SEC Proposes to Refine “Accredited Investor” Definition to Increase Investment Access
Investment Management Update
Date: February 14, 2020
On December 18, 2019, the Securities and Exchange Commission (SEC) proposed amendments to the definitions of accredited investors and qualified institutional buyers. The proposed amendments are intended to update and improve both definitions to more effectively identify institutional and individual investors having the knowledge and expertise to participate in private capital markets without the protections of the Securities Act of 1933, as amended (“Securities Act”). Specifically, the amendments would:
- Permit natural persons to qualify based on certain professional certifications, designations, credentials or a person’s status as a knowledgeable employee of a private fund;
- Expand the list of qualifying entities;
- Add “family offices” with at least $5 million in assets under management and their “family clients” as each term is defined under the Advisers Act of 1940, as amended (the “Advisers Act”);
- Revise the definition of spousal equivalent allowing spouses to pool their finances for the purposes of qualifying as accredited investors.
Proposed New Categories of Natural Persons Qualifying as Accredited
The proposed amendments would add new categories to the accredited investor definition for natural persons who (1) hold certain professional certifications, designations or other credentials, (2) who are knowledgeable employees of and investing in the private fund, and (3) clarify the calculation of joint net worth.
- Professional Certifications, Designations and Other Credentials: The proposed amendments would expand the definition of accredited investors by adding a category for natural persons who possess certain professional certifications, designations or other credentials that demonstrate an individual’s background and understanding of securities and investing. The proposed amendments would allow holders of Series 7, Series 65, and Series 82 licenses to immediately qualify as accredited investors without regard to income levels. Individuals would be required to maintain an active certification, designation, or credential but would not be required to practice in fields related to the certification.
- Knowledgeable Employees of Private Funds: The proposed amendments would allow employees, through their knowledge and active participation of the investment activities of a private fund, to qualify as accredited investors. The proposed amendments would enable “knowledgeable employees,” as defined under Rule 3c-5(a)(4) of the Investment Company Act of 1940, as amended, of a private fund to qualify as accredited investors for investments in the fund. Knowledgeable employees would include:
- Employees of a private fund;
- Affiliated persons of a private fund (other than employees performing solely clerical, secretarial or administrative functions) who have participated in the investment activities of the private fund for at least 12 months; and
- Trustees and advisory board members, or persons serving in a similar capacity.
Modifications to the Calculation of Joint Net Worth: The proposed amendment would add a note to Rule 501 of the Securities Act to clarify that joint net worth can be the aggregate net worth of an investor and his or her spouse. Further, the securities being purchased by an investor relying on the joint net worth exception need not be purchased jointly.
Proposed Additional Categories for Qualifying Accredited Investors
The proposed amendments would expand the type of entities that qualify as accredited investors. Specifically, the amendments would expand the definition of accredited investors to include SEC and state registered investment advisers, rural business investment companies, limited liability companies, other entities meeting an investments-owned test, certain family offices and certain family clients.
- Investment Advisers: The proposed amendments to would allow investment advisers registered under Section 203 of the Advisers Act and investment advisers registered under the laws of the various states to qualify as accredited investors.
- Rural Business Investment Companies (“RBIC”): RBICs, as defined in Section 384A of the Consolidated Farm and Rural Development Act, would be added to the amended definition of accredited investors. The SEC justified adding RBICs because RBICs promote capital formation and are eligible to take advantage of expanded exemptions from the Advisers Act.
- Limited Liability Companies: Rule 501(a)(3) of the Securities Act, as currently written, excludes limited liability companies from the types of entities that qualify as accredited investors. However, given the widespread adoption of the limited liability companies as a corporate entity, the SEC is proposing to add limited liability companies to the types of entities that qualify for accredited investors status as long as they have total assets in excess of $5 million and were not formed for the specific purpose of acquiring the securities being offered.
- Other Entities Meeting an Investments-Owned Test: The proposed amendments would add a new category to the 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 being offered. This proposed amendment would capture all existing entity forms not already included within the current definition.
- Certain Family Offices and Family Clients: The proposed amendments would add family offices and family clients to the definition of accredited investors as long as a family office would have assets under management in excess of $5 million and a family office or family client that is not formed for the specific purpose of acquiring the securities offered and whose purchase is directed by a person who has knowledge and experience in financial and business matters.
Qualified Institutional Buyer
The SEC also announced proposed changes to the definition of qualified institutional buyer under Rule 144A(a)(1) of the Securities Act. The proposed amendments would add RBICs and limited liability companies listed under Rule 144A as well as expand the list of entities eligible to be qualified institutional buyers to include institutional accredited investors that have a $100 million in securities owned.
FOR MORE INFORMATION
For more information, please contact:
Richard S. Heller
Cassandra W. Borchers
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