EB5 Investors Magazine Volume 2 Issue 2 | Page 21

issuers ’ general obligation or guaranteed security interests , the conclusion may not be so clear . Take , for example , the Seattle 520 Bridge Replacement Project that raised $ 47.5 million from 95 EB-5 investors in Washington state bonds to replace the aging State Route 520 , a floating bridge across Lake Washington . This is the first occasion in which EB-5 investor funds were used as part of the capital stack to fund a public infrastructure project , and though not without controversy , the exemplar ultimately received approval .
The significance of the Seattle bridge project funding lies in the distinction between the two basic types of municipal bonds : ( 1 ) general obligation bonds (“ GOB ”), which are secured by the full faith and credit of the issuer ; and ( 2 ) revenue bonds secured by tolls and charges from the facility built .
Inasmuch as general obligation bonds amount to the issuer ’ s personal guarantee of the return of all or part of the capital invested and the EB-5 regulations prohibit such a guarantee , GOB with the usual 20 year maturity date per se violate the requirements of the EB-5 program . However , a shorter maturation term opens the door to a more nuanced discussion .
Revenue bonds in the “ at risk ” discussion , on the other hand , are more straightforward . The revenue bonds used in the Seattle bridge project met the “ at risk ” requirements because , by their nature , revenue bonds contain variables that are unpredictable .
In the Seattle bridge project , however , the capital stack combined both GOB and revenue bonds as sources of funding . The project developers relied on the argument that the GOBs posed sufficient risk to investors because of a shorter maturation term . Because EB-5 investor funds were scheduled to be returned in five years , rather than the typical 20 , the full recovery of the capital was not certain . This means that the EB-5 investors bear the risks of liquidating the bonds and seeking returns prior to the maturity date , which precludes any guarantee of return .
In addition , the project was structured in such a way that the bonds were purchased by the limited partnership from the primary bonds market . In five years , the limited partnership would sell the bonds on the secondary market based on current market value . The EB-5 investors may not be able to recover the $ 500,000 investment amount because bond price is subject to market rate fluctuation . Thus , the investors face both a chance to gain and a risk of loss in relation to the return of capital . The investors thus bear liquidity risks ( finding a buyer on the secondary market ) related to the return of EB-5 capital , including interest rate risks , default risks and other financial risks . Furthermore , if a project is not completed for any number of reasons there remains a risk of loss for the investors .
The authors spoke with the Washington Regional Center and learned the exemplar petition of the bonds structure was approved by USCIS in August 2013 . At the time of writing this article , I-526 submissions were still pending .
Investments guaranteed by property ownership Another situation where the “ at risk ” requirement has been tested is in structures that guarantee eventual property ownership to investors . Some potential EB-5 investment project offerings include a “ reservation agreement ,” so that in the event that the project fails , the investor will still be compensated with a unit of the existing real estate . Unlike the example above , this sort of practice has been found to violate the investment “ at risk ” requirement .
The authors have examined several project scenarios employing an arrangement where a portion of the investors ’ funds would be utilized to purchase already-constructed vacation suites requiring renovation and remainder of the EB-5 funds would be used for the construction and renovation of the common areas . The Administrative Appeals Office ( AAO ) has deemed a similar case as not in compliance with EB-5 regulations , stating that such a proposal “ is a marketing strategy to attract buyers for vacation suites rather than investors of capital in a new commercial enterprise .” 3
The AAO denied the structure because guaranteeing ownership of a property unit through investment is a form of guaranteed return which does not meet the investment “ at risk ” requirement . Looking back to the guidance offered by Izummi , for the capital to be at risk , there must be a risk of loss and a chance for gain . The promise to guarantee the investment by property ownership negates the risk of loss element .
Determining risk When trying to determine whether such an investment is actually at risk , the following should be taken into account :
( i ) What is the evidence under 204.6 ( j )( 2 ) that the investor has placed the required amount of capital at risk for the purpose of generating a return on the capital placed at risk ?
( ii ) Is there or will there be evidence of funds transferred or committed to be transferred to the new commercial enterprise in exchange for ( unredeemable ) shares of stock ?
( iii ) Is there or will there be evidence of any loan or mortgage agreement , promissory note , security agreement , or other evidence of borrowing which is secured by assets of the investor , other than those of the new commercial enterprise , and for which the investor is personally and primarily liable ?
