The SEC is proposing some changes to the definition of an accredited investor that would make it easier to qualify. Just days before Christmas, it released a proposal that includes new qualification categories that go beyond the current requirements for income and wealth. If these amendments are approved, more individuals would be allowed to invest in private placement or crowdfunding deals while insuring the quality of the investor pool.
The Securities and Exchange Commission announced the proposed amendments on December 18th, and a 60-day public comment period is now underway. The SEC said in a press release, “The proposal seeks to update and improve the definition to more effectively identify institutional and individual investors that have the knowledge and expertise to participate in our private capital markets.” (1)
This is an important matter for anyone who wants to invest in bigger real estate deals as a way to build wealth. Qualifying as an accredited investor makes it possible to invest in asset classes like real estate syndications, real estate crowdfunding, venture capital and hedge funds.
The SEC requirements are there to protect the investor but some people feel they are too restrictive. Right now, there are only two ways to be recognized as accredited, either by income or by wealth. (2)
To meet the income requirement, an individual would need to have earned $200,000 in each of the two most recent years, or $300,000 as joint income with a spouse, and have a reasonable expectation that they would earn the same amount in the current year.
To meet the wealth requirement, an individual must have a minimum net worth of at least $1 million, excluding the value of a primary residence. You don’t have to meet both of those criteria — just one of them.
The SEC also allows the so-called “sophisticated” investor to participate in deals, but with more limitations. A sophisticated investor is defined as “having enough knowledge and experience in business matters to evaluate the risks and merits of an investment.”
A few of the rules for sophisticated investors include a limit on the number of those individuals allowed in a private placement deal. They are also subject to strict caps on investment amounts for crowdfunded deals. If they earn less or are worth less than $100,000, they can only invest 5% of that amount up to a maximum of $2,000. If they earn more or are worth more than $100,000, they can invest 10% of that amount, up to $100,000.
There’s been a debate for quite some time over the SEC rules and whether they exclude too many individuals, so this proposal may provide the changes that some people have been clamoring for. The SEC said in a statement that, “The proposed amendments to the accredited investor definition would add new categories of natural persons based on professional knowledge, experience, or certifications.” (3)
A few of the highlights include:
- Accredited status based on certain professional certifications or designations. That would include Licensed Representatives for General Securities, Investment Advice, and Private Securities Offerings, also known as Series 7, 65, and 82 respectively.
- A new category for private fund investments that would qualify knowledgeable employees. That includes hedge funds, private equity funds, and venture capital funds. Individuals who have participated in their management for at least 12 months would be able to invest as a job benefit.
- An expanded list of entities that would qualify as accredited including limited liability companies that meet certain conditions, registered investment advisers, rural business investment companies, and Indian tribes. It would also add family offices with at least $5 million in assets.
- The addition of the phrase “spousal equivalent” to the definition for the purpose of calculating “joint income.” The person doesn’t have to be the spouse, but rather what you might think of as equivalent to a spouse.
SEC Chairman, Jay Clayton, says, “Modernization of this approach is long overdue.’ He says, “The proposal would add additional means for individuals to qualify to participate in our private capital markets based on established, clear measures of financial sophistication.” (4)
Commissioner Allison Lee feels the changes go too far. She told Wealth Managment.com, “It appears that the failure to update these thresholds may be less about providing American investors access to lucrative private markets, and more about providing private markets access to potentially vulnerable American investors.” (5)
(3) Lexology Article