On August 26, 2020 the Securities and Exchange Commission (the “SEC”) adopted certain amendments (the “Amendments”) to the definition of an “accredited investor” as defined by Regulation D of the Securities Act of 1933 (the “Securities Act”).[1]
Whether a natural person or entity qualifies as an accredited investor is particularly important in determining who may participate in certain types of private securities offerings, including offerings made pursuant to Rules 506(b) and 506(c) of Regulation D of the Securities Act. Prior to the Amendments, a natural person could only be an accredited investor if such person either (i) had a net worth of at least $1,000,000 (excluding the value of one’s primary residence), or (ii) had income at least $200,000 each year for the last two (2) years (or $300,000 combined income, if married) and had the expectation to make the same amount this year.[2] The Amendments have, among other modifications, expanded that test as it relates to natural persons to permit certain kinds of persons, based solely upon their professional and educational backgrounds, to qualify as an accredited investor regardless of income or net worth.
Among the changes adopted by the SEC in the Amendments are the following:
- Professional Designations & Education. Natural persons may now qualify as accredited investors solely on the basis of holding certain professional certifications, designations, or licenses which the SEC designates as qualifying. Concurrently with the adoption of the Amendments, the SEC issued an order providing that holders of Series 7, Series 65, and Series 82 licenses qualify as accredited investors. The SEC expressly reserved the right to expand the reach of this rule to include other certifications, designations, and credentials in the future.
- With Respect to Investments in a Private Fund, Investments by the Fund’s “Knowledgeable Employees”. With respect to investments in a private fund, the SEC will now deem “knowledgeable employees” of such fund as accredited investors without reference to a net worth or income requirement. “Knowledgeable employees” are broadly defined as executive officers and employees who participate in investment activities of the fund (as opposed to individuals performing solely clerical, secretarial or administrative activities of the fund).[3]
- Spousal Equivalent. Under the current definition, an individual, together with a spouse, could qualify for accredited investor status either by (i) having $300,000 in joint income or (ii) having over $1 million as a joint net worth. The Amendments expanded the definition to include income and assets from “spousal equivalents” when calculating joint income under either test. The Amendments define “spousal equivalents” as cohabitants occupying a relationship generally equivalent to that of a spouse.
The SEC also expanded the definition of accredited investors as it relates to qualifying entities:
- Entities with $5 million in Assets. Any entity, including Native American tribes, governmental bodies, funds, and entities organized under the laws of foreign countries, which owns “investments” (as defined in Rule 2a51-1(b) under the Investment Company Act) in excess of $5 million and that was not formed for the specific purpose of investing in the securities offered qualifies as an accredited investor.
- Family Offices. The Amendments provide that “family offices” with at least $5 million in assets under management and their “family clients” qualify as accredited investors, so long as those family offices (i) have at least $5 million in assets under management, (ii) were not formed for the specific purpose of investing in the securities offered, and (iii) the purchase of securities is directed by a person who has knowledge and experience in financial and business matters so that the family office is able to evaluate the prospective investment.
- QIBs. In addition to the changes to the definition of “accredited investor,” the Amendments expanded the definition of a “qualified institutional buyer” under Rule 144A of the Securities Act. Now included are limited liability companies and rural business investment companies (“RBICs”) provided they meet the $100 million in securities owned and invested threshold provided by Rule 144(a)(1)(i). The Amendments also add a new provision to ensure that entities that qualify for accredited investor status now also qualify for qualified institutional buyer status so long as they meet the $100 million in securities owned and invested threshold provided by Rule 144(a)(1)(i).
The Amendments represent an important attempt at modernizing and providing additional flexibility around the definition of “accredited investors” and “qualified institutional buyers.” Now, family offices, knowledgeable professionals, FINRA license holders, financial experts, and other entities will be able to avail themselves of the opportunities afforded to accredited investors under the United States federal securities laws.
If you have questions regarding the foregoing, please contact David Morris, Scott Schonfeld or the Fox Swibel attorney with whom you regularly work.
[1] See 17 CFR Parts 230 and 240, Release nos. 33-10824;34-89669, retrievable here.
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