A controversial new study suggests that 6% of the government loans taken by registered investment advisory firms to survive business disruption during the Covid-19 pandemic were fraudulently overinflated.

The study focuses on the Paycheck Protection Program loans taken out by the 2,999 investment advisory firms registered with the Securities and Exchange Commission. It suggests the fraud was most likely a result of firms overinflating their payroll.

The study, called “Fraud and Abuse in the Paycheck Protection Program?” also found that the firms taking advantage of the program often have a history of regulatory misconduct.

“Using a conservative approach, we estimate that more than 6% of the $590 million in PPP funds received by companies in the investment management industry consisted of statutory overallocations to firms abusing the program,” said the study, whose authors include William Beggs (of the University of the San Diego School of Business) and Thuong Harvison (at the University of Arizona’s Eller College of Management).

Summaries by the U.S. Department of Justice say the most common scheme for PPP fraud involves falsifying payroll records or the number of company employees in loan applications. In 2020, President Donald Trump ordered that the loans be made available so companies could survive the economic and market upheaval triggered by the pandemic.

To validate the DOJ’s point, the study’s authors investigated 299 PPP loans made to advisory firms, which were allowed to apply for loans equal to two and a half times their average monthly payroll, plus employee-paid benefits and taxes. The authors found a number of the loans taken out by RIA firms appear to exceed those loan limits.

One example cited by the study involves a Walnut Creek, Calif.-based advisory firm that received $127,852 in PPP funds to retain two employees. “Based on the program loan limits of two and a half times average monthly payroll, the maximum loan amount for a two-person firm, even assuming both employees earned in excess of $100,000 over the past 12 months, would be $200,000 divided by 12 times 2.5, or $41,167,” Beggs and Harvison said.

When contacted, the firm, which asked to remain anonymous, accused the researchers of getting the math wrong, but Beggs stands by his research. It is also important to note that the firm now has three employees, and may have had more when it applied for its PPP loan. Its principal did not respond to further queries.

“Unfortunately, we do not have access to firms' exact payroll data, so could only estimate need based on the number of employees the firm listed on their most recent Form ADV, filed before March 31, 2020,” Beggs said to Financial Advisor magazine.

“I am convinced we were generous in the amounts we allotted the firms and assumed that each employee earned the maximum amount allowed by the PPP, which is $100,000,” Beggs said. “Yes, it is possible that this number could understate the legal amount the firm could draw if the firm had significantly more employees during 2019 than they disclosed on their Form ADV at the beginning of 2020, and each of these employees ‘missing from our data’ were high earners,” he added.

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