The Benefits and Detriments of Having a Senior Lender Involved
John Tishler: The senior lender is typically a major source of capital for most deals that use EB5. The days where you could finance a 100% of the project with EB5 funds are mostly, if not entirely, gone. Every project needs to have other sources of capital and senior loans are a major source of that capital.
Ronnie Fieldstone mentioned earlier that a typical construction loan would be 60%-80% of the total project cost, certainly a minimum of 50%. So you can knock off a major part of your capital stack with the senior loan.
And right now senior construction loan rates for quality borrowers are very, very low. In fact, they're generally lower than the market rates for EB5 capital when you account for all the associated costs.
Whatever amount you are able to raise on senior capital is certainly going to be cheaper than equity, certainly cheaper than mezzanine and it's actually going to be a little bit cheaper than EB5 capital right now.
An experienced construction lending entity is involved
When there's a senior lender involved, EB5 investors know that somebody who knows what they're doing in the construction field has done significant due diligence on the project. That is reassuring, or should be reassuring to investors.
You have to be careful though not to overstate the benefits because banks underwrite their own loan; they don't underwrite anything subordinate to them. They want to make sure they get paid and they don't spend a lot of time thinking about whether anybody else is going to get paid. In fact, when it comes time for the inter-creditor agreement, the bank is going to be actively making sure that their interests are robustly protected at the cost of anybody else's interest.
It's not ideal for investors to be in an subordinate position to the entity that has performed due diligence, but given an individual EB5 investor probably isn't in a position to do the kind of robust due diligence they should, the senior lender’s due diligence is preferable to no due diligence. However, it’s better for the Manager of the NCE to have someone perform due diligence on the investors behalf, such as a broker-dealer or a company like EB5 Diligence. Sometimes the investor’s migration agent does some level of diligence.
Job creation multiplier
Another benefit of having a senior lender is that the less EB5 capital you have in the deal, the larger the job multiplier effect because job creation is based on the entire project’s budget.
When I get a call from someone interested in EB5, one of the first things I want to know is where they plan to put EB5 in the capital stack. If they want it to be senior debt, my concern will be whether this project will generate enough jobs, because now I know they’re going to be funding 60%-80% of the project cost with EB5 and the jobs are going to have to allocate amongst all the investors, where if they plan to use EB5 as the mezzanine part of the capital stack, maybe they’re only filling 20%-30% of the capital stack which provides a much better multiplier.
(Rohit Kapuria): It is true that if we do not have sufficient jobs the project will be unable to comply with the EB-5 visa requirements. That being said, I have noticed that in projects where the borrower is attempting to fill 50-60% of the capital stack with EB-5 funds, the borrower is usually looking to stretch the construction timeline longer than two years, which can double your total job creation since the project avails itself of direct construction jobs.
USCIS considerations
The problem is that USCIS pays very close attention to the economic impact report to ensure that the projected construction timeline is actually a reasonable estimation. If the project is depending on a long construction period to take advantage of the direct construction jobs to get us that 50%-60% of EB5 capital, then investors may be at risk that USCIS may disallow such direct jobs.
Additionally, USCIS is looking at the capital stack at the time of an investor’s I-526 petition and analyzing both the senior lender and the EB-5 lender to make a determination on the probability of the project moving forward and the jobs getting created. If the agency is not convinced that the capital will flow from both sources then it will likely issue an RFE, often 12-13 months from the investor’s I-526 filing with questions such as “Did the senior lender fund?; “Was the loan executed? “
Some agents are now looking for priority position
A separate consideration is that some agents are interested in first lien positions. I was recently involved with a project where the senior lender was locked in and the agent decided that it was interested in taking a first lien as opposed to a mezzanine position.
The borrower had to take a step back and conduct a cost-benefit analysis. It could give the agent a shot at producing all the required investors within six months and if the agent was unsuccessful, then return to the senior lender, tail between its legs, for another loan commitment.
Loan monitoring
(Kurt Reuss): Another potential benefit of having a senior lender is that there is someone monitoring that loan to the JCE and determining when money can be released. In your experience do you see the NCE piggybacking off that loan monitoring or do you see them not really being related?
(Michael Gibson): Most of the time it's piggybacking. The easy thing to do is to look at the procedures the senior lender has set up for construction draws and try to fit the EB5 into those conditions. Now obviously the EB5 lender will have additional considerations that the senior lender is not concerned, including whether the EB5 loan proceeds are being spent on things that support the job creation requirements in the EB5 program, so you can’t simply mirror the senior lender requirements.
Given that, there's going to be some additional conditions you have to consider in the EB5 position but it certainly helps if the senior lender is monitoring the draws, collecting evidence of payment and lien waivers from contractors and architects. Essentially once the borrower delivers the draw package to the senior lender, they should also be delivering it to the EB5 lender until completion of the project.
Which brings up another topic; a lot of senior construction loans are set up so that as soon as the construction period is over, the senior lender wants to get refinanced out of the deal. Hopefully at, or about that time, construction is actually done, but certainly within a year thereafter most construction lenders will want out of the deal. Once construction is done you're going to be dealing with a different senior lender and different important senior loan covenants (including debt service and other financial metrics) and the construction conditions will obviously no longer be relevant.