Check These 4 Key Factors to Avoid Losing Money in an EB-5 Investment

EB-5 investors are primarily concerned with getting their Green Cards. Of course, investors want to get their money back, too—and earning a return on their investment is also desirable. But successfully immigrating is the only reason to choose an EB-5 investment over another type of investment.

As a result, at EB5AN, we structure our projects with immigration success at the forefront of our planning. This means we tend to offer projects where job creation is already happening or is complete.

While our first priority in structuring our projects is immigration safety, financial success is a close second. For some EB-5 investors, losing $800,000 would only be a minor setback, but for most EB-5 investors, such a loss would be catastrophic. You deserve a project where your money is as safe as possible.

Crucially, these two factors—immigration and financial safety—tend to go hand in hand. A project that succeeds financially is likely to result in the job creation needed for you to get your Green Card.

In this article, we will examine the four main diligence items you need to consider to avoid losing your EB-5 investment. First, we will look at the single most important factor for financial safety: borrower quality. Next, we will consider how financing costs can indicate the level of a project’s risk. Then, we will discuss how vital independence is to avoiding unnecessary conflicts of interest. And finally, we will look at how profitability can indicate the financial health of a project.

Download Full PowerPoint on 4 Key Factors to Avoid Losing Money in an EB-5 Investment

Borrower Quality

Most EB-5 projects are structured as loans. This means that the money from EB-5 investors will be loaned by the investment fund to the borrower—the company that is developing the project. The key question is whether or not the borrower will be able to repay this loan when it becomes due.

To determine borrower quality, you need to look at the borrower’s track record. How many projects has the borrower successfully completed? How much experience does it have completing projects like the EB-5 project? How much money has the company borrowed in total? Does it have a history of borrowing and repaying funds on time? Has it ever defaulted on a loan? What assets, if any, is the borrower using to secure the loan?

Finding a borrower with a proven track record is essential.

Project Development Experience

One of the quickest ways to gauge borrower quality is to look at its experience. How many similar projects has the borrower completed? While past success does not guarantee future success, a proven track record suggests that the company knows how to plan and execute its projects.

You should look at the track record of the development company to ensure it has successfully completed similar projects in the past. If the company is new, look at the track records of the people managing it. The more similar projects successfully completed by the borrower, the better.

Borrowing & Repayment Track Record

Another way to assess borrower quality is to look at the amount of money a company has borrowed and repaid. A company’s loan repayment history indicates how likely it is to repay your investment.

For example, if a company has never borrowed and repaid any money, the risk of investing in this company is higher because it has no track record for you to consider. In other words, you have no evidence that it will repay the loan on time. If, on the other hand, a company has borrowed billions of dollars and has repaid every penny on time, you have ample evidence that it will repay its debts. Investing in a company like this is generally lower risk.

You should specifically look out for prior bankruptcies, foreclosures, or other similar issues. Be sure to research both the company and the people who are managing it.

Value & Diversity of Assets for Loan Security

For EB-5 loan offerings, the stronger the loan security, the higher the quality of the borrower. A low-quality borrower will offer minimal loan security. Some regional centers and EB-5 projects may claim that EB-5 loans cannot be secured, but this is not true. The EB-5 program allows for secured loans, and the best EB-5 loans are secured.

But not all EB-5 loan security is equal.

Some projects may offer a pledge of equity interests in the project company. While an equity pledge is better than nothing, it may provide limited protection for EB-5 investors. Other projects may offer a mortgage on the property being developed as loan collateral. A mortgage reduces EB-5 investor risk because the lender can take possession of the property in the event of a loan default.

The best projects, however, have loan repayment guaranties from well-capitalized guarantors with diversified assets. A well-capitalized guarantor is one that has more than enough net equity to cover the entire balance of the loan. A guarantor with diversified assets is one that has more than one type of asset used as collateral for the loan. In essence, the more net equity and asset diversity, the better.

Track Record of the Specific Project

The quality of the borrower will also depend on a number of project details.

What are the project’s financing sources? If the project is not being financed by a bank or institutional investor, this may indicate the project is not creditworthy and higher risk.

Is all financing in place? If not, you need to consider how likely it is that the developer will be able to secure enough financing to complete the project.

