The EB-5 issuer is required to make reports to investors, to retain appropriate personnel to handle the bona fides of not only evaluating the investment, but to evaluate the internal controls of the manager.
Most of the time in a private placement memorandum (PPM) or in the operating agreement, an EB-5 fund will require some basis of an annual report to be provided to investors, either in the form of financials or in the form of a written report. But there's no state corporate laws requiring the issuance of annual reports, nor is there a requirement for audits.
When you review EB-5 offering documents you ought to concern yourself with:
- Are you being provided annual reports?
- Is there an audit?
- If there is an audit, who’s actually doing the audit. You clearly want people who are experienced in the fund business.
Broker Dealers have reporting obligations
When an EB-5 investment is distributed through a broker dealer, the broker dealer has obligations to provide certain documents and reporting to investors. As EB5 issuers become more experienced and familiar with securities regulations, I think you'll see more and more funds making disclosures to address specific FINRA and NASD rules. (FINRA and NASD are the governing bodies that handle broker dealer regulation under the SEC).
NASD rule 2340, requires that broker dealers provide periodic account statements to customers on at least a quarterly basis and it must provide a description of securities positions, account activities, and so on.
Rupy Cheema: Who would be paying for these audits? Audits are quite costly. Would the investors have to bear the cost or will the manager be responsible for it?
Robert Cornish: That would be contained specifically in the fund document. In many instances, EB-5 funds will create what would be called ‘a load’. That would be an amount in addition to the core investment amount to cover certain operating expenses. One would expect that the EB-5 fund would be the one paying for that audit but the PPM ought to say that it is. There are provisions in most private placements that will tell you who’s paying various fees. But for the most part, it should be the manager.
Rupy Cheema: Most reporting requirements are outlined either in the operating agreement or in the limited partnership agreement and we see a range of reporting being provided. Sometimes we'll see only the K1 being provided for tax purposes and/or the documents may state that investors can request additional financial statements. Are you saying there are certain reporting requirements that must be met in EB-5 project offerings?
Robert Cornish: As investors in EB-5 funds, you should be aware of your funds reporting obligations and frankly, I would not recommend to anyone that they invest in a fund that doesn't produce financial statements on at least an annual basis.
This is especially true if you’re dealing with a fund that's been distributed through a broker dealer because then they could be violating NASD and FINRA Rule 2340 on distribution of statements if the broker/dealer is acting as a placement agent or distributor. Of course, for an investor, that's not a bad thing because then you get to put your losses back to the person who sold it to you, but if you’re an issuer then you have a heightened obligation to make sure that you’re complying with those rules.