If you're an entrepreneur trying to raise capital, or an investor looking to invest in startups, you’ve likely heard the term “accredited investor.” The definition of that term effectively determines who can access the private securities markets and invest in privately held companies. If you’ve been locked out of the private markets, then you may be in luck: The SEC recently announced plans to broaden that definition, expanding the pool of investors that can invest in privately held companies.
The current definition, outlined in Section 501 of Regulation D, utilizes a binary approach based on a person’s income or net worth. For instance, an individual (who is not an executive, director, or general partner of the issuing company) is considered an accredited investor only if:
they have a net worth exceeding $1 million (individually or with the investor’s spouse), or
they have an annual income exceeding $200,000 individually, or $300,000 of joint income for the last two years with the expectation of earning the same or higher income for the current year.
As of 2016, the SEC estimated that only 13% of U.S. households qualified as accredited investors.
For entities (that are not on an enumerated list of highly regulated institutions, like banks) to qualify, they must:
be a trust, 501(c)(3) non-profit, corporation, Massachusetts or similar business trust, or partnership that has assets exceeding $5 million, and was not formed for the specific purpose of investing in the securities, or
consist solely of equity owners who are accredited investors.
Investors who don’t meet these qualifications may not participate in private placements.
The proposed amendments to the definition would add new categories of qualifying natural persons and entities and make certain other modifications to the existing definition. The proposal seeks “to more effectively identify institutional and individual investors that have the knowledge and expertise to participate in our private capital markets.” Under the proposal, there would be additional means for individuals to qualify as accredited based on established and clear measures of financial sophistication.
Among other changes, the new rule would:
permit individuals to qualify as accredited investors based on certain professional certifications and designations, such as a Series 7, 65 or 82 license, or other credentials issued by an accredited educational institution;
add the term “spousal equivalent” to the accredited investor definition, so that spousal equivalents may pool their finances for the purpose of qualifying as accredited investors,
add a “catch-all” category for any entity, including LLCs and family offices, owning in excess of $5 million in investments and that was not formed for the specific purpose of investing in the securities offered.
In announcing the decision, the SEC explained that “[t]he proposed amendments would allow more investors to participate in private offerings by adding new categories of natural persons that may qualify as accredited investors based on their professional knowledge, experience, or certifications. The proposal would also expand the list of entities that may qualify as accredited investors by, among other things, allowing any entity that meets an investments test to qualify.”
The period for the public to comment on the proposed revisions ends on March 16, 2020.
Do you have questions about whether you or a possible investor qualifies as an accredited investor? Don't hesitate give us a call, or reach out to firstname.lastname@example.org.
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