On Jul 26 2017 by Daniel B. Lundy
The Anatomy of an EB-5 Work Out: What Happens After the SEC Files a Complaint and How Can the EB-5 Investors Protect their Interests
By Daniel B. Lundy, Esq. and Catherine DeBono Holmes, Esq.
EB-5 Investors need to understand what happens when the SEC Files a Complaint against the operator of their EB-5 Project and what the EB-5 Investors can do to protect themselves when that happens.
While the EB-5 program is not necessarily more prone to fraud and abuse than any other federal benefits program, EB-5 has certainly seen its share of problems lately. The stories typically involve allegations of fraud and misappropriation of investor funds, that instead of going to pay for the costs of a particular EB-5 project, as identified in a business plan and set of offering documents, were diverted for the personal use of one or more individuals involved in the raising and investing of EB-5 funds.
While there certainly are ways to minimize the risks of fraud and misappropriation, including having a good EB-5 compliance program and third party review of financial transactions, this article is not about how to prevent fraud. This article is meant to provide insight to investors and others about what happens once the SEC steps in, and what to do about it to help protect the immigration process for investors. It is based on our experience on other cases in which the SEC has accused a project promoter of fraud or misappropriation of EB-5 funds, and a receiver has been appointed.
Step 1: The Filing of the SEC Civil Lawsuit
The SEC, upon concluding an investigation, will file a civil lawsuit against the party or parties accused of fraud or misappropriation. Please note that the SEC is a civil enforcement agency, and not a criminal enforcement agency (although the SEC civil action may form the basis for later criminal charges by the Department of Justice). All of the entities involved will be listed as defendants in the lawsuit, as well as the individuals allegedly responsible for the misconduct. The SEC will, in almost all cases, coordinate with USCIS during the investigation, and USCIS is often aware of a potential problem before investors. Unfortunately, USCIS cannot and does not share this information while the investigation is ongoing.
Step 2: The SEC Action to Seize Assets and Appoint a Receiver
In the complaint, or in a separate filing shortly after the complaint has been filed, the SEC typically seeks a preliminary injunction or temporary restraining order seeking to seize the assets of the defendants and all the various entities involved. The SEC will also ask the court to appoint a receiver to manage and preserve the assets of the individual defendants and related entities (generally referred to as the “estate”). The request for the seizure of assets and appointment of a receiver almost always comes quickly after the filing of the complaint to prevent the defendants from being able to quickly move those assets and hide them where they may be difficult to recover.
Step 3: The action by EB-5 investors to request a specific receiver
In our experience, the choice of a receiver has a substantial impact on the likelihood of the affected EB-5 investors obtaining conditional and unconditional residence, and should be considered of paramount importance. The receiver is appointed by the court, and his or her function is to preserve the estate for the benefit of its creditors. Note that preserving the immigration interests of investors is not explicitly part of the receiver’s job description. A good receiver will recognize that the immigration interests of the EB-5 investors are part of the benefit the investors expected to receive in return for their investments, and will work to preserves those interests as part of the estate. Other receivers may see the investors’ immigration interests as irrelevant, or at least as a significantly lower priority than preserving the economic value if the estate. In all cases, whether good or bad, the receiver does not work for the investors or represent the investors’ interests. However, the choice of a receiver is important enough that EB-5 investors in a project that is unfortunate enough to end up in an SEC civil case have a definite interest in the choice of receiver, and should take steps to make sure that the court hears their voices before making an appointment.
Step 4: The Process of the Receiver ‘s Review
Once appointed, the receiver will ask the court to issue subpoenas, and will take other steps necessary to find, freeze, and manage the assets of the defendants and the estate. The receiver will also begin the process of attempting to complete an accounting of where all the money went, so that he or she can prepare a preliminary report for the court. Ultimately, the receiver will obtain a forensic accounting report of the accounts, books and records of the defendants and the estate. The receiver’s report can be very useful in demonstrating investment and job creation for EB-5 purposes.
Step 5: The Receiver’s Work-Out Plan
Once the accounting work is done, and the court makes a finding on the underlying charges against the defendants (or the defendants enter into a settlement with the SEC), the receiver will make a plan to deal with the estate. Frequently, this means the liquidation of the estate and repayment of creditors, and, if there is any money left, repayment of the investors. However, other arrangements are possible, and may even be able to preserve the immigration process for the investors.
Step 6: Analyzing How the Work-Out Plan Will Affect the EB-5 Investors’ Visa Petitions
In our experience, by the time the SEC has filed a complaint, the EB-5 funds have usually been released form escrow and spent. In the one or two cases where money remained in escrow, it was able to be returned to investors. However, this effectively ended their immigration process, because once their money is returned, they no longer meet the requirements of the EB-5 program. If money is still available to repay investors, then the investors need to evaluate whether they wish to stay invested and pursue their green cards, or get their money back and either abandon the immigration process or start over with a new EB-5 investment. This article is focused on cases where the money is not readily available to return.
In order for the investors to have their I-526 petitions, EB-5 visa applications, and I-829 petitions approved by USCIS and receive conditional and then unconditional permanent residence, several requirements must be met. An investor must invest in a New Commercial Enterprise (NCE). That investment must be maintained, at-risk, until the approval of the investor’s I-829 petition. As a result, any work-out that results in the repayment of EB-5 investors or the dissolution of the NCE prior to the end of their conditional residence periof will be fatal to their immigration process.
An EB-5 investor’s funds must be deployed to the entity most closely associated with job creation. If the jobs are created at the NCE, then this means the funds stay in the NCE. If the jobs are created at a separate job creating enterprise (JCE), then 100% of the funds must be deployed to that entity and used for job creating activity. If the NCE or JCE is dissolved prior to the use of the EB-5 funds in job creating activity, then the investors will likely not qualify for conditional or permanent residence.
