What constitutes an accredited investor?

Rule 501 of the Securities Act 1933 – an act passed after the Wall Street Crash of 1927 and during the Great Depression – defines an accredited investor by income and net worth in the following ways:

• A person with an annual income exceeding $200,000 or a joint income with a spouse exceeding $300,000 for the past two years, with the expectation of the same amount of income in the current year.
• A person with a net worth or joint net worth with a spouse that exceeds $1 million, excluding the value of the person’s home.

Following an SEC (Securities & Exchange Commission) amendment (26 Aug 2020) to the definition of an accredited investor, the list of qualifiers was then expanded to include the following:

• A person holding specific credentials or certificates, such as Series 7, 65 and 82 Licenses.
• A person classified as a ‘knowledgeable employee’ of a private fund. The definition for such people includes an executive officer, director, trustee, general partner, advisory board member or an affiliated management person, or an employee of the fund or affiliated management person who participates in investment activities as part of his or her regular functions or duties.

Retail investors

A retail investor is defined as a non-professional individual who invests small amounts of money and is likely to trade less frequently, compared to accredited investors. Wealthier retail investors have access to alternate investment classes such as private equity or hedge funds.

Due to a lack of purchasing power when compared to accredited investors most retail investors will pay higher fees and commissions on their trades, although many popular brokers such as eToro, Capital.com and Robinhood now waive charging a price per trade.

What the JOBS Act means for investors and issuers

The JOBS Act (Jumpstart Our Business Start-ups) is a piece of US legislation that loosens regulations instituted by the SEC on small businesses.

Title II of the JOBS Act, ACCESS TO CAPITAL FOR JOB CREATORS, allowed companies to market private stock, as well as equity funding from accredited or institutional investors. Additionally, the securities sold under this revision could be offered to anyone that the seller deemed a qualified buyer, despite not meeting the level of capital required.  

Title III of the Act, CROWDFUNDING, enables early-stage companies to raise capital through non-accredited retail investors. This allows companies to raise up to $5 million a year through a Regulation CF crowdfunding using an online funding portal or using a registered broker dealer.

Alternatively, they can use the next level, Regulation A+, to raise up to $75 million a year by creating a regulated online invest page on their own website or use an online crowdfunding website.

There is less restriction and legal and regulatory oversight for a Regulation CF, compared with a Regulation A+, but, in both instances, the issuer needs an appointed broker dealer like Rialto Markets and legal advice. Most Regulation A+ offerings tend to combine building a sizable investment community of company advocates, alongside larger lead investors who kick start the raise.

The latter potentially gives smaller investors another level of security and makes them feel more confident, because a large investor is assumed to have carried out due diligence checks on the target company and its offering.

Retail investors can invest anything up to $100,000 (if the offering allows) based on their net worth or annual income, thereby opening up the private market to millions of ordinary Americans.

If your annual income or net worth is less than $107,000, you can invest either $2,200 or 5% of your annual income (whichever is greater) a year. If your annual income and net worth exceeds $107,000 you may instead invest up to 10% of your annual income or net worth (whichever is fewer) annually.

The JOBS Act and crowdfunding have quickly gained a high public profile and inspired a new breed of smaller investor, leading to a 1,021% global explosion in crowdfunding from $8.61 billion in 2020 to $113.52 billion last year, according to Pitchbook – the investment research and data monitoring platform.

IMPORTANT NOTICE

Investors should recognise and accept the risks associated with investing.

Certain investments may require you to keep your holding for periods of many years with limited or no ability to resell unless there is a strongly regulated secondary market.

You may also have limited access to periodic reporting, see your holdings decrease and increase in value, or even lose your entire investment.

Investors should decide for themselves whether to make any investment, basing this on their own independent evaluation after consulting with financial, tax and investment advisors.

The Knowledge Hub does not constitute financial advice whatsoever, but rather provides basic general industry information.