Wealth Navigator > Vol 1 > What Are Accredited Investors? Eligibility, Purpose, & Assets
What Are Accredited Investors? Eligibility, Purpose & Assets
Building a strong foundation in financial literacy is crucial for making informed decisions about personal finances and achieving long-term goals. Understanding basic terms and concepts will empower you to have discussions about the financial world with confidence. You will be able to better articulate your financial ambitions and make strategic decisions to work towards them.
With this being the first issue of Wealth Navigator, we are going to continue our theme of exploring financial terms that you may have come across but, more likely than not, do not know what the full definition means. In this article, we define what it means when someone says an investment is only available to “accredited investors” and why that also means you should be very cautious. We explain in detail what it means to be an accredited investor, explore the qualifications required and the concept’s purpose, and clarify that accreditation is not a prerequisite for becoming a client of Winston Wealth Advisors.
In the world of finance, the term accredited investor is very important. It affects how companies get money to grow and what investment options people have. Accredited investors play a big part in private investments, and their definition decides who can join certain private investment opportunities. A private investment (bonus term) is a financial asset outside public market assets (stocks, bonds, and cash).
What is an Accredited Investor?
Accredited investors are individuals or companies that meet certain financial requirements, showing they have enough financial know-how to be allowed to invest in certain opportunities. Such investment opportunities include:
- Startup Companies: A company in the first stages of operations.
- Venture Capital: A type of financing that investors provide to startup companies and small businesses believed to have long-term growth potential.
- Hedge Fund: A limited partnership of private investors whose money is managed by professional fund managers who use a wide range of strategies.
These three types of companies are exempt from many of the regulations and oversights in place to offer protection to investors who are less risk tolerant (investors who do not want to risk losing their money for the potential of a high return).
The U.S. Securities and Exchange Commission (SEC) created criteria for accredited investors to make sure that people who invest in private investments have the knowledge and enough money to handle the risks. (Just to remind you, private investments are different from regular stocks, bonds, or cash that you can buy on the stock market.) Since private investments are not registered and do not trade on an exchange, the price is set through a negotiation between the buyer and the seller. The SEC created a set of qualifications to protect investors from these types of investments because there is more risk involved.
Qualifications for Individuals
People can become accredited investors depending on their financial situation or their professional qualifications. The requirements include:
- Net Worth: An individual or combined net worth with a spouse or partner exceeding $1 million, excluding the value of their primary home.
- Income: An individual income exceeding $200,000 or a combined income with a spouse or partner exceeding $300,000 in each of the prior two years, with a reasonable expectation of the same for the current year.
In addition to financial criteria, individuals with particular professional credentials also qualify as accredited investors. Stockbrokers, insurance agents, and financial planners are a few of the job titles that would qualify. They have the below licenses:
- Series 7 (General Securities Representative)
- Series 65 (Investment Adviser Representative)
- Series 82 (Private Securities Offerings Representative)
Although less relevant to most investors, the SEC does define a few more ways people can qualify to be accredited investors. These include:
- Directors
- Executive officers
- General partners of a company selling securities
- Family clients of accredited family offices
Private investments that are not officially registered, such as startups and hedge funds, only need to provide investors with basic information. This lack of information can make these investments riskier. Accredited investors, who are considered to have enough money and knowledge, can choose to invest in startups and hedge funds despite the increased risks associated with unregistered investments. For example, mutual funds will share a prospectus with potential investors. A prospectus (bonus term) is a formal document required by and filed with the Securities and Exchange Commission (SEC) that provides details about an investment offering to the public. Startups and hedge funds do not have to supply a prospectus, so an investor has less verified information.
Qualifications for Companies
Companies, depending on their structure or assets, can qualify as accredited investors.
The criteria include:
- Investments: Companies owning investments of more than $5 million.
- Assets: Certain companies with assets surpassing $5 million, such as corporations, partnerships, LLCs, trusts, 501(c)(3) organizations (nonprofits), employee benefit plans, family offices, and family clients of those offices.
- Owners as Accredited: Companies where all equity owners meet the criteria for individual accredited investors.
- Investment Advisers: SEC-registered or state-registered investment advisers and SEC-registered broker-dealers.
- Financial Entities: Financial entities like banks, savings and loan associations, insurance companies, registered investment companies, business development companies, or small business investment companies.
The Role of Accredited Investors in Raising Money
Accredited investors can play a big part in companies looking to raise money without becoming a publicly traded company (on the stock exchange). Companies will only let accredited investors join or put limits on who else can join in on raising money. This helps keep newer or less sophisticated investors safe from risky investments and lets companies get money from people who can afford to take a loss if things don’t go well.
Becoming an accredited investor doesn’t involve a formal check by the government. Each company needs to check if someone is accredited before they can invest. To do this, they often ask for proof of income and assets, including:
- Bank and investment statements
- Copies of securities licenses
- Proof of employment
- Tax returns
Purpose Behind Accreditation
The concept of accredited investors serves many purposes. The main aim is to protect investors by making sure they have enough money and know-how to handle the challenges and risks of private investments. By limiting certain investment opportunities to accredited investors, regulators hope to reduce the chances of new or less experienced investors losing a lot of money.
Also, the accreditation process tries to find a balance between protecting investors and helping companies raise money. By letting companies get money from accredited investors, businesses can get the funds they need to grow and come up with new ideas. This helps the economy grow and encourages people to start new businesses, all while keeping investors safe.
What Assets Can Accredited Investors Purchase?
- Hedge funds
- Angel investments
- Venture capital
- Private equity funds
- Specialty investment funds (i.e., a fund with a cryptocurrency concentration)
These companies provide what’s called Regulation D (Reg D) offerings. This means they only have to give out basic information like where they are, who runs the company, and what they’re offering. Anything more than that is up to the company. However, if a company wants to sell stock publicly, it has to go through the SEC, which makes sure the company’s disclosures are accurate and that it follows all the rules (which are many).
Access to Financial Opportunities with Winston Wealth Advisors
The good news is while accreditation may be a significant factor in some types of investment opportunities, it is never a requirement to become a client of Winston Wealth Advisors. We understand that financial goals and investment needs vary among individuals and are committed to providing comprehensive financial services to a diverse clientele.
Achieving a return on a well-thought-out investment does not hinge on being an accredited investor. There are many options for individuals who do not meet the accreditation criteria. Investment options, such as publicly traded stocks, mutual funds, ETFs, and real estate investment trusts (REITs), are open to all investors, and for good reason.
Whether you are an accredited investor looking for sophisticated investment strategies or an individual with different financial goals, our team of seasoned financial advisors offers tailored solutions to meet your individual needs. We are equipped with expertise to guide clients through a range of financial services, from wealth management to retirement planning. Reach out to discuss your risk tolerance and the right strategy for your investment needs.
References:
https://www.nasdaq.com/articles/what-is-a-private-investment
https://www.investopedia.com/terms/h/hedgefund.asp
https://www.investopedia.com/terms/v/venturecapital.asp
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual.
Investing involves risk including loss of principal. No strategy assures success or protects against loss.
David B. Winston
Executive Wealth Advisor
David B. Winston is the Executive Wealth Advisor of Winston Wealth Advisors. For more than 30 years, David and his team have helped hundreds of families throughout the United States prepare for and enjoy their retirement years. David moved to Texas in 1983 after receiving his bachelor’s degree from the University of Missouri-Columbia. (Series 6, Series 62, Series 63, Series 65, Series 26, SIE) held by LPL Financial.
Email: david@winstonwealthadvisors.com
