SEC Proposes Increases in Individual Investor
Financial Requirements
By Brad A. Levin
The Securities and Exchange Commission (SEC) has recently proposed increasing the financial requirements for individuals who can invest in certain private securities offerings. Twenty-five years ago, the SEC established criteria to protect investors by assuring that they had sufficient knowledge and financial experience to evaluate the merits and bear the economic risks of investing in certain securities offerings that were not required to be registered with the SEC. With that objective in mind, the SEC established the concept of an “accredited investor” and provided registration exemptions for securities offerings that are sold either exclusively to accredited investors, or to an unlimited number of accredited investors and up to 35 non-accredited investors.
The accredited investor criteria, which are still in effect today, generally require that individuals have either $1 million in net worth (including equity in his or her personal residence) or $200,000 in annual income ($300,000 with spouse). According to the SEC’s new proposed rules, in addition to meeting this existing requirement, individuals would need to own at least $2.5 million in investments to invest in a "private investment vehicle," a category that includes hedge funds, private equity funds and other companies that themselves invest or trade in securities. If adopted in their current form, the SEC’s proposed rules would raise the eligibility bar for these types of investments and create a new category of individuals known as “accredited natural persons.”
The SEC’s rationale in seeking to impose these new financial requirements is based on the inflation that has occurred since the original accredited investor standards were established in 1982, as well as the dramatic rise in residential real estate values. The proposed rules also demonstrate the SEC’s concern with protecting investors from the unique risks associated with the increasingly complex landscape of hedge funds and other pooled investment vehicles. As the SEC notes in its proposed rules, comparable risks are not generally associated with other types of securities offerings. Furthermore, pooled investment vehicles often use complicated investment strategies and have minimal information available about them in the public domain.
To understand the manner in which the new standards would be applied, if adopted by the SEC in their current form, it is important to be aware of the following major points contained in the new proposed rules:
- The $2.5 million in investments required under the proposed rules exclude the investor’s personal residence and any other real estate used by the investor for personal purposes or in connection with the conduct of a business, but includes any assets held in individual retirement accounts or similar retirement accounts.
- In determining whether an individual meets the $2.5 million investment threshold, any outstanding indebtedness incurred in connection with the investment is to be deducted.
- Only 50% of any jointly held investments will be considered in determining whether an individual meets the $2.5 million investment threshold; however, all jointly held investments and each spouse’s particular investments will be included if the investment in the private investment vehicle is being made jointly.
- The new thresholds would not apply to venture capital funds, which are generally defined under the proposed rules as entities that invest a majority of their assets in developing companies to which they make available significant management assistance.
- The new accredited natural persons standard would be indexed for inflation every five years.
If you have questions regarding how the SEC’s proposed rules might impact you, whether you are an individual investor or are involved in the management of an entity that would be considered a private investment vehicle, please contact your Much Shelist attorney.
Brad A. Levin represents a diverse range of clients in both day-to-day and strategic transactions, often acting as outside general counsel. His transactional practice includes counseling clients in stock and asset acquisitions, as well as in merger and joint venture transactions. As part of his corporate practice, Brad advises companies and private equity funds in connection with raising capital through private placement securities offerings. He also provides legal guidance in a broad range of employment matters, including hiring practices, terminations, disciplinary procedures, and non-compete and non-solicitation agreements. Brad can be reached at 312.521.2689 or blevin@muchshelist.com.
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