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What is an Accredited Investor?

Did you know that there are benefits to being an accredited investor?

In this video, Adam Levine and Tei Kim from Levine Capital discuss the history, definition, criteria, the benefits of being an accredited investor, and implications of SEC’s recent amendment on the accreditation!

Today’s video discusses what an Accredited Investor is, what are the origins and how this came about, and the benefits of being an accredited investor. 

We are here to educate why it started, why it is in place, and the benefits of being an Accredited Investor. Some new things are developing, and changes are being made. 

Where did the notion of being an accredited investor come from?

To start with a little bit of history, a massive stock crash in 1929 led to the Great Depression. 

In an effort to prevent a future market crash, Congress passed a famous 1933 Securities Act. The primary goal of this law was to protect the everyday investor in security transactions. However, private offerings were exempt from this law. The Supreme Court had to decide which investor needed to be protected. Finally, they decided that an investor must have the sophisticated financial knowledge to assess the investment and the financial cushion from suffering the total loss. Only then can the investor be eligible to participate in private offerings.

The SEC standardized investor eligibility and defined a term of credentials. Strictly from a monetary standpoint, only a sophisticated investor has privileged rights. 

You may wonder then why the security law matters? When we think of investment security at large, tradable financial assets like stocks or bonds may come to mind at first. In actuality, the scope of protection in our context here is very broad. 

An example is, you are taking money from real estate investors with a reasonable expectation of a return, and if those returns are generated by your efforts, those are securities. 

It is essential to keep in mind the do’s and don’ts for accreditation, even in real estate.

What is an accredited investor?

Under U.S law, securities may not be offered for sale unless they are registered with the SEC. However, there is an exception that is accepted if they are only being sold to accredited investors. 

What is an accredited investor? An accredited investor can invest in specific opportunities that are not available to the general public. They are permitted to invest in certain unregistered investments such as private equity, venture capital, and hedge funds.

In the United States, to be considered an accredited investor, you must have a net worth of at least one million dollars, which excludes the value of one’s primary residence, or you have an income of at least $200,000 a year for at least two years, or if you are married, a combined income of at least $300,000 a year for two years. 

How to verify accreditation:

Interestingly enough, there is no government agency or independent body that determines investor accreditation. There are not certification exams or pieces of paper that states that someone is an accredited investor. Instead, the companies that issue the unregistered securities must conduct due diligence on the potential investors’ status before the sale. 

The simplest way of validating accreditation for an investor is to get a written confirmation letter from a CPA, a licensed professional such as a registered investment adviser or attorney, and they sign off on a piece of paper that validates your accreditation. Alternatively, you can get a schedule of real estate-owned properties, not including the personal residence, and obtain a credit report. A tax return is also a great way to prove that you meet the requirements. You just have to show your tax return filings for the past two years.

The benefits of being an accredited investor:

The most notable benefit of being an accredited investor is that you have access to abundant investment opportunities that may not be available to non-accredited investors. Accredited investors can invest in private equity or a wide range of alternative investment options beyond the public capital markets and avoid the high volatility of stocks and bonds. 

Adding private investments that are relatively uncorrelated with the public markets can also increase diversification and improve risk versus return optimization of a portfolio. As an accredited investor, you can take full advantage of these opportunities that non-accredited peers cannot even consider. 

What development is going on with the SEC?

There have been changes in the laws around investing. Historically, the individual investors who do not meet the income or net worth requirements currently existing have been denied the opportunity to invest in the private market, regardless of their financial sophistication level. These net worth and income thresholds were established in 1982. The SEC started taking action to address the shortcoming and criticism of the outdated accredited investor criteria.

On August 26th, 2020, the SEC adopted changes to this definition of an accredited investor. Simply put, the amendment allows investors to qualify as accredited investors based on professional knowledge, experience, or some sort of certification. 

These changes are moving to invest in a great direction. There are new entrants to the qualification criteria. As of December 9, 2020, the scope of accredited investors has been expanded to include: 

  • Investors with certain professional certifications, designations, and/or credentials, including the SEC series 7, 65, and 82 license holders
  • “Knowledgeable employees” of a private fund
  • If you are married to an accredited investor and share the financial wealth, you are considered an accredited investor
  • Limited Liability Companies (LLCs) and family office entities with $5 million assets under management
    • Investment advisers registered with the SEC of these entities may be seen as accredited investors

The SEC has invited the public to propose additional certifications, designations, or credentials that should be included. This means there is a really good chance that the criteria will be more expanded further down the road. 

The amendments are likely going to increase the efficiency of this capital-raising process as a whole. 

For more information on accredited investing or other investment knowledge, contact Levine Capital and educate yourself today!