On December 18, 2019, the Securities and Exchange Commission proposed amendments to expand the definition of “Accredited Investor” in Rule 501(a) of Regulation D under the Securities Act of 1933. The proposed amendments, if adopted, will significantly increase the pool of funds available in private offerings to accredited investors.
Current Accredited Investor definition for individuals:
(a) Persons who have (a) a net worth exceeding $1,000,000 excluding the value of the person’s primary residence; or
(b) Individuals with annual income in excess of $200,000 for the prior two years and expect income for the current year to exceed that amount as well, and individuals who along with the persons’ spouse have income in excess of $300,000 for such periods.
Current definition for entities:
Proposed changes for individuals
- Banks, insurance companies, registered investment companies, and business development companies
- ERISA-governed employee benefit plans advised by banks, insurance companies or registered investment advisors where the plans have assets in excess of $5 million
- Charitable organizations with assets exceeding $5 million
- Directors, executive officers, or general partners of entities selling the securities
- Businesses in which all the equity owners are accredited investors
- Trusts with assets in excess of $5million not formed to acquire the securities offered and where the purchases are made on the trust’s behalf by a person with significant investment experience (a “sophisticated” person)
The proposed rule expands the definition to include:
- Financially sophisticated natural persons who have professional certifications, such as licensed general securities representatives with a Series 7 license, licensed investment advisory representatives (Series 65 license) and licensed securities offering representatives (Series 82) will now be included with the accredited investor definition without regard to income or net worth. The SEC estimates that this bring about 700,000 additional individuals within the definition.
- “Spousal equivalents”—defined as “a co-habitant occupying a relationship generally equivalent to that of a spouse”—for purposes of the joint income test.
The income and net worth standards for individuals have not been changed since Reg. D was introduced in 1982, except to add the exclusion of principal residence from the $1 million net worth test.When Reg. D came into effect, estimates were that only .53% of the population fell within the definition.Today, that number is estimated to be 8.9%.If adjusted for inflation, the income threshold today would be in excess of $500,000, and the net worth requirement in excess of $2.5 million.
Proposed changes for entities
New entities that will be accredited investors under the proposed rule are:
- State or federally registered investment advisors
- Rural Business Investment Companies
- Limited liability companies with assets exceeding $5 million not formed for purposes of acquiring the offered securities
- Any entity directly owned by individuals who are accredited investors or indirectly owned by another entity composed of persons whose equity owners are all accredited investors
- Any entity who has investments in excess of $5 million not formed for purposed of acquiring the offered securities
- Family offices that have assets in excess of $5 million not formed for purposes of acquiring the offered securities and whose investments are managed by a person who has such knowledge and experience in financial and business matters such that the person is capable of evaluating the risks and merits of the proposed investment
It is estimated that the funds available from the new accredited investor entities will at least double and possibly triple the current pool.In the family office category alone, there are between 2500 and 3000 family offices with assets of approximately $1.2 trillion.
Commentary has been favorable, with some criticism that the rule does not go far enough.The comment period expires on March 16.