11 Dec Failed EB-5; 5 Risks and How to Protect Yourself
RISK – every investment and business venture has it, but when it comes to an EB-5 investment, savvy investors and their advisors must learn how to protect themselves and their clients from EB-5 risks that can be avoided.
In EB-5, virtually all projects offer the same reward – a green card – and for the most part offer limited financial returns that are far outweighed by the investment’s risk. So when the payout is the same, it is important that the team that structures the investment opportunity works to mitigate any unnecessary risks that can lead to a failed immigration outcome or a failure to return capital at the conclusion of that process.
The majority of EB-5 opportunities are structured from the developer’s perspective – with the goal of raising a large sum of cheap capital as quickly as possible without have an impact on the developer’s day-to-day business.
But what about the EB-5 investor’s interests?
The developer’s key need from EB-5 is low-cost capital, resulting in a low monetary return on the investment for the EB-5 investor. An investor should therefore ensure that his/her risk associated with that low return is commensurately low.
What are the key factors in making sure the that an EB-5 investor’s interests are safeguarded while keeping the developers needs in mind?
While the vast majority of I-526 petitions are approved, an I-526 can be denied for a variety of reasons including a problem with the project, the investor’s source of funds or – as we’re expecting to experience soon – a change in regulations or USCIS adjudication policy.
Most regional centers use all or most of the investor’s funds prior to I-526 adjudication, which limits their ability to protect investors against I-526 denials. In the event of an I-526 denial, investors may have a very tough time getting their $500,000 back in a timely manner. Investors should seek out projects that either (1) only release funds to the developer upon individual investor’s i-526 approval or (2) carry a guaranty of repayment from a high net worth individual in the event of I-526 denial. This way, the investor knows that if they’re denied, the money is coming right back to them.
In order for the investor to advance from I-526 to I-829 approval, the project must create a minimum of 10 jobs per investor. Most projects include job creation buffers of between 15 and 30% with the jobs created after the investment is made. Projects that are “bridged” allow for job creation to occur prior to EB-5 investment, safeguarding the investor.
A big risk, which we have seen occur in the news recently, is the possibility that Developer will not complete the project and/or repay investors. If the developer defaults on the project, investors will not receive their green cards and in many cases stand to lose their investment as well.
When choosing an investment, it is critical to choose a project led by an experienced and reputable developer. Further, make sure that the developer has more to lose by defaulting than by fulfilling responsibilities. Projects that carry a higher percentage of developer equity, are more favorable for investors, as the developer has more to lose in the event of default. Additionally, choosing a project managed by an EB-5 Regional Center that is independent – not owned by the developer promoting the project – ensures that the regional center will be unconflicted and able advocate for the rights of its investors.
There is always the possibility that a Developer will not complete the EB-5 project and/or repay investors. Potential investors should ensure that size of the total EB-5 investment for the project is based on traditional real estate finance metrics and that the repayment doesn’t rely upon a rising market – or even stability in capital markets – to affect timely repayment. Cash flow from the project’s operations should be sufficient to repay the investment. An EB-5 Regional Center that structures projects based real estate finance fundamentals – as opposed to sizing an investment based upon job creation – will usually host safer investments.
Investors and Investment Advisors should conduct checks into background, reputation and experience of both the EB-5 Regional Center and the real estate developer of a potential project. If a regional center operator gives you assurances of “trust me”, that is your cue to look further. Projects that have been vetted by reputable broker-dealers and registered investment advisors – who are required by Finra to conduct background checks on the principals of an offering – expose an investor to less risk.
Any investment which has potential benefit is accompanied by some degree of risk. EB-5 is no exception. Researching project structure as well as developer and regional center experience and reputation can help mitigate these risks and create a positive and successful EB-5 investment.