Does the borrower have any of its own equity in the project? If not, all of the risk is being borne by investors. Conversely, when a developer has its own equity in its projects, it has a stronger incentive to succeed.

Is the project in a growing or declining market? If the market is declining, the project is at higher risk of failing. The project may be completed successfully, but it may not be marketable and could lose money.

Is construction already underway? If the project is already being built, money is flowing into the project. A project stuck in the planning phase is riskier because it may never be fully financed. If only EB-5 funds go into a project and it is not completed, that money will likely be lost.

Transparency of the Developer and Project

Transparency is a key factor in borrower quality. You cannot know whether a borrower is high quality unless it gives you access to all of the information you need.

A high-quality borrower has nothing to hide and will give you all of the information you need to make an informed decision. The only reason to withhold information is to hide problems.

Financing Cost

While borrower quality reflects the past record of the developer, cost of financing is a key indicator of how risky the project itself is. A developer will spend significant time and effort securing the lowest-cost financing possible from banks and investors.

Interest Rate

Banks and institutional investors assign interest rates based on what they perceive the level of risk to be. The higher the risk, the more they want to be paid. By comparing the financing costs of multiple projects, you will be able to get a sense for how risky each project is compared to the others. For example, if one project has a senior loan with an interest rate of 15% and another has a senior loan at 8%, the one with the higher rate is likely higher risk.

Position in the Capital Stack

Since the cost of financing is tied to risk, the position of the financing in the capital stack will impact its cost. A senior loan is in the first position—meaning it will be the first to be repaid and thus has the lowest risk. This financing is going to have a lower interest rate than other forms of financing.

When a project cannot secure all of its financing through developer equity and a senior loan, it will seek additional financing through a mezzanine loan. This type of loan may be from a bank or another type of lender. The financing cost of mezzanine debt is higher because it has a lower repayment priority than the senior loan, meaning more risk. If something goes wrong with the project, the senior loan will be repaid first, and the mezzanine loan may not be fully repaid—if it is repaid at all.

By looking at the capital stack, you can quickly see where EB-5 financing fits and the risk of the investment relative to the senior loan and any mezzanine debt. If EB-5 funds are replacing senior debt, the risk is lower than if EB-5 is replacing mezzanine debt.

Financing Transparency

The full capital stack should be transparently disclosed to prospective EB-5 investors before they invest. You should carefully examine the capital stack to understand the level of risk being taken on by the EB-5 investment.

You should also look for potential concerns in the capital stack. Some developers inflate the value of land, for example, to make it appear that they have invested more equity than they have. Sometimes, the EB-5 loan is marketed as a senior debt, but in reality, the EB-5 loan begins as mezzanine debt and only becomes senior debt if specific, sometimes highly unlikely, milestones are achieved. Also, the EB-5 loan may start in senior position, but it can become subordinated to a new senior loan or other financing if insufficient EB-5 loan proceeds become available in a specific period to meet the ongoing capital needs of the project.

You will need to carefully review a project’s financial and legal documents to ensure that the developer and regional center are being transparent about the financing. Ask pointed questions about whether the developer equity is cash or land value. Ask about the position of the EB-5 funding in the capital stack and whether that position can change. And, critically, make sure to get these answers in writing.

Without a background in finance, you may find it difficult to compare interest rates, understand the position of EB-5 funding, and sense when something is being obscured or is not quite right. You should take your time to do your research, ask questions, and really understand the project’s financing before you invest EB-5 investors should also involve their immigration attorney in project selection; while an immigration attorney cannot provide investment advice, he or she can advise as to the immigration related aspects of an EB-5 project and their impact on the potential Green Card success.

Independence

Under the EB-5 Reform and Integrity Act of 2022, all conflicts of interest need to be disclosed. As a result, an EB-5 project should disclose all potential conflicts of interest between, for example, the regional center, the EB-5 fund, and the developer. While these conflicts are allowed under the law, even if they are properly disclosed, that does not mean you should accept them. If the same group of people controls the regional center, the EB-5 fund serving as the lender, the borrower, and the development company, this creates a conflict of interest that poses a huge risk to EB-5 investors if something goes wrong with the project.

