By Thomas Palmer and Mick Harris
In December 2019, the Securities and Exchange Commission proposed amending the definition of “accredited investor” under Regulation D of the Securities Act of 1933. Currently, there are eight different categories by which a natural person is deemed an accredited investor, including individuals whose net worth exceeds $1 million and those with income in excess of $200,000 in each of the two most recent years. Over the years, the SEC recognized that the financial measures of income and net worth are not complete proxies for financial sophistication and the SEC sought to update the rule through this proposal. Rather than revise the rule generally, however, the current rule proposal would only expand the categories of accredited investors to include:
- Individuals with certain professional certifications; and
- Certain entities with investments in excess of $5 million.
If you have friends or colleagues seeking investment opportunities, this proposal may open new doors for investment. The specific features of the proposal are summarized below.
First, the SEC is proposing a new category for natural persons to qualify as accredited investors based on certain professional credentials that demonstrate an individual’s background and understanding in the areas of securities and investing. The new categories include, for example, licensed securities representatives holding a Series 7, 65, or 82 license, and investment advisor representatives. The categories may be expanded through future SEC rulemaking. In addition to certain licensed and certified individuals, the SEC also proposed a new category of accredited investor that would meet the definition of “knowledgeable employee” of a private fund. This would include, among others, trustees and advisory board members, or persons serving in a similar capacity, as well as certain employees of a private fund.
Second, the rule expands the list of entities that may qualify as accredited investors and allows entities that pass an investment test to qualify. Historically, banks, insurance companies, and certain employee benefit plans qualified, but registered investment advisers did not. Under the proposed rule, investment advisers would be included. Additionally, the proposal adds a new accredited investor definition for any entity owning investments in excess of $5 million that is not formed for the specific purpose of acquiring the securities offered. This proposal serves entities that have traditionally been excluded, such as limited liability companies, tribes, labor unions, governmental bodies and funds, and entities organized under the laws of a foreign country.
Third, the rule would allow family offices with at least $5 million in assets to qualify as accredited investors. This proposal would permit family members and certain key employees of the family office, as well as certain charitable organizations and trusts, to be accredited investors.
Finally, the rule would allow individuals to pool income from spousal equivalents, defined as a cohabitant occupying a relationship generally equivalent to that of a spouse.
Overall, the proposed amendments would allow more investors to participate in private offerings and are intended to facilitate capital formation for private companies by expanding the pool of individuals and entities allowed to invest in securities that are not generally available to the public.
The rule proposal was published in the Federal Register on January 15, 2020, and the public comment period will remain open until March 15, 2020. If you have questions or would like to comment to the SEC on the proposed expansion of the definition of “accredited investor,” please consult with your principal contact at Tonkon Torp for additional guidance.
This client update is prepared for the general information of our clients and friends. It should not be regarded as legal advice. If you have any questions regarding this update, or for more information about this topic, please contact the attorney with whom you normally consult or an attorney in our Corporate Finance Practice Group.
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