Winning Accredited Investor Status: Let Me Count the Ways
The Importance of Being an AC
Accredited Investor criteria are used to determine the eligibility of investors to participate and invest in private capital markets. The criteria are used to establish both institutional and individual investors who possess the “knowledge and expertise” to be involved in offerings that are not registered with the U.S. Securities and Exchange Commission (or SEC)–that is to say, private investments, like real estate funding companies such as Peerstreet, for example.
The requirements are in place to provide and expand investment opportunities for individuals and entities while maintaining reasonable protections and aiding and promoting capital. Essentially, the law seeks to protect lower net worth or lower earning individuals from a major loss of liquidity.
There are so many investments that are available to Accredited Investors. Being an AC means that the investment firm has less to “worry about”–you are considered a competent, well-funded investor, not a novice, and that allows you to try out all kinds of different investments that the usual brokerage does not (and cannot) offer to the general public.
Some of the “juicy” opportunities available to Accredited Investors can include:
- Venture Capital (Risk Capital
This is a form of equity financing for venture capitalists and angel investors to provide funding for startups and small businesses–in exchange for a share of ownership in the promising, new company
- Hedge Funds
Hedge funds are professionally managed, but they’re subject to less regulation and scrutiny than the usual ETFs and mutual funds, so the asset classes are more complicated (and riskier).
- Hard Money loans
Loans that are short-term loans and are provided by ACs or private companies as opposed to banks, credit unions and traditional lenders. The AC accepts an asset or piece of property as collateral for the hard money loan.
- Certain Crowdfunding opportunities, like PeerStreet and others (like YieldStreet)
See articles about high yield investments with real-world individual results, 5% cash investments and more for ACs on PeerStreet here.
- Real Estate Syndication
This is a method of investing in which a group of investors pool funds to purchase real estate property that they can’t afford individually.
- And more! (Convertible Investments, Grocery-Anchored Commercial Real Estate, Art Finance, Private Credit Investments, Data-Driven CRE Investing, Farm Land, the list goes on)
It Goes Both Ways
Accredited Investor status matters to both the investor AND issuers of private placement offerings. Under Rule 506(c) of SEC Regulation D allows for general solicitation and advertising to anyone, including non-accredited investors, as long as eventually all sales are only made to accredited investors. So companies and investors both want this coveted status.
How to Get Accredited Investor Status: An Expanded Definition
Investments that require you to be an Accredited Investor often gloss over the requirements without explaining all the scenarios. Often they will only describe the Net Worth and/or the Earned Income requirements without describing any of the details. IF you are a sophisticated investor with extensive experience under you belt and a plan for mitigating risk, but do not fully qualify as an Accredited Investor, take heart. The SEC expanded the definition in 2020 which now gives more flexibility for individuals (and institutions) to qualify.
How to Nail the Top Three
How to get accredited investor status? There are three basic ways to currently meet Accredited Investor requirements as an individual, in the eyes of the SEC. First, you must be a natural person who meets a requirement in at least one of these areas:
- Earned Income
- Net Worth
- Securities Licensing
A natural person, in the legal sense, is an individual human being as opposed to a legal person, which may be a private or public organization. Essentially, a natural person has the right to vote, marry, or hold public office. So, assuming you are not a bot or a slave belonging to someone else, you should be good.
Let’s analyze each area, one at a time.
- having earned income exceeding $200,000 (or $300,000 together with a spouse or spousal equivalent) in each of the prior two years, and reasonably expects the same for the current year
You must have an established history of two years or more of high earnings, considered either rich or upper middle class, depending on the part of the country you reside in. (Making $200K a year lands you in the top 5% of American wage earners.) In other words, you can be judged by income alone and pass the test, even if you have no other assets to speak of, or considerable debt.
You can be judged by income alone and pass the test, even if you have no other assets to speak of, or considerable debt.
- has a current net worth over $1 million, either alone or together with a spouse or spousal equivalent (excluding the value of your primary residence)
In this situation, you might still have a mountain of debt, as long as you also have a much higher mountain of assets. This could be helpful for say, real estate investors with properties that have substantially appreciated. However, do note that an increase in a loan amount for a rental property in the 60 days prior to a purchase of an unregistered security counts as a liability, so you cannot artificially inflate your net worth by converting home equity and adding it in to make your assets higher.
You might still have a mountain of debt, as long as you also have a much higher mountain of assets (equaling out to $1 million).
The SEC uses a traditional net worth calculation–note that you cannot include your primary residence and that alternative net worth calculations do include your primary residence.
