An Obscure Program Shows How FinTech Can Fight Stimulus Fraud

Sen. Chuck Grassley offered a scathing critique of the federal government’s EB-5 immigrant investor program and the potential for fraud when the Senate passed a bill last year reforming the three-decade-old program.

The money from foreign investors — who in return for investing $ 500,000 to $ 1 million were promised green cards — was supposed to spark economic activity in distressed and rural areas. “All of a sudden, investment dollars intended for communities in need were being sucked up for glitzy projects in America’s most well-to-do neighborhoods,” Grassley wrote in an opinion piece at the time.

If that were true, the episode would be another disgraceful nail in the coffin of an American dream that’s stimulated hard work, ingenuity and brought the dreamers and ambitions of the global community to this country. A dream that made it the glorious example of human achievement it once was. Now, just like an Ivy League education, can your parents buy it for you?

What’s EB-5?

Understanding what went wrong with the EB-5 program, and how policymakers and the private sector adapted over the past decade, is instructive. It’s especially instructive, urgently so, as we deal with a new wave of funding, ostensibly managed by the federal government, but largely relying on the vetting and fraud-detection capabilities of private financial services, from big banks to boutique investors.

We could be entering a golden age of financial crime. Six trillion stimulus dollars have been injected into the financial system. That’s equivalent to 27 percent of the U.S.’s gross domestic product with more than half of it in cash sent out in only about three months. I can’t think of a larger structural change in the economy, ever. Even after Pearl Harbor, it took a year to get the vaunted World War II economy moving.

Follow the money

Early criticism of the spending has focused on where the money is going. The Small Business Administration allowed funds to go to parts of the country that weren’t as hard hit, according to reports. It went to companies that many felt didn’t fit their idea of small main street shops. Billion-dollar sporting franchises have allegedly been exploiting the “small” business loan. The list only starts there.

Much of the money has already been lost to fraud and deception. In the banking sector the talk is all about “Know Your Customer.” Too late. There have been a huge number of projects to try to “know” the customer.

But the silos of diverse and distributed data, incompatible technologies and processes within a firm, and poorly executed mergers have all undermined really understanding the customer. Banks lose insight into the customer’s behavior, sentiment, risk and expectations. Or whether even the customer is real, or honest.

As we face a long road ahead in figuring out who inherits the debt and the associated risks from COVID-19 stimulus spending, what was Senator Grassley stewing over with the EB-5 jobs program?

Easy money

The EB-5 program started to grow in popularity after a previous series of reforms in 2005. Those reforms made the application process faster and easier. In 2015 alone, there were 17,691 applications for visas through the program.

As EB-5 activity increased, so did abuse of the program, ranging from a couple accused of double-dealing in their operation of a regional center for investment in California, to developers in Vermont accused of a “multi-year wire fraud scheme.”

The massive investments into New York City property, particularly Hudson Yards, also showed how a program meant to bring brains and ideas into the country, may have been just getting Green Cards for kids with more money.

There’s one particularly important lesson from the EB-5 program’s past troubles. The government and investors are quick to blame financial institutions. Due diligence and identifying fraud is a must.

The Government Accountability Office wrote in a 2015 report that “fraud risks in the EB-5 Program are constantly evolving, and continually identify new fraud schemes.” Like nearly all specialized conduits for high volumes of funds outside of normal channels, EB-5 is susceptible to bad actors.

How technology figures in

There are many stories of past scandals. But proponents have plenty of evidence to argue EB-5 works. It works when it’s effectively and correctly used. It is actually highly beneficial to the U.S. economy and job creation.

Looking back on the jobs created or saved by EB-5 during the Great Recession, the 174,000 jobs the Department of Commerce discovered came from EB-5 represented 4.3 percent of U.S. job growth during that time.

What few realized, and realize even today, is the role played by the rise of technology to support fund administration, like the work of NES Financial in Silicon Valley, which has since been acquired by JTC Group.

Purpose-built technology and processes enabled end-to-end process management beyond middle and back-office accounting and administration. Speed and quality have advanced. Early machine learning has delivered.

Investors and fund managers need a clear picture of investment, compliance and impact information. They need to manage and report on large pools of small limited partners. That had to be done regardless of average investment size. Doing that established best practices, protected investors and helped limit fraud.

Getting to success

Senator Grassley may continue to be concerned about where the money goes. But the financial integrity of the program is now impressive. Past problems with fraud have not reemerged.

Policy-making is now shoring up technology. Just recently a 2019 bill made many seemingly minor changes. But together they create myriad new opportunities. New chances to stop funds from going to bad actors. They also significantly increase the demands on the private and public actors involved.

The 2019 law established an “EB-5 Integrity Fund” — funded by fees from investors — to be used by the Department of Homeland Security for international anti-fraud activities including audits and site visits.

It required background checks of project principals; more disclosures to investors regarding business risks and conflicts of interest; and more oversight of projects and closer monitoring for securities compliance. The technology that’s now in place is key.

It makes these requirements possible. And it allows them to work, and not choke oxygen off from the program with frustrating paperwork.

A success? Actually, yes. But crime evolves quickly and so the test will be how long this success stays on target.

A menagerie of fraud

The government is not the only one shouldering the threat of fraud. That’s true, in both the EB-5 program and the more recent employment-based loans. It also falls on the various banks and contractors involved in the deals.

Here are a few examples of what could be coming our way.

Employee stuffing or shedding is a problem. For instance, it occurs when companies fraudulently expand their payroll to increase their fund eligibility. They may then get rid of staff and continue making ghost payroll payments to avoid violations of the loan agreement.

There are shuck and clean operations. Organized crimes take over distressed firms for cash. It’s not just for fraud. These operations are a wholesale assault by establishing hundreds of shell companies. And this one troubles us the most.

We should be very concerned about opening up the financial markets to easy access to crime. Entities are dangerous when ownership is the same, but control over it has changed without the bank knowing.

Identity theft and elder abuse are the types of petty fraud that often plague government-assistance programs. They will continue but will get worse, supercharged by the $ 350 billion in US stimulus.

Finally, cross-system abuse is another problem. This is where companies use multiple bank relationships to make multiple applications for the same staff pool and the same receivables. Don’t confuse this with legitimate companies trying to switch banks mid-process.

Due diligence

The government’s approach has a major weakness. The rush of stimulus occurring now is running through relaxed due diligence.

“If the PPP loan is being made to an existing customer and the necessary information was previously verified, you do not need to re-verify the information,” the Department of Treasure advised in April.

And this creates a perfect account takeover scenario both from within and now from outside the country. Companies can change hands and shed half their employee base without anyone noticing. The scale and urgency of the coronavirus crisis measures are enormous.

It’s understandable why the federal government has tried to get money out the door with limited friction. As we learned with EB-5, the risk of reducing friction is inviting fraud.

Technology has to be the answer again. It is the only answer frankly.

It will likely be years before we are able to account for the billions in COVID-19 stimulus funds distributed. The sooner we make smart investments in anti-fraud efforts, the more we will actually help legitimate companies. We can help companies hoping for a chance at recovery.

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