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Concurrent Reg S and Reg D Offerings

Panelists: JOR LAW, SCOTT PURCELL, JOHN LEO, SCOTT ANDERSEN

Moderator: KURT REUSS

 

Jor Law
Homeier & Law

Scott Purcell
Fund America

 

scott_andersen_profile_pic

Scott Andersen
FinLawyer.com 

EB5 Business plan

Kurt: Let's talk about what I find to be the most complicated part of 506(c) and squaring it with Reg S, and that is the issue of concurrent offerings. It seems to me that if you're trying to do a Reg D offering at the same time you're doing a Reg S offering, those two objectives compete with each other.

Let’s say you're doing a general solicitation under 506(c) and simultaniously under Reg S you can't have any contact with people in the US. How can you do a concurrent offering of both Reg S and Reg D?

Jor Law: Essentially, you can do any concurrent offering where part of the offering relies only on Reg D (506(b) or 506(c)) while the other part of the offering relies only on Reg S.

Reg S is an offshore exemption, a transaction limited to non-US persons. Now, 506(c) is traditionally thought of as a domestic exemption, but it actually isn't. 506(c) is an exemption, period. One could theoretically do a 506(c) offering only to offshore people if they wanted to.

If they wanted to do a Reg S offering offshore and can actually qualify that same offering as a 506(c), not necessarily concurrently as two separate offerings, but as a single offering where every EB5 investor is going to qualify under Reg S and every investor is also going to qualify under 506(c) or 506(b), an issuer theoretically could.

It's not so much that there is any inherent conflict between the two. The conflict only arises in how people use the law. If someone says Reg S can only be used offshore, I'm only going to do Reg S offshore, that's fine, and then domestically I can't use Reg S.

However, if I would like to raise money domestically, I want to use Reg D. Then it is possible to do concurrent offerings. The people offshore receive one set of documents that are Reg S and maybe the website is limited to only those individuals with an international IP address. The people who live domestically receive the Reg D set of documents and they can only access the website from the US. And that’s assuming that it's a 506(c) publicly. If it's a 506(b) offering, it would be only after they've been vetted as accredited investors.

Jor, would you recommend it or not recommend it? What are your thoughts on that?

Jor Law: I don't think it's necessary; however I do think it's the safer thing to do just because mistakes can happen.

In that case, you actually don't even need the Reg S exemption at all. Other than the fact that if it's relatively free or low-cost to add the Reg S exemption, you might as well have two just in case, but in reality, if you verified every investor to the 506(c) standard, your 506(c) exemption would be sufficient as a standalone exemption for US law purposes.

Scott Purcell: That's exactly the point. If you're going to add the friction to the EB 5 Visa investment process, then why do a Reg S at all?

Scott Andersen: What it does is it gives you a dual argument that, if there's a mistake made, as Jor had indicated, you have the ability to make an argument to a regulator that you met the other exemption. That would be the reason for pursuing a dual approach.

Kurt: From your point of view then, if you were to avoid Reg S offerings altogether and you relied on 506(c), if we're talking about a cost somewhere in the neighborhood of $69 to verify an investor, and Scott Purcell, you asked why bother doing the Reg S if if there’s just added friction. Jor, why would you do a Reg S if everyone came to the conclusion that verifying investors was a reasonable thing to do anyway?

Jor Law: The cost certainly shouldn't be much of a factor if $69 per investor verification is the highest cost paid, and if we get substantially cheaper with bulk purchases.

The reason why someone might choose Reg S simply is because that is what the EB-5 market is used to right now, because you don't, technically, have to verify the investors. Assuming that you're okay with taking that risk, then it's not so much a savings burden, but the burden on the investor or the investor's representatives is less.

In the EB-5 market, you're seeing people that are now starting to use 506(c) more broadly, but that hasn't trickled through the marketplace yet.

For example, in China, you will still get migration agents that don't understand what it is and it requires an education process. Once they understand it and they learn it and they get past the psychological stage of complaining, it turns out that it's probably okay. It's not that much friction, but the initial friction of the psychological desire not to change what they've been doing is really where most of the friction in the EB-5 market comes from right now.

Jor Law: Yeah, I would agree. I think the 506(c) is extremely powerful when used correctly. The friction is just psychological. I think it's just that people are used to doing things a certain way and they haven’t heard about what 506(c) is.

One thing to be clear about is verification of an accredited investor status is not the same as source of funds.

During the EB-5 process, investors are already used to this very onerous process where they have to prove their source of funds and they have to provide a lot of information. Adding a little piece of verification whereby you only have to show that you have the money, you don't have to show how you got the money or where the money came from, should be very, very friction-less. It just happens that the market hasn't yet been trained to it, and therefore, you get some people that ask, "What's this new requirement? We're not familiar with it."

It's a new thing. We see in the US as well, many investors are used to investing under 506(b) and then when they're asked to verify, the initial response is, that they’ve invested in five other deals that don't require this. They want to know why they need to do this now? It's really psychological more than anything else.

Jor Law: Theoretically, that student, if they were doing a 506(b), still has to certify that they're an accredited investor, and if you have any reason to believe that that certification would not be valid, then you shouldn't just blindly accept their self-certification. That's a question for issuers to consider, even if they aren't doing a 506(c) and they're simply doing a 506(b).

Then, for a 506(c), you go one step further. You actually have to prove that they have that net worth.

For example, parents might have to give their children $500,000 for the EB-5 transaction and an additional $500,000 to bring them up to the accredited investor status, assuming their child has no net worth.

Then the verification test is an at-a-point-in-time type of test. Are they an accredited investor at the time they make the EB5 investment or not?

It's up to the student, and I guess the parent, whether that student keeps that extra money or at a later time returns it to their parent, but it cannot be a loan. If it's a loan, then it would be counted as a liability. It has to be a true gift.

Jor Law: Ultimately, that depends on each reviewing attorney’s discretion. However, if the reviewer has no reason to believe that the letter is false, they probably would accept it.

I could see why they might say, however, that the letter is not good enough. They may not believe you and want to see the actual transfer take place, but theoretically, for example, if someone gets a binding commitment letter from a lender for a line of credit, for the rest of the world, there isn't any question that that person has access to that line of credit.

In this case, following the same logic, I think a lot of reviewers would be comfortable with it, although I could see where if there was anything that might make the reviewer suspicious that it was a sham transaction, then they would definitely want to see more.
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