SEC Amends Definition of “Accredited Investor” and “Qualified Institutional Buyer”
By Lawrence J. Hass, Joshua H. Sternoff, Ira P. Kustin, Max J. Rosenberg & Shilpa Soundararajan
On August 26, 2020, the Securities and Exchange Commission (the “SEC”) adopted amendments to the definition of “accredited investor” in Rule 501(a) of Regulation D promulgated under the Securities Act of 1933 (as amended, the “Securities Act”) and the definition of “qualified institutional buyer” in Rule 144A under the Securities Act which have the effect of permitting more types of investors to qualify.
These amendments do not impact the financial thresholds associated with each definition and instead add new categories which are intended to capture additional investors that have “sufficient knowledge and expertise to participate in investment opportunities”
The amendments will become effective sixty (60) days after publication in the Federal Register and, as of today’s date, the Final Rule has not yet been published in the Federal Register. Below is a brief summary of the amendments.
Amendments to “Accredited Investor” Definition
Under the Securities Act, only persons who are “accredited investors” may participate in certain unregistered securities offerings, such as offerings of interests in private investment funds which are exempt from registration under the Securities Act in reliance on Regulation D. The SEC limits such offerings to “accredited investors” primarily to ensure that participating investors possess sufficient financial sophistication to fend for themselves or have enough assets to sustain the risk of loss, and, thus, do not need the protections associated with a registered offering. The amendments add several new categories to the list of “accredited investors”.
One new category permits natural persons to qualify as “accredited investors” based on certain professional certifications, designations, and credentials, regardless of their personal net worth or annual income. In a separate order related to the Final Rule, the SEC confirmed that possession (in good standing) of a General Securities Representative license (Series 7), a Private Securities Offerings Representative license (Series 82), and/or a Licensed Investment Adviser Representative license (Series 65) is sufficient to qualify a natural person as an “accredited investor”. The SEC is retaining flexibility to add other credentials to this list in its discretion, taking into consideration whether possession of a particular credential demonstrates a sufficient level of financial sophistication to participate in investment opportunities that do not involve the key protections provided by registration under the Securities Act.
Another new category permits a natural person to qualify as an “accredited investor” if such individual qualifies as a “knowledgeable employee” of a private fund or its affiliated adviser. In this context, a “knowledgeable employee” has the same definition as in Rule 3c-5(a)(4) under the Investment Company Act of 1940, as amended (the “Investment Company Act”) and thus includes, among other natural persons, (i) trustees and advisory board members, or persons serving in a similar capacity, of a private investment fund or an affiliated person of the fund that oversees the fund’s investments, and (ii) employees or affiliated persons of the private fund (excluding employees who perform solely clerical, secretarial, or administrative functions) who, in connection with their regular functions or duties, have participated in the investment activities of such private fund or its affiliated adviser for at least one year.
The amendments also add a new category which permits any “family office” with at least $5 million in assets under management and any of its “family clients” (each, as defined under the Investment Advisers Act of 1940, as amended) to qualify as an “accredited investor”, so long as the family office was not formed for the specific purpose of acquiring the offered securities and its prospective investment is directed by a person who has such knowledge and experience in financial and business matters that such family office is capable of evaluating the merits and risks of the prospective investment.
The amendments also expand the definition of “accredited investor” to:
add limited liability companies with $5 million in assets as qualifying entities (which codifies an existing SEC staff position that such entities may qualify as “accredited investors”);
add SEC and state-registered investment advisers, exempt reporting advisers, and rural business investment companies (“RBICs”) as qualifying entities;
add Indian tribes, governmental bodies, funds, and foreign entities that own $5 million or more of “investments” (defined in Rule 2a51-1(b) under the Investment Company Act) to qualifying entities, as long as no such entity was formed for the specific purpose of investing in the offered securities; and
allow “spousal equivalents” to pool financial resources in order to qualify.
Amendments to “Qualified Institutional Buyer” Definition
Rule 144A under the Securities Act permits a private resale of certain restricted securities to “qualified institutional buyers” (or QIBs) without requiring registration.
The amendments expand the definition of “qualified institutional buyer” to:
add limited liability companies and RBICs as qualifying entities if they meet the Rule 144A(a)(1)(i) threshold requiring $100 million in owned and invested securities; and
add any institutional investor which is an “accredited investor” as a qualifying entity if it meets the Rule 144A(a)(1)(i) threshold requiring $100 million in owned and invested securities.