On Dec 11 2014 by H. Ronald Klasko
The Evolving Landscape for EB-5 Escrows
An important part of my responsibility to my regional center and developer clients is to keep up to date on prevailing trends among migration agents, especially in China (since China represents over 80% of the EB-5 investor market). In doing so, I have noted that one of the biggest changes in the marketplace in the last year involves the escrow account.
A year or two ago, the standard in the marketplace was a “traditional escrow” whereby each investor’s invested funds remained in escrow until that investor’s EB-5 petition was approved. This worked relatively well when USCIS processing times were six months. As processing times increased to 12 months or 18 months, or in some cases even longer, traditional escrow has been eliminated as an option for many developers who simply can’t wait that long for EB-5 capital to be made available to the project.
As a result, although some projects still proceed with traditional escrow, most agents and investors now realize that traditional escrow is not feasible for many otherwise very desirable EB-5 projects. Three forms of escrow have evolved in its place.
The most favored escrow by many agents is the “early release” escrow. This escrow provides that all of the investors’ funds will be released from escrow when an exemplar I-526 project pre-approval is approved or when one or more investors’ I-526 petitions are approved, or a combination of both. These events mean that USCIS has approved the project, leaving the approval of the investor’s source and path of funds as the investor’s sole risk. However, the disadvantage of the early release escrow is that it may take 12 to 18 months to get the first petition, or exemplar petition, approved, which can be an unacceptable length of time to the developer. This process can be speeded up by filing an exemplar petition before the marketing process even begins, which would likely result in an exemplar approval long before any investors are approved. Another strategy is having one or two investors ready to file before the full marketing effort commences.
The “holdback escrow” results in substantial investment dollars getting to the project much quicker. The concept of the holdback escrow is that most of the investment dollars are released to the project upon the filing of the I-526 petition. However, a certain amount (often 20%, sometimes more or less) is held back in escrow until the investor’s I-526 petition is approved. This concept is premised on an approximate 20% denial rate of I-526 petitions. However, it does not address the concern of agents and investors regarding the prospect of all petitions being denied if the project is found non-compliant.
The structuring of the holdback in the offering documents is critical to make certain that all of the money can be traced to the investor and to make certain that none of the investor’s money is held back once that investor’s I-526 petition is approved. The holdback escrow has been approved for many hundreds of investors. However, without warning, USCIS started challenging holdback escrows on various regional center and project applications. The challenge was based on the issue of whether any of the held back money from earlier investors could be used to repay any future denied investors and not go into the project. This position of USCIS failed to take into account the fungibility of money.
Our office represented the regional center in the application that went to the Decision Board for review of the holdback issue. We presented substantial proof of both the large number of applications that have been approved using the exact holdback language that was utilized in this regional center application and the even larger number of applications that were pending using this same language that had already been approved so many times. After a lengthy delay, the USCIS Decision Board approved the application. Since no written decision was issued in connection with the approved application, we do not know the ultimate reasoning of USCIS and whether the approval was limited to the language that we carefully crafted in our application. At a recent stakeholders engagement meeting, USCIS indicated that approval of holdback escrows would be case-by-case depending upon the specific language of the holdback escrow agreement.
Some agents are becoming receptive to a full release from escrow when the investor’s I-526 petition is filed. This is usually accompanied by a guarantee from the developer to return the investor’s money in the event of an I-526 denial within a defined period of time. This option is only available to developers who have a certain credibility in the marketplace and whose guarantee is deemed to be credible. Usually the guarantee is not triggered until some months (often 3) have passed, during which the agent will attempt to replace the failed investor in the project.
An interesting phenomenon is how agents who previously insisted on traditional escrow now sometimes push for holdback escrow or escrow release on I-526 filing. The reason for this is that agents are generally compensated when the money is released from escrow. As a practical matter, agents may be more likely to promote a project that will result in compensation to the agent more quickly. However, this has to be balanced against the likelihood that the project may be more difficult to sell to investors, who seek the most protection for their investment dollars.
This is one of many issues that I monitor closely in my ongoing dealings with agents on behalf of my clients.