Suppose you’re a sophisticated investor in the U.S. who wants access to investment opportunities such as private equity, venture capital, hedge funds, and other offerings not registered with the SEC. In that case, you have to be an accredited investor. Until last month, however, this meant earning an annual income of $200,000 individually (or $300,000 jointly with a spouse) or a net worth that exceeded $1 million.
On May 31, this changed. The House of Representatives approved several bills with bipartisan support to expand the accredited investor definition, opening up an easier road to accreditation for investors who do not meet the income or net worth requirements.The Equal Opportunity for All Investors Act of 2023, which passed in a decisive 383-18 vote, mandates that the SEC develop an examination process administered by theFinancial Industry Regulatory Authority (FINRA)for individual investors aiming to obtain accredited investor status.
The exam would serve as a means for individuals to demonstrate their knowledge and qualifications to participate in specific investment opportunities. The bill’s sponsor, Rep. Mike Flood, R-Neb., said on the House floor. “It is my firm belief that the accredited investor definition should not be tied exclusively to wealth. Instead, we should unlock opportunities for knowledgeable investors that may not come from means.”
What does this mean for you? Let’s dig into the details.
Changes to the accredited investor definition
An accredited investor, as defined by theSecurities and Exchange Commission(SEC) under Regulation D, refers to individuals or businesses that can trade securities not registered with financial authorities and are exempt from certain SEC regulations. Accredited investors are considered sophisticated and, therefore, have a reduced need for regulatory protection. Previously, accredited investors were limited to high-net-worth individuals (HNWIs), banks, insurance companies, brokers, and trusts.
Accredited investors play a vital role in capital formation by providing the necessary funding and investment capital for businesses and startups to grow and expand. However, in 2016, onlyabout 13% of U.S. householdsqualified as accredited investors, according to the SEC.
There have been several amendments to the definition of accredited investors over the years. These have included:
Modernizing the accredited investor definition
In August 2020, theSEC amended the definitionof what constitutes an accredited investor. The amendment revised Rule 501(a), Rule 2015, and Rule 144A of the Securities Act. “The amendments allow investors to qualify as accredited investors based on defined measures of professional knowledge, experience or certifications in addition to the existing tests for income or net worth,”the SEC noted.
The Equal Opportunity for All Investors Act of 2023
This act aims to promote inclusivity in the accredited investor qualification process by proposing the SEC develop an accredited investor certification exam, which asses an investor’s knowledge and understanding of the private market. FINRA, the Financial Industry Regulatory Authority, would administer the exam. Specifically,the exam must:
- Be appropriately challenging to ensure individuals with financial sophistication or training are unlikely to fail.
- Assess competency in specific areas.
- Be administered by a registered national securities association.
- Be provided free of charge to the public.
The bill was co-sponsored by one Republican and two Democrats, reflecting bipartisan dissatisfaction with the SEC’s current wealth-based test for determining eligibility in private securities offerings.
The Accredited Investor Definition Review Act
The Accredited Investor Definition Review Act allows the SEC to determine the specific certifications, designations, or credentials investors need to qualify as accredited. Additionally, this legislation mandates that the SEC conduct periodic reviews of the accredited investor definition every five years. Rep. Bill Huizenga (R-Mich.) said the act would expand investment opportunities for sophisticated investors who might not have the advantage of being born in the ‘right’ zip code or have generational wealth while at the same time providing small businesses and startup entrepreneurs with additional sources of funding.
The Fair Investment Opportunities for Professional Experts Act
The Fair Investment Opportunities for Professional Experts Act enables individuals with specific licenses, educational backgrounds, or professional expertise to be recognized as accredited investors, expanding the pool of eligible investors.
Difference between accredited and non-accredited investors
Accredited and non-accredited investors have distinct characteristics and qualifications that determine the types of investment opportunities and the level of regulatory protection they receive. The key points of difference include:
Accredited investors:
- Have access to certain types of investment in the capital market that are not available to retail investors, such as private equity, hedge funds, real estate investment funds, and specialty investment funds called private placements, including those focusing on crypto.
