The new EB-5 legislation offers regional centers the choice of working with a fund administrator or conducting annual audits. During a recent webinar, JTC Americas compared the two options. Daily tracking of investor capital as provided by fund administration offers proactive “in the moment” protocols, monitoring, and protections of investor capital; annual audits, by comparison, are limited to identifying problems “in hindsight” because they only report on what has already happened.
The EB-5 Reform and Integrity Act of 2022 (RIA) provides a host of new supervisory requirements for regional centers.
To better inform investors of the condition of their investment capital, EB-5 regional center offerings are now required to either retain a fund administrator, or to conduct annual audits of either the NCE or JCE.
Fund administration involves tracking investor capital in separate accounts, approving all transfers of funds, and serving as a co-signatory on transfers. Additionally, periodic updates are provided to investors about their capital account.
An alternative option offered by the RIA allows the NCE to commission an annual independent financial audit of either the new commercial enterprise or the job creating entity, which must be conducted in accordance with Generally Accepted Auditing Standards (GAAP).
Based on the JTC webinar, with additional commentary from EB-5 due diligence expert Rupy Cheema and registered broker representative Kurt Reuss, we’ll review the two options.
3rd-party fund administration
Fund administration as required in the RIA involves monitoring and tracking of investor money from time of investment to deployment in the JCE.
The monitoring of the flow of investor capital begins with the subscription escrow; then the money must be released from escrow to an NCE operating account; from there it is deployed into a job- creating entity; then after the maturity of the investment, the capital is returned to the NCE and eventually back to the investors.
The flow of funds from and into the NCE’s account need to be tracked, approved, and recorded.
Further, USCIS now requires that when the money is transferred from the NCE’s account, the release must be co-signed by the fund administrator to ensure disbursements are appropriate based on contractual agreements.
New requirements if the NCE & JCE are affiliated
If the NCE and JCE are affiliated, the RIA now requires that the JCE must segregate the EB-5 funds from other funds and money movements must be tracked.
It would be prudent to have a fund administrator oversee the administration of funds at the JCE level if the NCE and JCE are affiliated.
Investor transparency, communications, and privacy
Ensuring investor security and transparency is paramount now.
Traditionally, some fund administrators offered investor transparency as a bonus, but now it’s a requirement; investors must be notified about the status of their capital. Additionally, this is private and sensitive information that needs a secure portal.
EB-5 fund administration requires document retention and audit trail
Private equity and EB-5 fund administration differ in a key way: in the latter, document retention and an audit trail needs to be stored so investors, project sponsors, and USCIS can access them over the life of the EB-5 fund.
GAAP audit: an RIA alternative to fund administration
The alternative to EB-5 fund administration is a GAAP audit, one that follows general accounting principals including:
- reviewing controls and procedures
- ensuring the proper protocol exists for moving money, including checking who has authority and permission to do so
- certain reporting requirements
- a review of bank accounts — how much money came in and how much went out
- regular financial statements to track money movement, verifying that money went where it was supposed to go
- The auditor’s conclusion or opinion
Audits are more limited in protecting investors
Kurt Reuss, a broker dealer representative and CEO of eb5Marketplace points out that audits are after-the-fact analysis and he thinks investors would be taking on additional risk if the NCE has not retained a fund administrator. “Having the ability to log-in and review your capital account is reassuring and you just don’t get that from an audit performed the following year.”
If an audit is meant to offer security to investors, the protection it provides is only as a deterrent — a regional center, it could be assumed, will be more careful with money movement knowing that an auditor down the road will review it.
NCE audits are even less helpful
Reuss also points out that if an audit is only reviewing the NCE, which it appears the RIA legislation allows for, then investors could be left in the dark should the JCE misappropriate investor funds.
“My concern is that the way the legislation is written, if the NCE is the only entity that gets audited, and in many cases the NCE entity has little to no assets, how helpful is this really? You really need to be looking at the JCE to understand what is happening with investor capital,” advises Reuss.
Do ‘rent-a-centers’ make sense any more?
With the new RIA certification requirements, regional centers can’t function as merely a “rent a center” any more. They’ll be responsible for the burdens of compliance and certification. If they choose to do this financial tracking and compliance internally they’ll have to “gear up and staff properly,” states Fieldstone. “It may be more than people think it is.”
Regardless of whether certification is conducted internally or by third parties, the regional center will be responsible for RIA compliance.
Reid Thomas, Chief Revenue Officer and Managing Director at JTC Americas, says that his firm’s fund administration starts at about $10,000-$12,000 and can go as high as $50,000. The cost varies based on the project and size of EB-5 fund. Thomas believes that for a typical-size fund, an audit is likely to be on par or as much as 25% more than his firm’s cost for fund administration. He adds “It’s not that big a difference.”
Thomas also points out that he has seen single-investor direct projects use fund administration. “For direct EB-5 investment offerings this path may not be as costly as one might think.”
Factors to consider
The functions of fund administration are vastly different than an audit, and regional centers need to understand their compliance options carefully. Here are some criteria that should be considered:
- the cost
- the perception of risk to investors
- whether the JCE already performs GAAP audits - accelerating the capital raise
Thomas suggests that a best practice may be to do both. As an example of this, he says that private- equity funds will have both an external fund administrator and an external auditor.
Do direct projects require fund administration?
Securities attorney Rohit Kapuria doesn’t believe the RIA’s intent is to separate regional centers from direct investments in terms of fund administration and surmises that the drafter of the RIA intended it to be applicable to direct investments as well. He also makes the point that as each direct project only has one investor, the cost of fund administration might be easier to bear.
Fieldstone, however, points to the use of the term “pooling” in the RIA as an argument that the act doesn’t apply to direct investments and such projects can continue with old financial practices as they are not sponsored by regional centers.
Rupy Cheema of EB5 Diligence agrees with this statement and believes that the reason the RIA prohibits direct EB-5 offerings from pooling investors is that they do not have a regional center gatekeeper to certify and supervise the offering.
“It makes sense that the reason direct offerings are restricted from pooling investors was because they weren’t subject to RIA requirements such as fund administration,” states Cheema. “Otherwise why prohibit directs in this way?”
Summary: investor security and transparency come first
Thomas declares that investor security and transparency are paramount and vital for the survival of EB-5. If EB-5 as an industry is committed to integrity and investor protection, then the question of whether to provide daily tracking of money movement or merely conduct a yearly review should be no question at all.
Watch the JTC Americas webinar “The Next Stage of EB-5: Fund Administration vs. Annual Audit"
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