How To Become An Accredited Investor  | Ultimate Guide

Your funds are too precious to be invested with an unaccredited investor. This is the root cause of scams and fraudulent financial activities.

An accredited investor knows that his registration is at stake if an investor writes a complaint to SEC for fraudulent activities.

They, therefore, treat your funds with a high level of care and optimally insure investors’ funds in case of unfortunate incidents.

In a nutshell, instead of relying on individuals for the security of your investments, learn how to become an accredited investor and become a business guru.

Who is an Accredited Investor?

An accredited investor is a person or an organization registered by the Securities and Exchange Commission SEC to invest in securities.

Accredited investors are able to invest money directly into the lucrative world of private equity, private placements, hedge funds, venture capital, and equity crowdfunding.

Under SEC, a company can sell its own securities and investments to accredited investors. Apparently, accredited investors have legal access to invest in products that are not available to the general public.

These investors can trade securities that include:

• Hedge funds
• Venture capital funds
• Private equity deals
• Equity crowdfunding
• Angel investment
• Other private placements

How Does SEC Define An Accredited Investor?

According to SEC Rule 501, there are two ways to determine and define an accredited investor;

First, a person with income exceeding $200,000 in two most recent years or joint income with a spouse exceeding $300,000 for those years and an expectation of the same income level in the current year.

Secondly, a person who has an individual net worth or joint with the spouse that exceeds $1 million at the time of purchase, excluding the value of the primary residence of the person.

In addition, an accredited investor is an individual who has certain professional certifications, designations, or credentials.  The individual should be a knowledgeable employee9 of a private fund. Lastly, they must be SEC and state-registered investment advisers.

It is important to note that the income calculation must follow the same format for the two or three years required by SEC.

 That is to say, the individual either has to calculate yearly income individually or with a spouse, but not both.

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Why Do People Become Accredited Investors?

A governmental body like SEC put up rules for investors’ accreditation to protect investors’ funds.

The requirements for accreditation enable the investment owner to have sufficient knowledge to understand investments to prevent monetary loss.

It also enables them to have hedge funds to withstand any loss and pay back investors’ funds.

These are some of the reasons a governmental body like SEC qualifies investors through accreditation.

Who Can Qualify As An Accredited Investor?

The following individuals can qualify to become an accredited investor;

• Individuals and spouses
• Financial institutions.
• Brokerage firms
• A corporation or LLC, not formed for the specific purpose of acquiring the securities offered, with total assets in excess of $5M.
• Knowledgeable employees of private funds.
• Certain types of insurance companies.
• Employer-sponsored retirement plans
• Trusts
• Registered investment advisor firms
• SEC-registered investment advising firms
• Business investment firms

HOW TO BECOME AN ACCREDITED INVESTOR

In order to become an accredited investor, you have to pass certain tests. Recently, SEC allows an individual to pass one of these tests. They include Income, net worth, professional certifications, and knowledgeable employees of private funds.

Financial Qualification Requirement

These are the income and net worth tests.

To iterate the point already established above, one of the ways to become an accredited investor is to have a net worth that exceeds $1M. This excludes the value of their primary residence.

This is for individual net worth.

Likewise, an individual who will become an accredited investor will have a pre-tax income exceeding $200,000 in the two most recent tax return years.

Similarly, the investor can also become accredited with their spouse. They will have a pre-tax income of at least $300,000 for the previous two years and the upcoming year.

Again, the couple should have a net worth of $1M not including their primary residence.

 Knowledge Test

Another way individuals can become accredited investors is by having certain professional certificates and credentials that are accredited by the appropriate educational institutions.

Last on the knowledge tests is the knowledgeable employee of private funds.

Therefore, we will define knowledgeable employees.

Knowledgeable employees are executive officers, directors, trustees, general partners, or a person that serves in a capacity of a private fund or an affiliate management person.

Also, they can be employees of a private fund or an affiliate management person of a private fund who participates in the investment activities of a private fund or investment company for at least 12 months.

