The regulation of investment possibilities may be strict, safeguarding both investors and issuers. The Financial Industry Regulatory Authority (FINRA) prohibits investing in all investments in the United States. Accredited investors must adhere to tight requirements in order to invest in specific securities.
The goal of the accredited investor category is to guarantee that buyers of complicated financial products have the resources and expertise necessary to protect themselves and make wise investment choices. Finding out how to become an accredited investor might assist you in determining your eligibility.
What Is an Accredited Investor?
An accredited investor is an individual or legal entity that is legally allowed to invest in unregistered investments. Regulation D of the Securities Act of 1933 defines accredited investors as defined in Rule 501. Individuals must meet specific financial and/or professional criteria in order to qualify as accredited investors, while corporations or financial institutions must meet certain criteria, such as having a certain number of assets and investments, or being owned by an entity that is SEC accredited.
The SEC requires registered offerings to disclose information to investors and safeguard investments in a specific manner. Publicly traded bonds, stocks, mutual funds, and real estate investment trusts (REITs) are some of these investment opportunities. For accredited investors to invest in offerings without these protections, they must have sufficient financial knowledge and experience.
The category of accredited investors restricts the types of investments that can be made by certain individuals and entities.
A requirement for becoming an accredited investor ensures that these investors are financially stable and can protect themselves from losses. As well as accredited investors, loss-absorbing investors are also referred to as accredited investors.
Accredited Investor Requirements
Accredited investors must meet different SEC requirements depending on whether they are individuals or institutions. A sophisticated investor meets these requirements, meaning he or she has sufficient knowledge and experience in financial and business matters to assess the merits and risks of an investment.
Accredited investors aren’t required to obtain an official certification from the SEC in order to take advantage of those investment opportunities. In order to ensure they are only selling their offerings to accredited investors, the companies selling unregistered securities must verify the qualifications of potential investors against the SEC’s requirements. Having one or more of the following qualifications is a primary requirement for qualifying as an accredited investor:
Yearly income: An accredited investor must earn over $200,000 per year as an individual or $300,000 per year as a couple in the two previous years. Current income levels must be expected to remain the same.
Net worth: Individuals and couples with a net worth greater than $1 million may also qualify as accredited investors. Primary residences cannot be included in their net worth.
Investment professional: Those who hold a professional certification from the SEC-approved educational institution and are in good standing.
Professional criteria: Accredited investors can also be directors, executive officers, knowledgeable employees, or general partners of the issuer.
A person must possess the experience and competencies listed above as well as provide additional information about their income, assets, and liabilities in order to become an accredited investor.
Example of an Accredited Investor
An example illustrates how accredited investors qualify.
Let’s suppose someone and their spouse earned $250,000 together each year. The individual has $1.5 million in assets, including a $900,000 mortgage on their primary residence. Additionally, the person owes $70,000 on a car worth $150,000. The couple also has a savings account worth $450,000 and an IRA worth $500,000.
The individual does not qualify as an accredited investor based on annual income because their joint income was below $300,000. Nevertheless, since they have more than $1 million in net worth, they qualify.
Subtract liabilities from assets to calculate net worth. The assets of this person – except their primary residence – amount to $1.1 million. To calculate their liabilities, subtract their debts – not including their mortgage – which is $70,000 in car loans. There is a total net worth of $1,030,000 for both of them. In accordance with Regulation D, an accredited investor is one whose net worth exceeds $1 million.
Accredited Investors Enjoy What Others Do Not?
Real estate offerings and unregistered securities are only available to accredited investors, while non-accredited investors cannot invest. Among the investment vehicles available to accredited investors are private equity funds, hedge funds, venture capital firms, and others.
Accredited investors are able to invest in the following:
- Funds for hedge funds
- Capital for ventures
- Private placements
- Private equity funds
- Shares in private REITs
- Specialty investment funds
Accreditation for Complex Financial Products: Why Is It Important?
In addition to protecting investors from fraudulent or overly risky investment funds, the SEC limits the sale of complex financial products to accredited investors. It does not matter how sure an investment seems or how impressive a company’s track record may be, all investments carry risk. Investing beyond one’s means is prevented by accredited investor requirements. It is theoretically easier for an accredited investor to absorb the losses if they make a poor investment decision.
In addition, unregistered private securities may have liquidity restrictions; such securities may not be available for sale for a while. A portion of an accredited investor’s assets can be locked in an illiquid investment because they have more financial protection than general investors.
Securities issuers must be able to verify the investor’s financial situation. The financial company can refuse to sell securities to an investor who claims to be an accredited investor when they are not.
