In the past, regulation has prevented real estate projects from adequately fulfilling the primary goal of the EB-5 program: job creation. Despite the regulatory hurdle, such projects have risen in popularity to account for a substantial portion of EB-5 investment projects. Here we discuss the history of real estate development in the EB-5 program and considerations for investors and developers who are interested in these projects.
Real Estate Developments and the EB-5 Program
Until the 2008 financial meltdown, ambiguity in EB-5 job creation regulations made it difficult for investors to determine whether construction jobs would be included in their job creation totals. This uneasiness led investors to sidestep real estate projects.
Real estate development floundered after the crisis because the economic devastation made conventional construction loans inaccessible.To solve this problem and stimulate real estate development, Senator John Cornyn called on U.S. Citizenship and Immigration Services (USCIS) to clarify its position with regard to the regional center and construction aspects of the EB-5 job creation requirements. In 2009, USCIS responded by eliminating the ambiguity surrounding construction-related job creation, allowing the inclusion of indirect and induced jobs in job creation numbers.
The new regulations provided a less expensive and more accessible source of funding for developers by enabling regional centers to fund sizable real estate projects with EB-5 capital from multiple investors. These changes, coupled with 2013 rules allowing construction jobs to be counted both before and after beginning construction and the use of EB-5 capital as bridge financing have significantly revitalized the real estate industry.
EB-5 investors are attracted to real estate investment because of its many advantages:
- The property serves as collateral for the EB-5 investment and can be liquidated.
- The investment is more likely to bring a return because it’s less dependent on income and real estate tends to appreciate.
- The results are tangible, which makes for straightforward appraisal and visible progress.
- The projects and developers are relatively easy to investigate before risking EB-5 capital.
- The value of the property adjusts with inflation.
- The construction phase creates plentiful jobs, making EB-5 job creation requirements easier to fulfill.
EB-5 investors and developers alike have benefited from the opportunities afforded by the more lenientEB-5 job creation regulations.
Potential Pitfalls for Developers and Investors
Although the EB-5 program is well suited to real estate development, it is also vulnerable to fraud and scandal. One notorious example is the Chicago Convention Center (CCC) project. The developer defrauded hundreds of potential EB-5 investors by being dishonest about the permits he had obtained for a project that former Illinois Governor Patrick Quinn had publicly endorsed. Though the governor was not held liable for the fraud, the developer was sentenced to three years in prison and the scandal inspired investors and developers to exercise greater caution.
The CCC scandal and its publicity stalled the Chinese EB-5 market and changed the way EB-5 investors and immigration agents diligence real estate projects. Investors have begun to research projects more thoroughly since many project developers recruit investors by misleading them. Furthermore, they no longer trust the endorsement of government officials, who suffer no legal consequences for endorsing fraudulent projects.The Securities and Exchange Commission (SEC) has attempted to curtail rampant misinformation, particularly in the Chinese market, with regulations that forbid intentional false statements, reckless material representation, and omission of material information.
Political considerations may also influence real estate development in top EB-5 investment cities. For example, New York City Mayor Bill de Blasio’s focus on promoting affordable housing could make it harder for luxury real estate developers to obtain government financing and permits. Such hindrances can be uncovered by investors who conduct sufficient due diligence before the EB-5 investment is made.
Common Questions about EB-5 Real Estate Projects
Do USCIS guidelines allow a developer to purchase real estate with EB-5 capital?
According to Matter of Izummi, EB-5 investment funds must be used by the business creating the jobs described in the documentation that accompanies the I-526. This doesn’t mean they cannot be used to buy real estate, but funds used for such purposes (or other purposes not related to job creation) are not taken into account in the economic impact report.
For example, a developer may buy land, then construct and operate a new business on the land he or she purchased. Though the land purchase will not create jobs, it’s legitimized by the job-creating business made possible by purchasing the land.Whether they’re relevant to the economic impact report or not, all EB-5 expenditures must be included in the project’s business plan.
For prospective EB-5 investors, buying real estate is not sufficient to obtain the EB-5 visa. The EB-5 capital has to be irrevocably committed, “at risk,” and used to create 10 full-time jobs.
Can investors count tenant jobs in their job creation numbers?
In order to count, tenant jobs must be genuinely new, not shifted from an old business location to a new one. The investor must be able to prove they were created because the development provided a space for them that would not have been provided otherwise. With the I-526 application, investors may submit the following documents to USCIS as evidence for the creation of tenant jobs:
- A marketing plan and summary of the business’s prospects in the region
- A detailed outline of historical or industry trends and financial projections
- Proof that the area lacks existing commercial space for the business
- Proof that space for the business is not available
- Signed documents from a government official confirming the lack of space
- A description of services the business will provide
Many EB-5 investors exclude tenant jobs from their job creation totals because furnishing adequate proof is a challenge. This is the best approach for investors who don’t have confidence that these jobs will satisfy USCIS requirements. Investors who submit insufficient documentation are likely to receive a Request for Evidence (RFE).
With respect to EB-5 projects, what is the difference between debt, equity, and preferred equity?
Financing for EB-5 real estate projects typically takes one of these three forms:
- Debt—In this model, the EB-5 capital is used as an investment. The investor is paid dividends according to the new business’s performance and the number of shares he or she owns in the project.
- Equity—In this model, the EB-5 capital is used as a short-term loan. The investment is paid back to the investor after he or she obtains the unconditional green card.
- Preferred Equity—In this model, the EB-5 capital is used to buy a direct ownership interest. As a hybrid of debt and equity, it guarantees the investment will be returned and gives the investor a higher claim on cash flow and profit distributions and prioritized dividend payouts. On the other hand, common equity holders possess voting rights, while preferred equity holders do not. Investors and developers must take care to avoid improperly structuring this type of agreement so that it isn’t construed as a redemption agreement, which is prohibited by EB-5 program guidelines.
Real estate investment is preferred by the majority of EB-5 investors due to its many advantages, including low investment risk, high job creation numbers, and protection from inflation of the US dollar. Developers find EB-5 financing appealing because it’s more accessible and decidedly more cost-effective than conventional loans. SEC scrutiny and allegations of fraud have spurred investors to examine EB-5 projects more carefully to ensure their legitimacy before committing funds to them. However, the increased scrutiny has also prodded developers to pursue a higher standard of transparency when marketing their projects to investors. With due diligence by investors and integrity among developers, EB-5 investment in real estate can continue to enjoy success.
To learn about EB-5 financing for real estate developments or how to invest in EB-5 real estate projects, contact EB5 Economist at (800) 775-1988.