[author: Cody McDavis, Law Clerk]
The United States Securities and Exchange Commission (the SEC) expanded the term “accredited investor” under rule 501 of Regulation D of the Securities Act. The change becomes effective on December 8, 2020. The SEC said it made the change to increase investment opportunities while maintaining investor protections.
Generally, to offer or sell a security (like stock) to an investor, a company must register that offering with the SEC, unless the offering or the securities themselves are exempt from registration. Regulation D creates a number of “safe harbor” exemptions from those registration requirements, and is one of the most widely-used exemptions. Under Regulation D, the disclosure requirements for offerings limited to “accredited investors” are substantially more relaxed than those made to non-accredited investors. For that reason, the expansion of who qualifies as an accredited investor is helpful for companies seeking to raise capital more efficiently.
Previously, an individual had to meet certain income or net worth tests to be considered an “accredited investor” for purposes of offerings placed under Regulation D. Under the SEC’s new rule change, the term “accredited investor” has been expanded to include those with certain defined measures of professional knowledge, experience, or certifications. For example, holders of SEC Series 7, Series 65, and Series 82 licenses now qualify. The pool of institutions that meet the definition of accredited investor now includes limited liability companies with at least $5 million in assets and certain “family offices” as defined under the Investment Advisors Act with at least $5 million in assets and others. The SEC is also allowing the public to propose additional certifications or designations for their consideration as qualifying.
Other ways to qualify as an accredited investor continue to exist. An individual who has had income that exceeded $200,000 in each of the two most recent years, or the joint income with his or her spouse that has exceeded $300,000 in each of those years, remain able to participate, provided those levels are reasonably expected to continue above the threshold level in the current year. Similarly, a person can be accredited if his or her net worth (excluding the value of the investor’s primary home and some related debt) exceeds $1 million. Directors and executive officers of the company issuing the securities can also be accredited by reason of their status with the company. Companies and other institutions can also qualify to be accredited investors under different criteria.
On a related note, the term “qualified institutional buyer” was also broadened to include limited liability companies (LLCs) and rural business investment companies (RBICs) having at least $100 million in securities owned. Like accredited investors, qualified institutional buyers are permitted to participate in the privately placed offerings that are exempt under Regulation D. The SEC’s expansion of the term increases the institutional players in the market for exempt securities offerings.
The SEC reported in its rule release that in 2019, an estimated $1.56 trillion in new privately placed offerings were made under Regulation D. That translates to about 40% of all new capital raised in 2019, public and private. Expanding the definition of accredited investors helps to further the use of these exemptions from the registration requirements to enhance capital formation. Qualifying as an accredited investor allows for more individuals and institutions to participate in private investment opportunities that are not generally available to the public, including offerings by certain hedge funds, private equity funds, and venture capital funds.
The full Securities and Exchange press release by the United States Securities and Exchange Commission is available here.
Cody J. McDavis is a law clerk in the Firm’s Business Transactions practice group.