When Taking a Risk Isn't Always the Answer: Examining the EB5 (U.S. Green Card) Program and Customized Insurance
By Brad Barros
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April 5, 2013 (Investorideas.com renewable energy newswire) A national law firm recently approached me to develop a privately owned-insurance company (“captive”) for participants in the United States government’s EB5 program. Captives enable businesses to develop insurance reserves in a self-insured manner. The law firm was interested in a program that afforded wealthy foreigners the ability to obtain a Green Card by investing at least $500,000 into “Targeted Employment Areas” and developing new “certified” commercial enterprises in the U.S. that create or maintain a minimum of 10 jobs. On paper, this sounded like an ideal proposition, but after further investigation I declined the opportunity.
I initially passed on the opportunity to develop financial guarantee insurance protecting investors such that they would receive a return of their investment at the end of the five-year term. One reason I passed was the issue of morality; undercutting U.S. private equity firms and the banking system in order to benefit foreign lenders who in effect, further subsidize HUD developers. I also examined the more intellectually challenging question. That inquiry was, whether or not "insurable risk" would include financial guaranty insurance for tax purposes, given the overall risk-free nature of this application of the EB5 program.
According to the U.S. Department of Homeland Security , Congress created the " The Immigrant Investor Program", also known as EB-5, in 1990 to stimulate the U.S. economy through job creation and capital investment by immigrant investors who create a new commercial enterprise or investi in a troubled business. Although this was the original goal of the program, my preliminary research uncovered that many participants today are simply investors lending $500,000 over a modest five-year term to U.S. real estate developers constructing HUD projects. These developers access the funds for a mere 100 basis points per annum, and then use the borrowed funds to cover soft costs and other expenses. Some immigration attorneys market the EB5 program as a way to trade the benefits of American residency for the short-term loan of cheap dollars, in order to fund U.S. government-subsidized projects.
Historically, taxpayer-supported housing programs such as these do not create long-term jobs, and are nearly guaranteed to succeed when Uncle Sam foots the bill, thereby further eliminating the entrepreneurial and successful job creation aspect behind the intent of the federal program. The investor is not responsible for expanding and developing their investment, which can lead to problems down the line.
EB5 in this form simply represents an opportunity to "invest" in the government subsidized infrastructure of America, while obtaining permanent residency status, without having to actually build, sustain, and grow anything. The "investors" simply act as short term or bridge loan financiers.
It's a well-known precedent that risk is a prerequisite for insurance. However, it may well be possible to have insurable risk within an investment. Insurance expert Randy Beckie , CPA, notes "given freedom of contract, one may design insurance contracts to hedge the same risks as a forward call option on a foreign currency exchange contract; the commodities future contract; or an interest rate derivative contract. Each (if properly constructed) could satisfy the long-standing tax definition of insurable risk because it contemplates the fortuitous occurrence of the stated contingency." (Commissioner v. Treganowan, 183 F.2d 288, 290-291 (3d Cir.) cert. denied, 340 U.S. 853 (1950)). In essence, Randy points out the false premise of a dichotomy between insurable versus investable risks.
The challenge of harmonizing insurance with certain financial risks can lead to choosing the right or wrong exit on the highway. How does one know which way to turn? The answer begins by asking the right questions.
In a recent Technical Advice Memorandum (TAM), the IRS positioned that a risk stemming from an investment contract cannot also be the object of an insurance contract because these types of risks do not contemplate a casualty event. From the IRS’ standpoint, price volatility within an investment is investment risk; not insurable risk. However, a financial risk could potentially qualify as an insurance risk if the financial risk was both fortuitous and accidental.
By applying the above understanding of insurable risk to the EB5 U.S. Green Card Scenario, the relevant inquiry as to the efficacy of an insurance program assuring a return of funds to the foreign investors includes whether or not an insurance policy (as defined for tax purposes) would specifically spread the risk protecting their "business investment".
I posed this question to several leading tax authorities who uniformly concluded that the answer was "no", given in part, because of the near guaranteed nature of the investment.
Accepting their response on its face demands that we begin a new line of examination. If there is no real risk to investors associated with the EB5 program as utilized in the above-mentioned form, why is America extending extraordinary benefits to wealthy foreigners on the cheap? Does it help or hurt inner city poor when temporary construction jobs often aimed at currently employed working-class individuals are borne from EB5 at the expense of creating permanent jobs embedded within the frame work communities in need? Why cut-out U.S. private equity funds or banks from profitably fulfilling these needs? And, while insurance as defined under the tax code may not be viable to the foreign financiers, what does it say of a tax regime that promotes a program offering wealthy real estate developers access to essentially "free" funding that is subsidized for risk-free projects that only exist through Beltway handouts? The answer to these questions are far more complex than the determination of what constitutes insurance, presuming these questions can be answered at all.
Brad Barros is Managing Director and co-founder of Attainium Capital Development Advisors, LLC (Attainium). Over the past 35 years, Attainium's founding principals have worked with hundreds of successful privately and publicly held businesses, designing and implementing benefit, insurance and risk-management solutions effectuating more than $4 billion of benefits with programs involving more than $300,000,000 of recurring annual insurance premiums.
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