On August 26, 2020, the Securities and Exchange Commission (“SEC”) adopted amendments to the "accredited investor" and "qualified institutional buyer" definitions. These definitions are among the SEC’s principal mechanisms to protect investors by ensuring that only financially sophisticated investors who understand the risks of a speculative investment are eligible to participate in the private securities markets, which generally feature less-robust disclosure and procedural safeguards than the public markets. The amended definitions aim to more effectively identify institutional and individual investors that the SEC views as having the knowledge and expertise to participate in the private securities markets.
Updates to the “Accredited Investor” Definition
The amended rules recognize that certain individuals who do not meet the income or net worth tests under the existing "accredited investor" definition nonetheless have the financial sophistication to allow them to participate in the private securities market without the need of certain investor protection mechanisms present in the public markets.
Newly added categories to the definition of "accredited investor" include the following:
- Holders in good standing of certain professional certifications, designations, or credentials from an accredited educational institution as designated by the SEC;
- With respect to investments in a private fund, natural persons who are knowledgeable employees of the fund;
- Limited liability companies ("LLCs") with $5 million in assets, SEC- and state-registered investment advisers, exempt reporting advisers, and rural business investment companies ("RBICs");
- Any entity that owns over $5 million in "investments" as defined by Rule 52a51-1(b) under the Investment Company Act of 1940, as amended, and was not formed for the specific purpose of investing in the offered securities; and
- "Family offices" with at least $5 million in assets under management and their "family clients," each as defined under the Investment Advisers Act of 1940, as amended.
By an order also issued on August 26, 2020, the SEC designated the following professional certifications that would qualify a holder in good standing of such certification as an “accredited investor:”
- Series 7 - General Securities Representative license;
- Series 65 - Licensed Investment Adviser Representative; and
- Series 82 - Securities Offerings Representative license.
The SEC is authorized to designate further professional certifications, designations, or credentials from an accredited educational institution by order, as opposed to formal administrative rulemaking, although, in its adopting release, the SEC indicated it would provide notice and an opportunity for public comment before issuing any final order.
The amended rules also newly allow "spousal equivalents," defined as a person cohabitating with the investor with a relationship generally equivalent to that of a spouse, to pool their finances for the purpose of qualifying as accredited investors.
Updates to the “Qualified Institutional Buyer” Definition
The amended rules also expand the types of entities that may fall under the "qualified institutional buyer" definition. Newly added categories to the definition of "qualified institutional buyer" include the following:
- LLCs and RBICs that meet the $100 million in securities owned and invested threshold in the existing definition; and
- Any institutional investors included in the "accredited investor" definition that are not otherwise enumerated in the definition of "qualified institutional buyer" that meet the $100 million in securities owned and invested threshold.
What You Should Be Doing Now
Companies should revisit their investor questionnaires in advance of the effective date of the amendments to determine whether any updates are necessary to reflect the new definitions. Similarly, investment advisors and broker-dealers should consider whether any changes are needed to their know-your-customer forms and should reassess the accredited investor and qualified institutional buyer status of their customers. Accredited investor and qualified institutional buyer representations and warranties in standard transactional documents should also be reviewed to determine any required modifications.
The SEC’s final rule is available at this link and will become effective 60 days after publication in the Federal Register. Please contact a member of our Securities and Capital Markets team to answer any questions about or assist with updating any documents to reflect the new definitions.
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