- holding a Series 7, 65 or 82 license in good standing according to Financial Industry Regulatory Authority (FINRA) standards
Series 7 (General Securities Representative license), Series 82 (Private Securities Offering Representative) and Series 65 (Licensed Investment Adviser Representative) are all financial professional certifications/designations. The reasoning for this requirement is again that if you hold one of these licenses you are financially sophisticated enough to be able to manage an unregistered investment.
According to finance blogger Michael Kitces, “the Series 65 exam isn’t really much harder than other common industry licensing exams,” like the Series 6 or the state Life and Health license. He estimates you will need to do about 2-4 weeks of studying (about 20-30 hours) to get a minimum passing grade on the series 65 exam 72%). The Series 7 is considered by most to the hardest of the FINRA exams, so if you want to be accredited quickly and easily through licensing, consider taking the Series 65 exam.
if you want to be accredited relatively quickly through a professional financial license, consider taking the (easier) Series 65 exam.
Buddy Up: Do the Relationship Math
For both Earned Income and Net Worth, you can also “buddy up” with a spouse or spousal equivalent to meet the requirement. LGBTQ folks, take notice here: this is good for you, too, even if same-sex marriage is on the rocks.
Note the wording below:
- having earned income exceeding $200,000 or $300,000 together with a spouse or spousal equivalent
- has a current net worth over $1 million, either alone or together with a spouse or spousal equivalent
For both Earned Income and Net Worth, you can also “buddy up” with a spouse or spousal equivalent to meet the requirement.
Togetherness is Beautiful
When you calculate your net worth WITH your spouse (or spousal equivalent), it is NOT necessary for the listed assets or properties to be held jointly. Theoretically, one of you could have $999,000 in assets (held in one name), and the other one could have only $1,001 (held in their name) in assets, but the combined total would meet the $1 million net worth requirement.
When you calculate your net worth WITH your spouse (or spousal equivalent), it is NOT necessary for the listed assets or properties to be held jointly.
The same goes for the earned income calculation: one of you could be making only $15,000/year while the other is making $285,000/year, for example.
And the securities being purchased do not have to be acquired jointly, either.
What is a Spousal Equivalent?
On August 26, 2020, the SEC officially broadened the Accredited Investor definition to include “spousal equivalents.”
According to the SEC, a spousal equivalent means “a cohabitant occupying a relationship generally equivalent to that of a spouse.” This could be a domestic partner or other person with whom you live and have a marital arrangement. This gender-neutral language is very important and paves the way for nontraditional marital-style relationships or unions of unmarried LGBTQ investors to qualify.
Other Ways to be Accredited
The accredited investor definition was also broadened in 2020 to include knowledgeable employees of a private fund, so they are permitted to invest in it.
Just as a sidenote, there are three other categories of accredited investors according to the SEC website, which may apply to you.
If you are part of:
- a trust with total assets in excess of $5 million, whose purchase is directed by a sophisticated person
- an entity with total investments in excess of $5 million
- an entity in which all the equity owners are Accredited Investors
A sophisticated person is defined by Rule 506(b) as “someone who has sufficient knowledge and experience in financial and business matters and that he or she is capable of evaluating the merits and risks of the prospective investment, or the issuer reasonably believes immediately prior to making any sale that such purchaser comes within this description.”
But Do They Even Bother to Check?
Some firms do not take the step to verify with an outside entity that their investors are actually accredited. They simply use a written affadavit, status declaration, or basic checkbox on a form. The company VerifyInvestor.com is an example of a third-party reviewer that provides accredited investor verification. Broker-dealers, law firms, companies, and other investors who require verification often use firms as these. VerifyInvestor.com uses licensed attorneys to conduct the verifications for maximum safety and reliability.
A typical verification process involves answering a few simple questions about your assets and net worth, upon which you will receive a request to upload or scan documentation that supports the answers you provide.
Some finance professionals have emphasized that the law should change to also include individuals who have a certain level of education to fulfill the accredited investor requirements. It is very probable that there will be more amendments to SEC Regulation D in the future, possibly addressing even more expansion of the definition of Accredited Investor.
Links of Interest for this Post
Accredited Investors – Updated Investor Bulletin (April 2020)
Final Rule: Amending the “Accredited Investor” Definition (164 pages)
Spotlight on Initial Coin Offerings and Digital Assets
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Disclaimer: All the information provided above and on this site is for informational purposes only and should not be considered as professional investment, legal, or tax advice. You should conduct your own research or consult with a professional financial advisor when investing.
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