SEC Proposes Amendments to Accredited Investor and Qualified Institutional Buyer Definitions
The Securities and Exchange Commission (the “SEC”) recently proposed amendments to the definitions of “accredited investor” in Rule 501(a) of Regulation D under the Securities Act of 1933, and “qualified institutional buyer” (QIB) in Rule 144A under the Securities Act. (See https://www.sec.gov/rules/proposed/2019/33-10734.pdf). The proposed rule would create additional categories of accredited investors, make the QIB categories more consistent with the accredited investor categories and codify some existing SEC staff interpretive positions relating to these definitions.Qualifying as an accredited investor is significant because accredited investors may participate in private investment opportunities not available to other investors, such as investments in startup companies and private investment funds. Qualifying as a QIB allows an investor to participate in certain investment opportunities available only to large institutional investors.
PROPOSED CHANGES TO “ACCREDITED INVESTOR” DEFINITIONS
The “accredited investor” definition is intended to identify financially sophisticated investors who can analyze investment opportunities with less government oversight. However, as the SEC notes in the proposed rule, in most cases the current accredited investor categories use “wealth” – measured by income level, net worth, or assets – as a proxy for sophistication. The proposed rule would create the following new categories of accredited investors – items (1) through (5) could be viewed as new exemptions for financially sophisticated investors who do not necessarily meet the current wealth thresholds, while items (6) through (8) could be viewed more as technical fixes to the rule:
1. Individuals who hold certain professional certifications, designations or credentials. These individuals would qualify as accredited investors without regard to any wealth requirements. The SEC would establish the exact certifications or designations satisfying this requirement from time to time through SEC order, and would make the list available on its website. This approach would allow the SEC to update the list without amending the definition. The SEC preliminarily expects that an initial SEC order accompanying the final rule would include FINRA Series 7 (licensed general securities representatives), Series 65 (licensed investment adviser representatives) and Series 82 (licensed private securities offerings representatives).
2. Registered investment advisers. SEC-registered investment advisers and state-registered investment advisers would qualify as accredited investors without regard to any wealth requirements.
3. Rural Business Investment Companies. USDA-licensed Rural Business Investment Companies would qualify as accredited investors without regard to any wealth requirements.
4. Knowledgeable employees. The proposed rule would create a new category for individuals who meet the definition of “knowledgeable employee” under the Investment Company Act of 1940 with respect to a private fund. “Knowledgeable employee” is an existing designation determined by an individual’s role for a private fund, and does not impose any wealth thresholds. Currently, an employee of an investment manager might qualify under the Investment Company Act to invest in a “3(c)(7) Fund” as a knowledgeable employee, but not qualify as an accredited investor. This change would eliminate that gap.
5. Family offices and family clients. The proposed rule would create a new category for “family offices” with at least $5 million in assets under management and their “family clients”, each as defined in the Investment Advisers Act of 1940. Currently, a family office might manage accounts for some family clients that do not separately qualify as accredited investors. This change would allow a family office and family clients to count their collective investments to satisfy the $5 million threshold, subject to a few additional conditions.
6. Limited liability companies. The proposed rule would codify a long-standing SEC staff interpretive position that includes limited liability companies in the enumeration of legal entities that qualify as accredited investors if they satisfy the other requirements of Rule 501(a)(3), i.e., they have not been formed for the specific purpose of acquiring the securities offered and have assets in excess of $5 million.
7. Catch-all provision. The proposed rule would create a new category for any entity owning more than $5 million in investments and which was not formed for the specific purpose of investing in the securities offered. This provision is intended to allow for new and foreign types of entities to qualify as accredited investors without being enumerated in Rule 501(a).
8. Spousal equivalents. Currently, a natural person may include a spouse’s resources when calculating income under Rule 501(a)(6) and net worth under Rule 501(a)(5). The proposal would amend those provisions to permit a natural person to include the income and net worth of a “spousal equivalent”, defined as “a cohabitant occupying a relationship generally equivalent to that of a spouse”.
PROPOSED CHANGES TO “QUALIFIED INSTITUTIONAL BUYER” DEFINITION
A “Qualified Institutional Buyer” or “QIB” other than a dealer registered with the SEC must in the aggregate own and invest on a discretionary basis at least $100 million in securities of issuers that are not affiliated with that QIB. Banks and other specified financial institutions are subject to an additional minimum audited net worth requirement of $25 million. Rule 144A specifies the types of entities that are eligible for QIB status if they meet the $100 million threshold. The proposed rule would expand that list to include several categories from the updated accredited investor definition, including the “catch-all” category described above.The SEC’s rationale is that an entity that meets the $100 million threshold is likely to have the financial sophistication and resources necessary to protect itself with less government oversight, and the exact type of entity is much less critical than the financial threshold.
OTHER MATTERS
Notably, the SEC considered but decided not to propose increasing the current financial thresholds or adjusting them for inflation.The SEC requests and encourages comments regarding the proposed rule amendments, specific issues discussed in this release and other matters that may affect the proposed rule amendments.This summary is intended to provide general information only on the matters presented. It is not a comprehensive analysis of these matters and should not be relied upon as legal advice.For further information please contact:Travis L. Gering: travis.gering@wg-law.com | (212) 509-4723Daniel A. Wuersch: daniel.wuersch@wg-law.com | (212) 509-4722Janet R. Murtha: janet.murtha@wg-law.com | (212) 509-6314Jake Brown: jake.brown@wg-law.com | (212) 509-4741Marco E. Palmese: marco.palmese@wg-law.com | (212) 509-6310