC funds typically negotiate the provisions below. The chart below summarizes typical side letter requests and provides additional context and negotiating points for those requests, although outcomes vary with the size and timing of the bank’s commitment and its role in the particular fundraise.

Provision

Typical Side Letter Requests

Additional Notes on These Provisions

MFN rights are commonly included in bank side letters. However, the carve-outs from the MFN process vary, and banks should pay attention to the number and breadth of those carve-outs to ensure the MFN rights are not unreasonably diluted.

Most favored nation (MFN) rights relative to investors with equal or smaller capital commitments to the bank.

Most favored nation provisions

A quarterly CRA report listing each new portfolio investment and the location of the portfolio company’s headquarters and significant operations, together with the information the bank needs for CRA measurement and examinations. When the bank identifies a qualifying investment, the SBIC fund manager confirms in writing, to the extent CRA regulations permit, that the bank is assigned the credit or, if other limited partners claim the same investment, a pro rata share based on commitments. A covenant that the SBIC fund manager will consider investments in portfolio companies located in the bank’s assessment areas, as identified by the bank and updated from time to time.

CRA credit is not guaranteed through this process, as the bank’s regulator determines CRA consideration. However, SBIC fund managers are generally receptive to providing the information banks need to claim the credit. Banks should also pay attention to whether the credit allocation is an “opt-in” or “opt-out” structure, as opt-in structures generally provide greater CRA credit allocation to bank investors, within certain limits, than opt-out structures.

CRA credit allocation

While the SBIC fund manager may agree to use commercially reasonable efforts to consider these investments, the decision whether to make them remains in the general partner’s discretion.

Assessment-area investment

Provision

Typical Side Letter Requests

Additional Notes on These Provisions

This is typically structured as an acknowledgment of the bank’s interest rather than a firm commitment from the SBIC fund. The SBIC fund manager has no duty to make these introductions, may work with other lenders, and no portfolio company is required to use the bank. However, many managers recognize and appreciate the benefit of being a good partner to banks and will typically try to make good on these requests. This is typically structured as an acknowledgment of the bank’s interest rather than a firm commitment and may contain parameters governing the decision timeline, information to be provided, and co-investment terms and structure.

A covenant to introduce senior lending opportunities the SBIC fund manager sees that suit the bank, such as portfolio refinancings or credits outside the SBIC fund’s mandate.

Senior lending opportunities

Acknowledgment of the bank’s interest in co-investing, with the right to direct any opportunity to its affiliates.

Co-investment

The right to share certain fund information with banking regulators on an ongoing basis in connection with routine examinations without notice to the SBIC fund manager and to make periodic, legally required disclosures of the investment’s basic terms. If the SBIC fund surrenders its license, it will comply with the OCC’s retention conditions (no new investments other than cash equivalents). The SBIC fund manager will give prompt notice if the SBA intends to revoke the license. If loss of the SBIC fund’s SBIC status would put the bank out of compliance with banking law, including the Volcker Rule, the bank may withdraw or transfer without the manager’s consent. For a pre-license closing, the bank’s capital commitment is conditioned on licensure and SBA approval of the side letter. Contributions are held in escrow and returned without deduction if the SBIC fund does not obtain the SBA’s licensing approval within a set period, such as 120 days. After licensing, a representation that the license is in force and that no revocation proceedings are pending. Quarterly copies of SBA Form 468, prompt notice of unresolved material SBA examination findings, license revocation, transfer to the SBA’s liquidation office or a decision to seek receivership, and periodic capital impairment information. Permitted transfers to bank affiliates, notice when other limited partners seek to sell, and an opportunity to bid when the SBIC fund manager is marketing the sale of another limited partner’s interest.

This provision may vary based on the state and federal regulatory requirements of the bank.

Regulatory disclosure

This provision may include a valuation dispute provision and covenants regarding the payment of the withdrawal amount.

License surrender and revocation

Escrow terms and structures vary, but this general approach is widely accepted.

Licensing conditions

Enhanced reporting is generally accepted, although the specific reporting packages and forms vary by SBIC fund manager.

Enhanced SBA reporting

Affiliate transfers are usually accepted, but remain subject to SBA consent and investor-eligibility requirements. Notices of secondary purchase opportunities are often limited to commercially reasonable efforts.

