What Is an Accredited Investor (and When Do You Need One)
Accredited Investor Definition, Qualifications and Purpose
You may have heard the term accredited investor and are likely aware of certain professions or entities that required accreditation. But what exactly is an accredited investor and what purpose do they serve?
Certainly it's wise to acquire knowledge of investing and learn the basics of the primary investment securities, such as stocks, bonds and mutual funds. But if you're like most people, you have no idea why an investor would need accreditation.
Whether you want to be an accredited investor or think you may need one, here's what you need to know.
Accredited Investor Definition
An accredited investor is a person or institution that meets certain requirements for the purpose of purchasing securities that are not offered to the general public. More specifically, the Securities Exchange Commission (SEC), in its summary definition of accredited investor, requires that "a company that offers or sells its securities must register the securities with the SEC or find an exemption from the registration requirements." One of these exemptions is to sell securities to an accredited investor.
Qualifications of Accredited Investors
The SEC's definition of accredited investor is put forth in Rule 501 of Regulation D. Here are the main points of that definition, or what we may refer to as the qualifications of an accredited investor, in Rule 501:
- A bank or any broker or dealer registered pursuant to section 15 of the Securities Exchange Act of 1934 or any insurance company as defined in section 2(a)(13) of the Act;
- An investment company registered under the Investment Company Act of 1940 or a business development company as defined in section 2(a)(48) of that Act;
- A Small Business Investment Company licensed by the U.S. Small Business Administration under section 301(c) or (d) of the Small Business Investment Act of 1958;
- A plan established and maintained by a state, its political subdivisions, or any agency or instrumentality of a state or its political subdivisions, for the benefit of its employees, if such plan has total assets in excess of $5,000,000;
- An employee benefit plan within the meaning of the Employee Retirement Income Security Act of 1974 if the investment decision is made by a plan fiduciary, as defined in section 3(21) of such act, which is either a bank, savings and loan association, insurance company, or registered investment adviser, or if the employee benefit plan has total assets in excess of $5,000,000 or, if a self-directed plan, with investment decisions made solely by persons that are accredited investors.
To be an accredited investor at the individual level, a person must have an annual income of $200,000, or $300,000 on joint basis, for the past two consecutive years and be able to demonstrate that this income level will continue. An individual can also be considered an accredited investor if he or she has a net worth exceeding $1 million, either individually or jointly with his spouse.
The SEC also allows individuals who are a general partner, executive officer or director for the issuer of unregistered securities.
In some cases, if a person can demonstrate education and experience with unregistered securities, they may be considered an accredited investor.
What Is the Purpose of Accredited Investors?
As you may imagine, there are many complex rules, regulations and layers of paperwork to sell securities to the general investing public. To get around this, and to accommodate large financial institutions, the SEC allows special exemptions. Since accredited investors must meet a rigid standard that requires extensive knowledge and experience in capital markets, the SEC can relax some of their strict rules for selling securities. In different words, the SEC's main purpose is to protect the everyday investor and allowing the accredited investor exemption does at least create a sufficient and protective layer between potentially complex investment securities and the general investing public.
Disclaimer: The information on this site is provided for discussion purposes only, and should not be misconstrued as investment advice. Under no circumstances does this information represent a recommendation to buy or sell securities.