If you are anything like myself you have probably spent time looking at all the different alternative investment vehicles that exist out there. When you spend significant time doing so, you might see the term ‘accredited investor’ floating around. Unfortunately, no one will tell you when you qualify as an accredited investor so it is up to you to know what the qualifications are.
How Do I Qualify as an Accredited Investor
The SEC puts out specific rules on what qualifies an individual as an accredited investor. Recently the SEC proposed some changes to the long establish Rule 501 of the Regulation D.
Prior to this update there was a very straightforward answer to what determined your qualification of being an accredited investor. You had to either have an income of $200,000 as an individual for at least 2 years, $300,000 as a married couple for 2 years, or a net worth of at least $1,000,000 excluding your primary residence. The income must have reasonable expectation that this will continue moving forwards.
On August 26th 2020 the SEC released a final rule amending the ‘Accredited Investor’ definition. This final rule expanded the rules for what qualifies you as an accredited investor. The first amendment also added individuals holding the Series 7, 65 and 82 as accredited investors. The SEC stated they are going to closely watch this definition and see if they can add more professional designations.
The second amendment was to add knowledgeable employees of Private Funds to be added as an accredited investor for investments in the same fund. Knowledgeable employees include the following: executive officers, directors, trustees, general partners, advisory board members as well as employees or affiliated persons of the fund (other than employees performing solely clerical, secretarial or administrative functions.)
What This Means for the Layperson
Unless you are either involved in the financial markets or the fund that is trying to raise money, there aren’t many changes. There were some more changes to business entities that can be involved in regulation D offerings but we will discuss that at a later date. If you are trying to invest in these private offerings I would focus on the financial requirements.
It also means that some of the more sophisticated investments are going to be gate locked. The good part is that it is possible to accrue the $1,000,000 through traditional investments in order to become an accredited investor. The bad news is that its going to take a long time without an aggressive savings plan.
Why Would I Want to Be an Accredited Investor?
There are a couple different types of funds that only accept accredited investors by nature. These include things like hedge funds, angel investments, private equity and syndication deals. For the average person most of these items aren’t needed or wanted. However, for the more sophisticated investor these strategies can play an important role in diversification of the overall portfolio.
These strategies often have higher risk adjusted returns. If we take a look at one of the largest REITs in the industry, we can see they have a beta of 0.98 and a dividend yield of 2.29%. We are subject to virtually the same fluctuations as the market but with a cash flow of only 2.29% right now. Compare that to a value add syndication deal, most of these have a cash on cash return in the 8-10% range with an internal rate of return between 16 and 20%. Now these deals have significantly different risk than investing in a broad REIT. It should be apparent how the risk adjusted returns can create areas of opportunity for a savvy investor.
Another way Accredited Investors can take advantage of their status is by angel investing. An anecdotal story of this is Amazon’s first 22 investors. Each of them invested $50,000 into Amazon in the beginning. This in turn gave them each 1% of the company. That same $50,000 would be worth $7 billion today. Talk about creating huge returns.
Is it Worth It?
Whether or not you want to take advantage of these alternative investments is a personal decision based off of your risk tolerance. You may qualify as an accredited investor without even realizing it, especially if you are a high earner. However, if an opportunity arises, it is better to have every tool in the toolbox available. The next Jeff Bezos may be knocking at your door.
If you are not an accredited investor there are still plenty of other ways to enhance your returns. Even sticking money in index funds will help your portfolio grow quicker. There are other investments like option contracts that can boost your returns even further.
Accredited Investor : In Conclusion
There are plenty of different investment vehicles out there and even more if you are an accredited investor. The qualifications to become one are rather straight forward. If you are not sure if you meet the criteria, you can always discuss it with your CPA or tax professional. Being an accredited investor opens up plenty of large risk adjusted return products and creates the opportunity to accelerate your wealth generation. You won’t want to miss an opportunity to invest in the next Amazon or Apple.
Are you or someone else you know an accredited investor? Let me know what your experiences have been like in the comments below!