Transfers and secondaries

Provision

Typical Side Letter Requests

Additional Notes on These Provisions

Granting advisory board seats is often conditioned on meeting a certain size threshold and is more likely to be granted if the bank comes in at earlier closings than at a final closing.

Advisory board participation

An advisory board seat for larger capital commitments is common.

No guaranty, opinion or financial information owed to the SBIC fund’s subscription line lenders, no deemed consents, minimum notice periods for capital calls, notice of other limited partners’ defaults, and the option to opt out of certain alternative investment vehicles.

These are generally routine requests, but responses and specific language vary by SBIC fund manager.

Other investor protections

One practical point is that a bank’s side letter is not effective until approved by the SBA. However, the SBA permits provisions that relate solely to the bank’s ability to make the investment to become effective upon execution rather than upon SBA approval. This is a generally accepted approach among SBIC fund managers for encouraging bank investment before the SBIC fund receives its SBIC license. 5. The Principal Risks of Investing in SBIC Funds and How Banks Can Manage Them An SBIC fund interest is still a private fund investment, notwithstanding the SBA licensing requirement and oversight. The principal risks are familiar: illiquidity, manager selection, credit and equity market risk, valuation uncertainty, leverage, concentration, and limited investor control. The SBA framework mitigates some of these risks, but not all. The SBIC licensing process screens the SBIC fund manager and strategy. Ongoing reporting and examinations encourage compliance and adoption of best practices by SBIC funds. The SBA’s eligibility and diversification rules provide helpful guardrails as well. However, none of these protections change the basic reality that a poorly chosen SBIC fund manager or a weak vintage can lose money. The bank’s best protection remains disciplined SBIC fund manager selection, conservative sizing, diversification across managers and vintages, and a comprehensive due diligence and legal review process for each SBIC investment. 6. Takeaways for Bank Investors For sophisticated bank investors, SBIC funds can be a productive tool for accessing private fund returns while supporting CRA objectives and generating ancillary commercial benefits. A well-selected SBIC fund offers access to a diversified pool of small business private credit and equity investments, the potential to enhance returns through SBA leverage, a clear Volcker Rule exclusion, the possibility of CRA credit, and potential access to new senior lending and treasury management relationships. The IAA Act increased the leverage caps for individual funds and families of funds, which is expected to increase the size of funds in the SBIC program and, in turn, to draw larger institutional investors and SBIC fund managers into the program. 14 How Bass, Berry & Sims Advises Both Banks and SBIC Fund Sponsors The Bass, Berry & Sims Investment Funds team represents both SBIC fund sponsors and their institutional investors. We are one of the few practices nationwide representing both SBIC funds and Rural Business Investment Company (RBIC) funds. We guide sponsors through licensing, formation and capitalization, then through post-licensing compliance, SBA examinations and investment activity. At the end of an SBIC fund’s life, we handle the orderly wind-down process, the repayment of SBA leverage and the surrender of the license.

On the investor side, we represent banks and other institutional investors in SBIC fund capital commitments, tailoring each review to the investor’s own regulatory profile, including regulatory constraints faced by banks. Because we also draft and negotiate these same side letters for SBIC fund sponsors, we have a deep understanding of which provisions are market and likely to be accepted by SBIC fund managers, and which are likely to be rejected. That perspective lets us focus a bank’s negotiation on the terms that matter and close efficiently. We also draw on the firm’s tax, employee benefits, finance, and other lawyers as each investment so requires. Important notice. This white paper is for general informational and marketing purposes only and does not constitute legal, tax, accounting, regulatory or investment advice. Bank investment authority and regulatory treatment vary by charter, state law, facts, and supervisory expectations. Institutions should consult their own advisers and regulators as appropriate.