Professional Certifications

With the right knowledge and professional certification, investors can become accredited to carry out investments for others. In 2016, Congress began allowing registered brokers and investment advisers to qualify as accredited investors.

As a result, SEC amended the definition of an accredited investor this written below. Typically, these people can as well qualify.

• People who have certain professional certifications, designations or credentials, or other credentials issued by an accredited educational institution as defined by the SEC.
• SEC- and state-registered investment advisors.

Documents for Accreditation

Before you can be given the accreditation status, expect to provide any of this information to ascertain if you are legal;

• Financial statements and details of other accounts
• The credit report for confirming the net worth
• Tax returns
• W-2 forms and other documents indicating earnings
• Knowledgeable employees
• Professional certifications, designations, or credentials administered by the Financial Industry Regulatory Authority (FINRA).

The value of a primary residence or primary home cannot be part of your net worth.

However, you can include vacation and investment properties. But, you must submit proof of ownership and proper valuation.

After submitting your documents, the firm will review it. They will then accept or reject your accredited investor status. If approved, your accreditation is valid for one year or until the next tax day (if you verify via income). You will then be able to invest.

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How to become An Accredited Investor in Different Countries

In the USA

In the United States, before you can become an accredited investor, you must have a net worth of at least $1,000,000, excluding the value of the primary residence, or have income of at least $200,000 each year for the last two years (or $300,000 combined income if married) and have the expectation to make the same amount this year.

According to Rule 501 of Regulation D of the U.S. Securities and Exchange Commission (SEC), an accredited investor is defined as:

1. a bank, insurance company, registered investment company, business development company, or small business investment company;
2. an employee benefit plan, within the meaning of the Employee Retirement Income Security Act, if a bank, insurance company, or registered investment adviser makes the investment decisions, or if the plan has total assets in excess of $5 million;
3. a charitable organization, corporation, or partnership with assets exceeding $5 million;
4. a director, executive officer, or general partner of the company selling the securities;
5. a business in which all the equity owners are accredited investors;
6. a natural person who has an individual net worth, or joint net worth with the person’s spouse, that exceeds $1 million at the time of the purchase, or has assets under management of $1 million or above, excluding the value of the individual’s primary residence;
7. a natural person with income exceeding $200,000 in each of the two most recent years or joint income with a spouse exceeding $300,000 for those years and a reasonable expectation of the same income level in the current year
8. a trust with assets in excess of $5 million, not formed to acquire the securities offered, whose purchases a sophisticated person makes.

Also,

1. a natural person who has certain professional certifications, designations or credentials, or other credentials issued by an accredited educational institution, which the Commission may designate from time to time. Presently holders in good standing of the Series 7, Series 65, and Series 82 licenses.
2. natural persons who are “knowledgeable employees” of a fund with respect to private investments.
3. limited liability companies with $5 million in assets may be accredited investors.
4. SEC and state-registered investment advisers, exempt reporting advisers, and rural business investment companies (RBICs) may qualify.
5. Indian tribes, governmental bodies, funds, and entities organized under the laws of foreign countries, that own “investments,” as defined in Rule 2a51-1(b) under the Investment Company Act, in excess of $5 million and that was not formed for the specific purpose of investing in the securities offered.
6. Family offices with at least $5 million in assets under management and their “family clients,” as each term is defined under the Investment Advisers Act.
7. “Spousal equivalent” to the accredited investor definition, so that spousal equivalents may pool their finances for the purpose of qualifying as accredited investors.

