SEC Expands Investor Pool for Private Offerings

Under a new test, financially sophisticated investors will be able to participate in private placements even if they do not meet wealth thresholds.
Matthew HellerAugust 26, 2020

The U.S. Securities and Exchange Commission on Wednesday approved a final rule allowing financially sophisticated investors to participate in private placements even if they do not meet thresholds for income or net worth.

Since 1982, the SEC had limited eligibility to participate in private offerings to “accredited investors” with a net worth of more than $1 million and annual income greater than $200,000.

The new rule allows investors to qualify as accredited based on “professional knowledge, experience or certifications” in addition to the existing financial tests. The SEC did not say how many additional investors would fall under the new definition, but said it was aimed at individuals — such as hedge fund employees or brokers — who are knowledgeable about private placements.

“For the first time, individuals will be permitted to participate in our private capital markets not only based on their income or net worth, but also based on established, clear measures of financial sophistication,” SEC Chairman Jay Clayton said in a news release.

According to the commission, an investor with the required level of sophistication would be able to “assess an investment opportunity” or “bear the risk of a loss.” Those who would be professionally certified to qualify as accredited investors include holders of Series 7, Series 65, and Series 82 broker licenses.

Holders of those licenses and “well-informed employees of private funds clearly have the knowledge and expertise to evaluate the merits and risks of an investment,” said Mitch Ackles, global president of the Hedge Fund Association.

However, investor advocates and SEC officials who say even seasoned investors struggle to spot problems with private companies criticized the new rule.

“With its actions today, the commission continues a steady expansion of the private market, affording issuers of unregistered securities access to more and more investors without due regard for the risks they face, and without sufficient data or analysis to ensure that our policy choices are grounded in fact rather than supposition,” Commissioners Allison Lee and Caroline Crenshaw, who voted against the changes, said in a joint statement.

The new rule also changes the definition of “qualified institutional buyer.”