Order Instituting Proceedings

On June 23, 2015 the SEC initiated the first action “against brokers handling investments in the government’s EB-5 Immigrant Investor Program.” According to the Order Instituting Proceedings (“OIP”), Stephen Parnell and Andrew Bartlett formed Ireeco, LLC in 2006 in Boca Raton, Florida. Similarly, they formed Ireeco, Ltd. in 2012 in Hong Kong “purportedly for tax purposes.” Both of these companies (the “Ireeco entities”) received transaction-based compensation in connection with the sale of EB-5 securities, but neither of them were ever registered with the SEC.

From January 2010 through May 2012 the U.S.-based Ireeco, LLC solicited foreign investors to purchase ownership interests in projects sponsored by regional centers. “According to its website, Ireeco, LLC worked with foreign individuals to determine if the EB-5 Visa Program would work for them.” Additionally, Ireeco, LLC claimed to provide foreign investors with “the information and education they would need in choosing the right regional center to invest with.” More specifically, Ireeco, LLC’s claims included serving over 3,300 immigrants from 34 countries, and a 100% success rate for I-526 petitions. In May 2012 the Hong Kong-based Ireeco, Ltd. replaced Ireeco, LLC as the company that solicited foreign investors and contracted with the regional centers.

Both companies offered investors a choice of several regional centers for investment, and performed “due diligence” on each of these regional centers. Pursuant to a set of “referral partner agreements” between the Ireeco entities and the regional centers, the Ireeco entities earned a fee from a regional center each time an investor’s I-526 petition was approved. This fee was “based on a fixed portion of the administrative fee. On average, the Ireeco entities received $35,000 per investor that was referred. In sum, the Ireeco entities referred “over 158 foreign investors” who “invested a combined $79 million.”

Motions and proceedings to determine penalties

Although the Ireeco entities admitted the alleged violations and agreed to censure and cease-and-desist, they disputed the appropriateness of disgorgement and civil penalties. In the SEC’s Motion for Summary Judgment it requested disgorgement of $2,146,116.15 and pre-judgment interest of $76,211.73 by Ireeco, LLC. As to Ireeco, Ltd. the SEC requested disgorgement of $1,479,633.85 and pre-judgment interest of $52,543.97. Additionally, the SEC requested that each Ireeco entity pay a civil penalty of $75,000. As support for these figures the SEC submitted a heavily-redacted ledger of the fees received by the Ireeco entities.

In its Response Opposing Summary Judgment the Ireeco entities argued that they did not have the ability to pay any of the SEC’s proposed remedies because they were insolvent. They emphasized that all of their fees were disclosed to investors, they did not receive any additional fees from investors, and that this case did not involve fraud or misrepresentation. Additionally, they pointed out that until this case, there was no “clear and unambiguous legal precedent” applying broker dealer regulations in EB-5.

The Ireeco entities’ response highlights the investigative procedure in this case. On May 24, 2012 the SEC sent Ireeco, LLC an informal letter seeking information and documents. Then, on September 27, 2012 the SEC issued a Formal Order of Investigation that “specifically identified” four competitors (including Ireeco, LLC) “in what appeared to be an industry-wide investigation into the EB-5 industry.” Subpoenas followed on October 22, 2012 and February 26, 2013.

The SEC’s investigation lasted just over three years, including a dormancy period from April 2013 through February 2014. When its investigation resumed, the SEC requested additional financial data from the Ireeco entities. On August 14, 2014 the SEC issued a Wells Notice to the Ireeco entities, which was followed by settlement discussions lasting six months.

Replying to the Ireeco entities’ opposition to summary judgment, the SEC noted that their inability to pay resulted “entirely from… distributions to their principals.” A significant portion of these distributions occurred within the two years after the Ireeco entities became aware of the SEC’s investigation. Accordingly, the SEC argued that the Ireeco entities’ inability to pay should not be considered because “giving ability to pay significant weight in the disgorgement context would create a perverse incentive… to spend ill-gotten gains quickly and without restraint.”