In Canada

An “Accredited Investor” (as defined in NI 45 106) is:

1. a person registered under the securities legislation of a jurisdiction of Canada, as an adviser or dealer, other than a person registered solely as a limited market dealer under one or both of the Securities Act (Ontario) or the Securities Act (Newfoundland and Labrador); or
2. an individual registered or formerly registered under the securities legislation of a jurisdiction of Canada as a representative of a person referred to in paragraph (a); or
3. an individual who, either alone or with a spouse, beneficially owns financial assets having an aggregate realizable value that before taxes, but net of any related liabilities, exceeds $1,000,000; or
4. an individual whose net income before taxes exceeded $200,000 in each of the two most recent calendar years or whose net income before taxes combined with that of a spouse exceeded $300,000 in each of the two most recent calendar years and who, in either case, reasonably expects to exceed that net income level in the current calendar year; or
5. an individual who, either alone or with a spouse, has net assets of at least $5,000,000; or
6. a person, other than an individual or investment fund, that has net assets of at least $5,000,000 as shown on its most recently prepared financial statements; or

In addition,

1. trust company or trust corporation registered or authorized to carry on business under the Trust and Loan Companies Act (Canada) or under comparable legislation in a jurisdiction of Canada or a foreign jurisdiction, acting on behalf of a fully managed account managed by the trust company or trust corporation, as the case may be; or
2. an investment fund that distributes or has distributed its securities only to (i) a person that is or was an accredited investor at the time of the distribution, (ii) a person that acquires or acquired securities in the circumstances referred to in sections 2.10 of NI 45 106 [Minimum amount investment] or 2.19 of NI 45 106 [Additional investment in investment funds], or (iii) a person described in paragraph (i) or (ii) that acquires or acquired securities under section 2.18 of NI 45 106 [Investment fund reinvestment];
3. a person acting on behalf of a fully managed account managed by that person, if that person is registered or authorized to carry on business as an adviser or the equivalent under the securities legislation of a jurisdiction of Canada or a foreign jurisdiction; or
4. a person in respect of which all of the owners of interests, direct, indirect or beneficial, except the voting securities required by law to be owned by directors, are persons that are accredited investors (as defined in NI 45 106); or
5. an investment fund that is advised by a person registered as an adviser or a person that is exempt from registration as an adviser.

Noteworthy is the fact that since 2016, many provinces in Canada allow non-accredited investors to invest in private markets but under a specified limit.

What Are The Advantages of Becoming an Accredited Investor?

The benefits of becoming an accredited investor include the following;

Access to additional investment opportunities: 

Accredited investors have access to additional types of investments, such as hedge funds, private equity, private placements, venture capital, real estate crowdfunding, limited partnerships, and others.

Increased diversification of your portfolio: 

When you become an accredited investor, there is access to a wider variety of investments You can typically choose to diversify portfolios by investing in alternative assets and unregistered securities that aren’t available to the other investor.

Potentially higher returns: 

Also, accredited investors have sizeable income and assets that allow them to invest a portion of their portfolios in securities that could provide substantially higher returns than traditional investments.

Actually, bear in mind that there is no hedge from a loss just like other investments.

Ability to network with other high-net-worth investors: 

People who have high incomes and portfolios have more access to networks with high-profile people. This network can lead to more business, and investing opportunities.

Disadvantages of becoming an accredited investor

There are also disadvantages and drawbacks of becoming an accredited investor and these should be considered as well. They include:

• Volatility. Many of the securities restricted to accredited investors aren’t listed on stock market exchanges, like the NYSE. They are traded lightly, and this can make them hard to value or subject to increased volatility.
• Illiquidity of many investments. Many securities are illiquid because they are restricted to accredited investors.
• Higher minimum investment amounts. Since SEC rules limit the number of investors that certain securities can have without going public, the minimum investment amounts might be higher to ensure that the company has enough money to meet its objectives.
• High fees on products. Securities that have a large client base usually offer lower expenses but with the restriction, expenses will be spread among few people making the cost of products increase.

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FAQs on How To Become An Accredited Investor

Conclusion

Becoming an accredited investor brings opportunities to diversify your portfolio and potentially earn a higher rate of return. Most investors become accredited based on their income or net worth. However, you can also qualify by holding certain licenses or having specific knowledge about the investment.

We advise you invest slowly even though the investments have a more attractive return. This is because every investment is prone to loss and the accreditation status doesn’t hedge against this.

Therefore, read this article and follow the steps to become an accredited investor in 2024.

References

• Investopedia
• Smartasset
• Wikipedia

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