Effective Today: FINRA Rule 2040: Disclosure of Finder's Fee payments to Foreign Agents

Effective Today: FINRA Rule 2040: Disclosure of Finder's Fee payments to Foreign Agents

Effective today all issuers of securities offerings are required to disclose to investors the amount of fees paid to foreign agents (finders) and receive written acknowledgement from the investors of  the fees paid.   A document disclosing the total compensation paid by the issuer to the finder, and each investor's acknowledgement of the same, must be retained and available for inspection by FINRA.

This regulation could transform the EB-5 visa industry from one of non-disclosure and non-transparency concerning agent compensation agreements if complied with, the question is, how many Regional Centers and Direct issuers will comply with this new regulation?  

The problem is that none of the overseas agents want to disclose how much compensation they are getting from the Regional Centers, which can vary from $25,000 to over $200,000 per investor (5-40%+ brokerage fee for a $500,000 investment) when both upfront administrative and ongoing commission percentage fees are combined.  

The investors will most likely be very upset when they learn how much their agents are being compensated considering that they are paying the large administrative fee ($45,000+) on top of paying them a standard agent $10,000+ due diligence & processing fee and are frequently earning less than 1% ROI for carrying all or most of the risk.  In other words, the agents earn the bulk of the earnings from the transaction for carrying none of the risk.  Any wonder why they or the Regional Centers would not want to disclose this to their clients and investors?  

So the question is: how will the EB-5 Regional Centers & Direct issuers be able to comply with the disclosure requests of FINRA as well as those of their non-transparent foreign agents which are in complete opposition to one another?

FINRA is dedicated to investor protection:

  • every investor receives the basic protections they deserve;
  • anyone who sells a securities product has been tested, qualified and licensed;
  • every securities product advertisement used is truthful, and not misleading;
  • any securities product sold to an investor is suitable for that investor's needs; and
  • investors receive complete disclosure about the investment product before purchase.

The foreign agent's mandate is simple: to maximize their profit at the expense of the investor by providing no transparency regarding their compensation agreements and usually little of the risks associated with the transaction.  

The issue is that overseas agents dictate who gets funded in these EB-5 transactions, so if the issuer chooses to disclose these payments to the investors they will most likely jeopardize their relationship with the foreign agent and lose their source of funding, not to mention anger potential investors by disclosing these lopsided nonsensical compensation agreements.   

Noncompliance however, could place the issuers into bigger problems with the federal agencies including having to possibly rescind the offering, refund investor's capital, civil and criminal penalties.   It will be interesting to see how their counsel guides them, and the overseas agents, into compliance or non-compliance.  Up until now the Centers have been able to hide by not disclosing these compensation agreements to investors or regulators, however starting today, that is no longer an option.  

Here is the text from the Regulatory Notice Payments to Unregistered Persons that covers the payments of fees to Nonregistered Foreign Finders:

d. FINRA Rule 2040(c) (Nonregistered Foreign Finders) Rule 2040(c) replaces NASD Rule 1060(b) and NYSE Interpretation 345(a)(i)/03, and provides that a member firm and persons associated with a member firm may pay transaction related compensation to non-registered foreign finders where the finders’ sole involvement is the initial referral to the member firm of non-U.S. customers, and the member firm complies with all the conditions set forth in the rule (foreign finders exemption):

(1) the member firm has assured itself that the finder who will receive the compensation is not required to register in the United States as a broker-dealer nor is subject to a disqualification as defined in Article III, Section 4 of FINRA’s By-Laws, and has further assured itself that the compensation arrangement does not violate applicable foreign law;

(2) the finder is a foreign national (not a U.S. citizen) or foreign entity domiciled abroad;

(3) the customers are foreign nationals (not U.S. citizens) or foreign entities domiciled abroad transacting business in either foreign or U.S. securities;

(4) customers receive a descriptive document, similar to that required by Rule 206(4)-3(b) of the Investment Advisers Act of 1940, that discloses what compensation is being paid to finders;

(5) customers provide written acknowledgment to the member firm of the existence of the compensation arrangement and such acknowledgment is retained and made available for inspection by FINRA;

(6) records reflecting payments to finders are maintained on the member firm’s books, and actual agreements between the member firm and the finder are available for inspection by FINRA; and

(7) the confirmation of each transaction indicates that a referral or finders fee is being paid pursuant to an agreement.

If all the conditions set forth in Rule 2040(c) are satisfied, member firms can pay ongoing transaction-related compensation to non-registered foreign finders based on the business of non-U.S. customers that finders refer to member firms, and all accounts referred by such foreign finders would be carried on the books of the member firm.

Any activities beyond the initial referral of non-U.S. customers and payment of transaction-based compensation for any such activities would not be within the permissible scope of the foreign finders exemption as set forth in Rule 2040(c).

Based solely on its activities in compliance with Rule 2040(c), a foreign finder would not be considered an associated person of the member firm. However, unless otherwise permitted by the federal securities laws or FINRA rules, a person who receives commissions or other Regulatory Notice 5 March 2015 15-07 transaction-based compensation in connection with securities transactions generally has to be a registered broker-dealer or an appropriately registered associated person of a broker dealer who is supervised by a broker-dealer.

Member firms that engage foreign finders would be required to have reasonable procedures that appropriately address the limited scope of activities permissible under such arrangements.

For commentary on this ruling and others by securities counsel, compliance firms and experts please visit our EB-5 Visa Securities Alerts Updates in our Investments portal



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