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March 1 2013

SEC Regional Center Fraud Investigation and SEC Compliance

The SEC has filed charges against and has frozen the assets of the Intercontinental Regional Center Trust of Chicago, LLC (“IRCTC”).  The Chicago Tribune ran a long story on this matter. There has been, and will be, more press coverage about this case in the U.S. and China. IRCTC raised more than $145 million in EB-5 capital, plus $11 million in administrative fees. The project was heavily marketed by Chinese agents who were reportedly paid up to $100,000 for each $500,000 investment and a subscription fee of $41,500. The USCIS requires all of the investor’s $500,000 capital be spent on the project and job creation, not on the agent’s commission.

The SEC’s IRCTC complaint comes on the heels of the collapse and subsequent investigation of the Mamtek project in Missouri; a fraud lawsuit involving the City of New Orleans Regional Center; and the regional center termination and FBI fraud investigation of the El Monte Regional Center.

USCIS’s interest in deterring fraud, and the focus by the SEC, is likely to change how the regional center industry does business. USCIS reaffirmed its commitment to deterring fraud in its most recent draft of the EB-5 adjudications policy memo, which stated that its teams are collaborating with USCIS’s Fraud Detection and National Security directorate. The North American Securities Administrators Association, which tracks securities fraud and manages collaborations of state securities agencies, listed EB-5 schemes as one of its top investor threats in 2012. The Financial Industry Regulatory Authority, Inc. (“FINRA”), the largest independent regulator for securities firms in the United States, also appears very interested in securities regulatory compliance in the EB-5 program.

Disclosure of Agent Commissions

FINRA is concerned that regional centers are failing to ensure the commissions they pay to migration agents are disclosed to investors. I believe regulators will sooner or later require verification of such disclosure to investors. USCIS may want disclosure statements as well as regional center contracts with migration agents provided with I-526 forms, regional center annual reports, or upon investigation.

It is in the best interest of regional centers to take a proactive approach regarding disclosure of agent commissions. While this may be hard for some agents to accept, the government will require it at some point. Some regional centers will be adopting disclosure policies before regulators demand it, and will use it as a positive marketing tactic claiming that others are hiding shady deals. The IRCTC problem may provide the opportunity for regional centers to explain to agents that commission disclosure is what is needed to avoid RFEs and investigations that can delay green card approvals (i.e., when they get paid). This may also provide leverage to negotiate lower fees and save money.

Here are my suggestions regarding commission disclosures for discussion with securities counsel:

  • Disclose in the offering memorandum the range of fees the regional center may pay an overseas “agent” as a commission for referral of a qualifying investor, and whether all or part of such fee are contingent on approval of the I-526 petition or other immigration green card milestones.
  • Contracts with agents should provide that all fees paid to them by the regional center are to be disclosed to the investors. And, the regional center should spot-check with the investors to verify they received such disclosures. The regional center should also keep records of its due diligence efforts.
  • Prepare and require agents to give a fee disclosure acknowledgment statement (in English and in the investor’s native language) to the investor for review, signature and return to the regional center. The regional center should personally contact the investor to verify they read and signed the statement (to protect against forgery).

Broker Dealer Issues

Last week the IIUSA (the regional center trade association) had a telephone seminar with securities counsel. One regional center (CanAm) stated it had obtained a “broker dealer” license (which cost $1 million in fees for compliance and took 18 months). This could give CanAm a market advantage given the recent securities scandals in the EB-5 world. Even if such licenses are not required, regional centers should take the greatest care to comply with SEC requirements. Because this area is so competitive, there are already rumors of some regional centers reporting alleged non-compliance by others to the SEC.

Regional centers sell EB-5 investment securities. Even if they only do so outside the United States, they should consult a securities attorney on a regular basis about all documents, marketing activities and SEC filing requirements to ensure compliance. For example, it appears that most regional center commercial enterprises are not required to register their securities offers and sales with the SEC pursuant to the exemptions in “Regulation D” (the private placement exemption). However, entities exempted under Regulation D must file “Form D” with the SEC. Likewise, some regional center commercial enterprises may be exempt under “Regulation S.” But this regulation may not apply if the investor signs the subscription agreement while in the United States.

Final Thought

I raise these important securities matters in detail because they are related to the USCIS, which recently has hired securities lawyers in its EB-5 unit. USCIS Director Mayorkas has stated he is very concerned about fraud in the EB-5 program (possibly referring to the IRCTC case). This already has led to, and will continue to lead to, fundamental changes in the USCIS’s attitude toward regional center operations. For example, I believe this led to the USCIS’s emphasis on “verifiable detail” in project business plans and its recent “demand analysis” requirement.

Times are changing and USCIS verification of SEC compliance is quickly approaching. The USCIS may have slowed adjudication because it is looking for fraud as well as failure to comply with regulatory requirements. The USCIS is embarrassed when other agencies find problems with its program. Ultimately, it will benefit regional centers to have a compliance program in place ahead of problems, rather than to do so under pressure by USCIS, FINRA or the SEC.

I am not a securities attorney, so I strongly encourage regional centers to discuss these matters with securities counsel. I will be pleased to discuss this matter further with you and your securities lawyer.