Authors

Bryan Bylica 615-742-7863 bryan.bylica@bassberry.com

Philip Kassel 615-742-6217 phil.kassel@bassberry.com

Appendix 1

Office of the Comptroller of the Currency, Community Developments Insights: Small Business Investment Companies: Investment Option for Banks (Sept. 2015), https://www.occ.treas.gov/publications-and-resources/publications/community-affairs/community-developments-insights/ca-insights- sep-2015.html; see also 15 U.S.C. § 661 et seq .; 13 C.F.R. pt. 107. 2 U.S. Small Business Administration, Small Business Investment Companies (last updated Oct. 1, 2026), https://www.sba.gov/partners/sbics (Standard Debenture and Accrual Debenture terms). 3 Investing in All of America Act of 2025, Pub. L. No. 119-92, § 2(b), 140 Stat. 825 (May 19, 2026) (amending 15 U.S.C. § 683(b)(2)); U.S. Small Business Administration, News Release 26-53, Administrator Loeffler Applauds Signature of Investing in All of America Act (May 21, 2026); see also Bass, Berry & Sims PLC, SBA Issues Supplemental Notice on Increased SBIC Leverage Under the Investing in All of America Act (July 2026) (increased leverage available to standard debenture licensees). 4 13 C.F.R. § 121.301(c)(1)–(2). 5 The 5% cap applies to national banks, Federal Reserve member banks, nonmember insured banks to the extent state law permits, and federal savings associations. See 15 U.S.C. § 682(b)(1)-(2); 12 C.F.R. § 7.1015(a)-(b). Bank holding companies may invest in SBIC funds under Section 4(c)(5) of the Bank Holding Company Act, and the Federal Reserve’s longstanding Regulation Y interpretation applies a comparable limit of 5% of capital and surplus. See 12 U.S.C. § 1843(c)(5); 12 C.F.R. § 225.111(b)(1). A national bank may also rely on its public welfare investment authority, which carries a separate limit of 5% of capital and surplus absent OCC approval. See 12 U.S.C. § 24 (Eleventh); 12 C.F.R. § 24.4(a); OCC, Community Developments Insights: Small Business Investment Companies: Investment Option for Banks , supra note 1, at 13-14. 6 U.S. Small Business Administration, Trust Certificate Rates: SBIC Debenture Pools (last updated Sept. 22, 2026) (Sept. 2026 pool priced Sept. 15, 2026). 7 A “green light” letter from the SBA invites an applicant to submit a final license application once sufficient capital has been raised for the SBIC fund to hold an initial closing. The letter is issued after SBA's Investment Committee, its Agency Licensing Committee and the SBA Administrator each approve the application. 8 12 C.F.R. § 44.10(c)(11)(i); Prohibitions and Restrictions on Proprietary Trading and Certain Interests in, and Relationships With, Hedge Funds and Pri- vate Equity Funds, 85 Fed. Reg. 46,422 (July 31, 2020); 12 C.F.R. § 7.1015(d); see also 12 C.F.R. §§ 248.10(c)(11)(i) (Federal Reserve), 351.10(c)(11)(i) (FDIC). 9 12 C.F.R. § 25.12(g)(3), (t) (OCC, 1995 framework); see also 12 C.F.R. §§ 228.12(g)(3), (t) (Federal Reserve), 345.12(g)(3), (t) (FDIC) (parallel 1995-frame- work provisions). 10 Community Reinvestment Act Regulations, 91 Fed. Reg. 52,114 (proposed Aug. 12, 2026) (OCC and FDIC); OCC Bulletin 2026-35, Community Reinvest- ment Act: Interagency Notice of Proposed Rulemaking (July 31, 2026). 11 Interagency Questions and Answers Regarding Community Reinvestment, 81 Fed. Reg. 48,506, 48,508 (July 25, 2016) (Q&A § __.12(g)(3)-1, presump- tion that investments in SBIC funds promote economic development); Interagency Questions and Answers Regarding Community Reinvestment, 75 Fed. Reg. 11,642, 11,652 (Mar. 11, 2010) (Q&A § __.12(t)-4, listing SBIC funds among examples of qualified investments). 12 Interagency Questions and Answers Regarding Community Reinvestment, 78 Fed. Reg. 69,671 (Nov. 20, 2013) (Q&A §§ __.12(h)-6 and __.23(a)-2, ad- dressing broader statewide or regional areas and investments in funds). 13 OCC, Community Developments Insights: Small Business Investment Companies: Investment Option for Banks , supra note 1. 14 OCC, Community Developments Insights, supra note 1, at 5.

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