Similarly, every EB-5 investor’s investment must result in the creation of at least 10 new jobs. If the business is liquidated before this, it could prevent the investor from becoming a conditional or unconditional permanent resident.
Finally, for investors who have not received conditional permanent residence, a material change in the business plan of their EB-5 project may be grounds for the denial or revocation of the I-526 petition, and could be fatal to the immigration goals of the investors. For investors that are already conditional residents, a material change in the business plan prior to filing an I-829 petition is not necessarily fatal.
As you can see, the liquidation of the estate and repayment of creditors and the EB-5 investors may be contrary to the immigration interests of the EB-5 investors. This often leads to the need for a more creative approach to the work-out. The best work-out plan will include plans to make sure that NCEs and JCEs that are potentially viable can continue to be developed and operated to keep the EB-5 investors invested and ensure that the jobs are created.
Step 7: Analyzing the Actions that the EB-5 Investors May Take to Salvage their EB-5 Project
If an EB-5 project is substantially complete, it may be possible for EB-5 investors to take control of the NCE and/or JCE from the defendants and complete the project. It may be possible to do so even if the project is not substantially complete. Similarly, it may be possible to find a qualified developer to purchase and take over a JCE and complete the project according to the business plan. In some cases, EB-5 investors may need to get together and invest more money to make up for shortfalls caused by the misuse of their funds. In other cases, bank loans to the project may need to be renegotiated, or other, non-EB-5 funding secured. In some cases, it may not be possible to salvage the immigration interests of the investors, in which case they would want to do what they can to preserve as much capital as possible in the hopes of getting their money back. However, with careful planning and coordination between investors, many cases may be salvageable.
Key Considerations for EB-5 Investors in an EB-5 Project Work-Out:
There are several key considerations for a successful EB-5 work-out.
1) Time is of the essence. Investors need to take action quickly to preserve their interests.
2) Communication and coordination. In cases where the EB-5 investors are in contact with each other and can coordinate on forming and pursuing a plan, they have a much better chance of success than if the investors are not in contact with each other. Some EB-5 projects have dozens or even hundreds of investors, or sometimes the SEC action involves multiple NCEs and JCEs associated with one or more defendants. EB-5 investors should communicate across NCEs and JCEs, not just with investors in their own NCE or JCE. Additionally, it may be helpful to choose a representative to speak on behalf of the group.
3) Hire an attorney. Remember, the receiver does not work for the investors. Neither does the SEC. The defendants (i.e. the guys accused of committing fraud and stealing your money) will have their own attorneys, but they do not represent the interests of the investors. Unless the investors have their own attorney to get involved in the court action, no one will be speaking on their behalf.
4) Hire the right attorneys. EB-5 is an immigration program. Investors need a good immigration attorney with experience in dealing with problematic EB-5 projects and receiverships. EB-5 is a specialized field within immigration, but dealing with projects that may have substantial complications is not something every EB-5 attorney can handle. Investors need an attorney with substantial experience in structuring EB-5 deals to be compliant with the EB-5 regulations and successfully dealing with challenging EB-5 cases at the RFE stage, NOID stage, or on appeal or in litigation. Investors are also going to need a securities attorney that has EB-5 experience and can both negotiate on behalf of investors and litigate on behalf of investors in the SEC action or potentially in a separate lawsuit against the defendants.
Conclusion: In the event of an SEC enforcement action against an EB-5 project, EB-5 investors will have a better chance of obtaining USCIS approval of their I-526 petitions, EB-5 visa applications, and I-829 petitions and receiving conditional and then unconditional permanent residence if they take an active role and work with experienced legal counsel in the work-out process.
About the Authors
Daniel B. Lundy is a Partner and a member of the EB-5 practice of Klasko Immigration Law Partners, LLP. Mr. Lundy leads the Regional Center/Developer and EB-5 Compliance practice areas, and represents developers and others who seek to use foreign investment funds under the EB-5 program to fund their projects, either through the formation of a Regional Center or by joining with an existing Regional Center. Mr. Lundy works with various securities lawyers, economists, business plan writers and other professionals in the preparation and filing of Regional Center designation and Regional Center amendment applications. Mr. Lundy is experienced in reviewing Regional Center and project business plans, economic reports, securities offering documents, and corporate documents for compliance with the EB-5 program requirements, and in consulting and advising clients on the specific immigration requirements of the EB-5 program. Mr. Lundy has also successfully represented numerous immigrant investors in their EB-5 petitions and applications. For the last two years, he has been named as one of the top 25 immigration lawyers in the country by EB5 Investors magazine.
Catherine D. Holmes is Chair of the JMBM Investment Capital Law Group, and she has practiced law at JMBM for nearly 35 years. She has also worked as a senior member of the JMBM Global Hospitality Group and JMBM Chinese Investment Group. Within the Investment Capital Law Group, she helps real estate developers and business owners, brokers, investment advisers and investment managers raise and manage investment capital from U.S. and non-U.S. investors. In the last five years, she has represented over 100 real estate developers obtain financing through the EB-5 immigrant investor visa program for the development of hotels, multi-family and mixed use developments throughout the U.S. She has also acted as lead counsel on numerous hotel and mixed-use developments and transactions in the U.S., Europe, China, South America and Asia Pacific regions, as well as hotel management and franchise agreements and public-private hotel developments. She has also represented private investment fund managers, registered securities broker-dealers and investment advisers on securities offerings, business transactions and regulatory compliance issues. For the last two years, she has been named as one of the top 25 securities lawyers in the country by EB5 Investors magazine.
The material contained in this article does not constitute direct legal advice and is for informational purposes only. An attorney-client relationship is not presumed or intended by receipt or review of this presentation. The information provided should never replace informed counsel when specific immigration-related guidance is needed.