In a Sur-Reply Opposing Summary Judgment the Ireeco entities addressed the SEC’s contention that inability to pay should not be given significant weight because it arose from distributions to the principals. Since the settlement was entered into with knowledge that the Ireeco entities, and not their principals, would be charged, the Ireeco entities argued that the SEC could not legitimately focus on non-parties to illustrate a “self-created inability to pay.” In addition to this argument, the Ireeco entities disclosed a more precise timeline for their receipt of fees: “between 6 and 16 months after” the investments were made.

Final Decision

On March 24, 2016, roughly nine months after the OIP was issued, the SEC issued its Initial Decision, ordering Ireeco, LLC to pay disgorgement of $1,700,000, approximately $440,000 less than the SEC requested. Ireeco, Ltd. was ordered to disgorge the exact amount requested by the SEC: $1,479,633.85. Both Ireeco entities were also ordered to pay pre-judgment interest as stipulated in the OIP, and both avoided civil penalties.

The decision acknowledged that the Ireeco entities received fees totaling $3,625,750 between January 2010 and February 2014. These fees were due once the investors referred by the Ireeco entities received their conditional green cards, and “were essentially commissions.” Finding that the sum of the fees received was a reasonable approximation of the Ireeco entities unjust enrichment, the ALJ ordered disgorgement. Since Ireeco LLC had no ability to pay, it was only ordered to disgorge the amount paid to its principals: $1.7 million. Although Ireeco, Ltd. was also insolvent it had paid its principals more than the amount sought, and was thus ordered to disgorge the full amount it was unjustly enriched.

Per the OIP, if disgorgement was ordered then the Ireeco entities would be required to pay pre-judgment interest thereon, based on the rate of interest used by the IRS for the underpayment of federal income tax. The period for calculating pre-judgment interest began on January 1, 2010 and continues to “the last day of the month preceding the month in which payment of disgorgement is made.”

Reaching the decision to decline ordering a civil penalty, the ALJ considered the following factors:

• Whether the violation involved fraud, deceit, manipulation, or deliberate or reckless disregard of a regulatory requirement;
• Whether the violation resulted in harm to others;
• The extent to which there was unjust enrichment;
• Whether the respondent has committed previous violations;
• The need to deter the respondent and others; and
• Such other matters as justice may require.

The ALJ found that it was not in the public interest to impose a penalty because none of these factors weighed strongly enough in favor of a penalty. Agreeing with the Ireeco entities, the ALJ observed that there was no fraud, deceit, manipulation, or deliberate or reckless disregard of a regulatory requirement. Additionally, this case was the first broker-dealer enforcement action in the EB-5 context, which made the mere fact of an investigation far less significant than usual. The ALJ also noted the “period of extensive non-activity” by the SEC as support for the proposition that there was no deliberate or reckless disregard of a regulatory requirement.

Since there was no harm to others, disgorgement addressed the unjust enrichment factor, no previous violations, no apparent need for additional deterrence, and the Ireeco entities apparently cooperated with the investigation, there was no need for civil penalties. The initial decision became final on May 12, 2016.

Observations and Discussion

Timing of incorporation of Hong Kong-based Ireeco Limited

Ireeco Ltd. was incorporated in Hong Kong in May 2012, and picked up where U.S.-based Ireeco, LLC left off, soliciting foreign investors and receiving transaction-based compensation from regional centers.  At the same time as Ireeco Ltd. was formed, the SEC initiated its investigation by sending Ireeco, LLC informal letter requesting documents. The OIP ever so slightly hints that the purpose of using Ireeco Limited may have been to evade SEC jurisdiction by noting that this entity was formed “purportedly for tax purposes.” This same tactic was at issue in SEC v. Feng and led to severe consequences for the unregistered broker-dealer.

