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SEC Expands Accredited Investor Rule More investors will qualify to make investments into startups, venture companies and funds and private offerings.

By Mat Sorensen

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The Securities and Exchange Commission (SEC) has announced a modernized version of the accredited-investor rule that will goes into effect in late October and will allow those with professional credentials and licenses to qualify as accredited investors to invest in startups, pre-IPO stock, venture companies and funds and other private funds. This amendment widens the spectrum of eligible investors who can invest their personal funds or retirement accounts into certain investments or company stock offerings that are routinely limited by law to accredited investors.

Prior Rule

The primary way to qualify as an accredited investor is based on your annual income or net worth. Under the annual-income test, an individual qualifies at $200,000 of annual income while a married couple qualifies at $300,000 of annual income. You can also qualify as an accredited investor under the net-worth test if your net worth is $1 million or greater. For purposes of the rule, your net-worth calculation does not include the equity in your personal residence.

The rationale behind the accredited-investor rule is that investors with enough annual income or net worth are knowledgeable enough in their financial life and can make appropriate decisions to invest in unregistered securities. These individuals are also more likely to withstand a total loss, which is something that is possible in a startup or venture company investment.

The rule leaves out many persons who are knowledgeable and who could properly analyze an investment, but who do not meet the annual-income or net-worth test. As an example, I spoke to a college professor in microbiology who wanted to invest his self-directed Roth IRA into a startup he was consulting for, but was unable to invest in the early rounds, as the company's stock offering at the time was limited to accredited investors. This individual held a Ph.D. and understood the science surrounding the company, but was unable to invest or purchase stock, as he didn't meet the income or net-worth rule. In many instances, executive officers and board members can qualify as accredited investors without meeting income or net-worth tests, but those rules are specific to executive and board positions.

New Rule

The new rule seeks to expand the criteria and recognizes that those with certain professional credentials and licenses should also be allowed to qualify as an accredited investor. The SEC has the authority to determine the credentials or experience that will qualify someone as an accredited investor. Under the new rule, the SEC has determined that those with Series 7, 63, or 82 licenses qualify as accredited investors based on those licenses alone. While this is a welcome addition, it limits those who qualify under experience or credentials to those who have experience or credentials in the financial-services industry.

The SEC has discussed allowing persons with other professional credentials or licenses to qualify as accredited investors. Those with CFA and CFP designations have been considered as have licensed CPAs and attorneys. These designations and licenses did not make it into the first round of approved licenses. The SEC seems intent on making the new rule specific to those with professional credentials or licenses, as opposed to allowing a subjective test based on knowledge of the specific company or investment vehicle. While limiting the rule to certain licenses makes the rule easier to administer, it will leave out other persons who are sophisticated enough to invest in these offerings, such as the college professor with a Ph.D. who consulted for the private startup company and understands its science and technology.

The rule also added a new spousal equivalent qualification, whereby a person who cohabitates and has a relationship with someone equivalent to that of a spouse may qualify under the $300,000 annual-income test or the $1 million joint net-worth test.

The new rule is a step in the right direction in allowing more persons to participate in the private-investment market. Hopefully, this isn't the last step, and the SEC will look past those with financial services licenses to other persons with the sophistication and experience to analyze a company or investment opportunity.

Mat Sorensen

Entrepreneur Leadership Network® VIP

CEO & Attorney at Directed IRA & Directed Trust Company

Mat Sorensen is an attorney, CEO, author, and podcast host. He is the CEO of Directed IRA & Directed Trust Company, a leading company in the self-directed IRA and 401k industry and a partner in the business and tax law firm of KKOS Lawyers. He is the author of The Self-Directed IRA Handbook.

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