Conflicts of Interest between Regional Centers, EB-5 Funds, & Developers

In an EB-5 regional center investment, the two key entities to consider are the new commercial enterprise (NCE) and the job-creating entity (JCE). The NCE is generally a partnership controlled by the regional center that receives the EB-5 investor funds. The NCE then invests the EB-5 capital into the JCE, either directly or through a separate borrower entity. The JCE is controlled by the developer.

The regional center, then, is making decisions on behalf of the EB-5 investors. As a result, it is supposed to make decisions that reflect the interest of the EB-5 investors. The developer, on the other hand, is making decisions based on its own financial interests. These interests often align—everyone wants the project to succeed. But if the project experiences problems or fails, the interests of the EB-5 investors will be in conflict with the interests of the developer.

Some EB-5 projects are vertically integrated, which means the regional center is controlled by the same people who control the developer. If such a project experiences problems, the regional center and developer are likely to work in their own interest, possibly at the expense of the EB-5 investors. For example, such a regional center is unlikely to sue the developer to get EB-5 investor capital back since both companies are controlled by the same people. Because of this, vertically integrated EB-5 projects pose a risk to EB-5 investors.

An independent regional center, on the other hand, will work to protect the interests of the EB-5 investors. In the event the project runs into problems, the regional center and EB-5 investors have aligned interests separate from those of the developer. The financial success of the regional center is tied to the success of the EB-5 investors, so the regional center has a vested interest to act on behalf of the EB-5 investors.

Conflicts of Interest with Immigration Attorneys

Structuring an EB-5 investment is complicated. Typically, a regional center will hire an EB-5 immigration attorney to ensure the project complies with EB-5 program rules. If an EB-5 investor in that project were to hire the same attorney, this would create a conflict of interest. If ever the interests of the regional center were different from the interests of the investor, the attorney would be forced to choose between them.

You should avoid hiring any attorney to represent you as an EB-5 investor if they also represent the regional center sponsor of the project you are investing in. You want an attorney who will protect your interests, not the interests of the regional center.

Attorneys are required to disclose any potential conflicts of interest. Even so, before hiring your attorney, you should ask, in writing, whether he or she has worked or is working with the regional center. This is a simple question, and if the answer is yes, find a different attorney.

Project Profitability

While borrower quality has to do with the developer’s track record and financing cost has to do with the perceived risk of the project, profitability has to do with the project’s current and future revenue. The concept is pretty simple—if the project is profitable, you are likely to be repaid; if the project is not profitable, you are likely to lose money.

Current & Future Profitability

For real estate projects, profitability is fairly straightforward. To find the profit, take the sale price and subtract the cost of the land plus the cost of construction.

The best EB-5 projects are already profitable. If a project is already making money, the likelihood that the developer will repay the EB-5 loan is much higher. For profitable projects, the key consideration is whether the project will continue to be profitable.

For example, EB5AN’s Twin Lakes Georgia project has already sold hundreds of homes. Each sale covers the cost of constructing the house and generates profit. The project is already profitable and is expected to remain profitable.

If a project is earlier in its development, it may not yet be profitable. The key consideration for a project like this is whether it is likely to become profitable and how long that will take. You need to look for clear signs that the project is likely to be profitable in the future. Does the project have sales or non-refundable deposits? Is there obvious demand in the area for the project? You should review any market feasibility documents provided by the project and then do your own research of the local market to verify this information.

Repayment Depends on Profit

The repayment terms of an EB-5 project are important to consider. You should also consider the promised loan duration and the rate of return. The key, however, is not to compare what projects promise but to evaluate what they can actually deliver.

If a project promises to repay its loan in four years, you need to ask how likely it is to keep that promise. If that project is not economically successful and does not earn a profit—you are not likely to be repaid in the promised time period, let alone receive any of the promised investment returns.

Choose Low-Risk Projects to Avoid Losing Money

EB5AN structures its EB-5 projects to minimize immigration and financial risk to its EB-5 investors. In line with the framework given above, we partner with experienced, high-quality developers with proven track records of success. Our projects feature best-in-class financial safety measures, including EB-5 loan repayment guaranties. We remain independent from developers to avoid conflicts of interest. And while we cannot guarantee that our EB-5 projects will always be profitable, we strive to offer projects that are already profitable or have a clear path to becoming profitable.

For more information about how to find a low-risk, high-quality EB-5 project, schedule a one-on-one call today.