Later enforcement actions name individuals

One of the arguments by the Ireeco entities was that they were insolvent, and thus had no ability to pay any of the SEC’s proposed remedies. The SEC responded by arguing that inability to pay should not allow the Ireeco entities to escape liability because insolvency was due to distributions to the principals. The Ireeco entities countered that they entered into the settlement with the understanding that only the entities, and not their principals would be penalized. No civil penalties were imposed in this case, and the amount that the Ireeco entities were ordered to disgorge was limited to the amount paid to the principals due to the Ireeco entities’ inability to pay,

In all but one of the 18 EB-5-related administrative enforcement actions that the SEC has taken since this case was initiated, the SEC has named at least one individual in the OIP. By naming an individual in the OIP, the SEC may be foreclosing the arguments made by the Ireeco entities here. Since both individuals and entities have been named in the proceedings have followed, both individuals and entities may be responsible for paying disgorgement, pre-judgment interest, and civil penalties.

The suspect nature of ‘due diligence’

The Ireeco entities received transaction-based compensation from the same parties on which they performed due diligence. Although some due diligence may have been performed prior to executing the “referral partner agreements” it would not be reliable by the time a foreign national was ready to invest. After executing these agreements, the conflict of interest would be too great for any due diligence exercise to be legitimate. For example, if Ireeco Limited conducted a due diligence inquiry when it was formed in May 2012, and then signed a referral partner agreement the following month, it would have no incentive to conduct a separate due diligence inquiry in January 2015. The initial due diligence inquiry would be completely unreliable due to the possible changes in the intervening two and a half years.

Possible link to SEC v. Quiros

Although some regional centers were identified in Exhibit 1 of the SEC’s Motion for Summary Judgment, others were not. Some of the un-redacted first names in this exhibit were identical to the plaintiffs’ names in Daccache v. Raymond James, where the plaintiffs are the same as the investors in SEC v. Quiros. In that case the SEC alleged that Ariel Quiros diverted funds that were invested in the Vermont Regional Center. As a result, many investors did not obtain their permanent green cards.

To investigate the connection between the Ireeco entities and the Vermont Regional Center, I compared Exhibit 1 of the SEC’s Motion for Summary Judgment to a publicly-available list of the Vermont Regional Center’s Investors. First, I entered the names of the Vermont Regional Center’s investors into a Microsoft Word document. Then, using the ‘find’ function, I searched this document for the first names listed on Exhibit 1 of the SEC’s motion for summary judgment in this case.

In all, twenty-seven of the first-names matched the Vermont Regional Center’s investor list. Among the matches were “Alexandre,” “Massimo,” “Fernando,” “Manuel,” “Rose,” “Rafael,” “Zhaoxia,” “Carlos,” and “Johannes.” As of this writing a Freedom of Information Act request is pending with the SEC for the investigative record in this case.

 

Conclusion

U.S.-based broker dealers cannot dodge SEC enforcement by incorporating overseas. Here, the overseas entity, Ireeco Ltd. was incorporated after the SEC initiated its investigation, but was still named as a Respondent and ordered to pay disgorgement and pre-judgment interest. Since the principals were in the U.S. the SEC could take enforcement action against the foreign entity. Similarly, individuals cannot dodge penalties and disgorgement by acting through a corporation or LLC because the SEC now takes action against both individuals and entities.

Although the Ireeco entities’ argument that this case did not involve fraud or misrepresentation was apparently accepted by the ALJ, this contention is not necessarily true. First, the Ireeco entities represented to clients that they conducted due diligence, but the precise due diligence activities that they undertook is unclear. A broker’s failure to conduct reasonable due diligence on the investments it recommends can constitute a violation of the federal securities laws.

Second, given the similar first names of the investors here and the investors in SEC v. Quiros, any due diligence performed by the Ireeco entities may not have been reasonable. Notably, Rapid Visa USA, a company in the same business as the Ireeco entities, recognized the suspicious activity at issue in SEC v. Quiros and ceased doing business with the regional center there. Since broker dealers may be in violation of the anti-fraud provisions of US securities law if they fail to conduct reasonable due diligence, there is at least a possibility that this case did involve fraud and misrepresentation. The SEC may be able to resolve this issue by comparing the investigative record in this case with the investigative records in SEC v. Quiros.