The holidays came early in Washington, as on December 18, 2019, the Securities and Exchange Commission (SEC) gave investors the gift of a proposal to expand the definitions of “accredited investor” and “qualified institutional buyer”. This gift has been under consideration for years, as the SEC published a staff report examining the accredited investor definition in 2015 and a broader concept release on the same topic earlier in 2019. This post highlights a few of the key changes in the current proposal.
Why is an expansion meaningful?
Primarily because investors who qualify as an accredited investor are eligible to purchase securities in most private placements conducted under Regulation D. While the SEC is mindful to avoid a definition that is too broad and thus jeopardizes investor protection, the proposed changes should allow investors who have adequate financial resources and sophistication, but may not qualify under the current rules, to access these potentially riskier investment opportunities.
The current accredited investor definition is based on (i) for natural persons: net worth, income or affiliation with an issuer and (ii) for entities: entity status, with some entities qualifying solely on the basis of the type of entity and some qualifying on the basis of type of entity plus a total asset test.
The most interesting aspect of the proposed changes is adding a category for natural persons based on certain professional credentials, such as, at least initially, individuals who hold FINRA Series 7, 65 and 82 qualifications. Under the proposed rules, the SEC would have the ability to increase the types of professional credentials subject to some strict criteria.
The SEC also proposed expanding the types of entities that would qualify, and would now include entities such as Registered Investment Advisers, family offices and limited liability companies that meet the same asset qualification test as corporations and other similar entities. Other entities owning investments in excess of $5,000,000 would qualify as well, provided such entity is not formed for the purpose of purchasing the securities being offered.
Other changes in the proposal are primarily conforming changes to related definitions and expanding the qualified institutional buyer (QIB) definition in a corresponding fashion (e.g. a limited liability company could now be a QIB, but it would have to hold $100,000,000 in investment assets). Additionally, certain employees of private funds may now qualify as accredited investors with respect to investments in their employers. The proposal makes some other minor clarifications with respect to the current joint net worth test, and would permit spouses and cohabitants occupying a relationship substantially equivalent to a spouse to aggregate their wealth for the purposes of such test.
The SEC received numerous responses to the earlier concept release and has considered many of the commenters’ recommendations in this current proposal. The proposal will be open for comment for the standard 60 day period following publication in the Federal Register. Given the long history behind these potential changes, we suspect that the proposal will be adopted.