- Considered to have a higher level of financial sophistication.
- Can participate in private offerings and unregistered securities.
- Generally have fewer regulatory protections due to their presumed financial knowledge and ability to bear risks and invest in illiquid assets.
- Often work with investment advisers to uncover new opportunities.
Non-accredited investors:
- Limited in the types of investments they can participate in.
- They may have more regulatory protections to safeguard their interests.
- Typically have less exposure to riskier investments.
- May need to rely on public offerings and registered securities for investment opportunities, such as stocks, bonds, and ETFs listed on major exchanges like NASDAQ.
What is Rule 501 of Regulation D?
Regulation D offerings refer to securities exempt from SEC registration requirements. Rule 501 of the SEC defines important terms related to Regulation D exemptions. Some key definitions under Rule 501 include:
- Accredited investor:An individual or business able to trade securities not registered with financial authorities and exempt from specific SEC regulations.
- Affiliate:A person or entity that has control over, is controlled by, or is under common control with the issuer of the security. Control means having the power to direct or influence the management and policies of an entity.
- Aggregate offering price:The total value of all consideration, such as cash, property, services, notes, or cancellation of debt, to be exchanged for shares. Rules 504 and 505 set limits on the aggregate offering price, capping it at $1 million and $5 million, respectively.
- Business combination:An unregistered share-based merger or acquisition under a Regulation D exemption. To qualify as a business combination, the issuer must become fully controlled by another company following the acquisition. The exemption allows for completing such transactions without the need for SEC registration.
- Number of purchases:Regulation D exemptions typically limit the number of purchases involved. The count includes every business, partnership, and trust once, as well as individual investors, with a few exceptions.
- Executive officer:The president, any vice president responsible for a primary business unit, division, or function, and any other officer who carries out policy-making functions on behalf of the issuer. It may also encompass executives of issuer subsidiaries if they possess the authority to influence the company’s overall policies.
- Final order:A written directive or decision issued by a federal or state regulatory authority or self-regulatory organization (SRO) that is enforceable and constitutes a final resolution of a violation of any laws or regulations related to securities, commodities, banking, insurance, or other financial services.
- Issuer:Any person or entity that issues or proposes to issue any security. This includes corporations, partnerships, associations, joint-stock companies, and other organizations. The issuer is the entity offering the securities for sale to investors.
- Purchaser representative:To be considered a purchaser representative under Rule 501, an individual must meet the following criteria:
- Possess adequate financial knowledge and experience to assess an investment opportunity’s potential risks and benefits.
- Obtain written acknowledgment from the purchaser acknowledging their role as representative.
- Disclose any significant relationships between themselves or their affiliates and the issuer or its affiliates.
- Not be an affiliate, director, officer, or employee of the issuer or a beneficial owner controlling 10 percent or more of any class of securities issued by the company.
- Spousal equivalent:A cohabitant who shares a relationship similar to that of a spouse.
Why and how Arrived works with the SEC
As the first company to offer shares of rental homes to unaccredited investors, Arrived takes a unique approach. Arrived qualifies each rental home and vacation rental property funded with the SEC, serving two important purposes:
- Inclusive investment opportunities:By qualifying our offerings with the SEC, Arrived opens doors to investors of all types, whether accredited or non-accredited, as long as they are over the age of 18.
- Enhanced investor protection:The qualification process involves thorough procedures, such as completing detailed document disclosures for each property, filing semi-annual financial statements, and conducting annual audits. These measures ensure investors receive comprehensive information about their investments and clearly understand the performance and risks associated with each asset.
Whileworking with the SECadds complexity and lengthens the process, Arrived believes creating an inclusive investment platform that maintains investor protection and fosters more inclusive participation in real estate investments is necessary. To look through our current offerings,browse our available properties.