The project proposal should be crafted in such a way that the component parts are viewed as a whole enterprise in which the investors are making their investment and for which jobs are going to be created , and the investor needs to establish that the risk at which his / her investment is placed is tied to the successful development of the whole project . The proposal must avoid the appearance that the investors will be making individual investments in separable aspects of the development of the property ( e . g ., purchasing private property ).
Continued on page 20
3
Administrative Appeals Office Decision W09 000 980 ( April 26 , 2011 ). www . EB5Investors . com 19
issuers’ general obligation or guaranteed security interests, the conclusion may not be so clear. Take, for example, the Seattle 520 Bridge Replacement Project that raised $47.5 million from 95 EB-5 investors in Washington state bonds to replace the aging State Route 520, a floating bridge across Lake Washington. This is the first occasion in which EB-5 investor funds were used as part of the capital stack to fund a public infrastructure project, and though not without controversy, the exemplar ultimately received approval. The significance of the Seattle bridge project funding lies in the distinction between the two basic types of municipal bonds: (1) general obligation bonds (“GOB”), which are secured by the full faith and credit of the issuer; and (2) revenue bonds secured by tolls and charges from the facility built. Inasmuch as general obligation bonds amount to the issuer’s personal guarantee of the return of all or part of the capital invested and the EB-5 regulations prohibit such a guarantee, GOB with the usual 20 year maturity date per se violate the requirements of the EB-5 program. However, a shorter maturation term opens the door to a more nuanced discussion. Revenue bonds in the “at risk” discussion, on the other hand, are more straightforward. The revenue bonds used in the Seattle bridge project met the “at risk” requirements because, by their nature, revenue bonds contain variables that are unpredictable. In the Seattle bridge project, however, the capital stack combined both GOB and revenue bonds as sources of funding. The project developers relied on the argument that the GOBs posed sufficient risk to investors because of a shorter maturation term. Because EB-5 investor funds were scheduled to be returned in five years, rather than the typical 20, the full recovery of the capital was not certain. This means that the EB-5 investors bear the risks of liquidating the bonds and seeking returns prior to the maturity date, which precludes any guarantee of return. In addition, the project was structured in such a way that the bonds were purchased by the limited partnership from the primary bonds market. In five years, the limited partnership would sell the bonds on the secondary market based on current market value. The EB-5 investors may not be able to recover the $500,000 investment amount because bond price is subject to market rate fluctuation. Thus, the investors face both a chance to gain and a risk of loss in relation to the return of capital. The investors thus bear liquidity risks (finding a buyer on the secondary market) related to the return of EB-5 capital, including interest rate risks, default risks and other financial risks. Furthermore, if a project is not completed for any number of reasons there remains a risk of loss for the investors. The authors spoke with the Washington Regional Center and learned the exemplar petition of the bonds structure was approved by USCIS in August 2013. At the time of writing this article, I-526 submissions were still pending. Investments guaranteed by property ownership Another situation where the “at risk” requirement has been tested is in structures that guarantee eventual property ownership to investors. Some potential EB-5 investment project offerings include a “reservation agreement,” so that in the event that the project fails, the investor will still be compensated with a unit of the existing real estate. Unlike the example above, this sort of practice has been found to violate the investment “at risk” requirement. The authors have examined several project scenarios employing an arrangement where a portion of the investors’ funds would be utilized to purchase already-constructed vacation suites requiring renovation and remainder of the EB-5 funds would be used for the construction and renovation of the common areas. The Administrative Appeals Office (AAO) has deemed a similar case as not in compliance with EB-5 regulations, stating that such a proposal “is a marketing strategy to attract buyers for vacation suites rather than investors of capital in a new commercial enterprise.”3 The AAO denied the structure because guaranteeing ownership of a property unit through investment is a form of guaranteed return which does not meet the investment “at risk” requirement. Looking back to the guidance offered by Izummi, for the capital to be at risk, there must be a risk of loss and a chance for gain. The promise to guarantee the investment by property ownership negates the risk of loss element. Determining risk When trying to determine whether such an investment is actually at risk, the following should be taken into account: (i) What is the evidence under 204.6(j)(2) that the investor has placed the required amount of capital at risk for the purpose of generating a return on the capital placed at risk? (ii) Is there or will there be evidence of funds transferred or committed to be transferred to the new commercial enterprise in exchange for (unredeemable) shares of stock? 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