One of the surprises in the Restoring American Financial Stability Act of 2010 is that it proposes to raise the standard for being an accredited investor. Section 412 of the bill would require the SEC to increase the dollar thresholds to be qualified as an accredited investor. Section 413 would require the GAO to study the appropriate criteria.
The current standards come from Section 2(a)15 of the Securities Act of 1933
ii. any person who, on the basis of such factors as financial sophistication, net worth, knowledge, and experience in financial matters, or amount of assets under management qualifies as an accredited investor under rules and regulations which the Commission shall prescribe.
In 1982, the SEC prescribed the standard in Rule 501 of Regulation D:
5. Any natural person whose individual net worth, or joint net worth with that person’s spouse, at the time of his purchase exceeds $1,000,000;
6. Any natural person who had an individual income in excess of $200,000 in each of the two most recent years or joint income with that person’s spouse in excess of $300,000 in each of those years and has a reasonable expectation of reaching the same income level in the current year;
If you adjust for inflation from 1982, those levels could increase to $459,000 if single and $688,000 if married, with the net worth requirement becoming $2.29 million. The bill is not clear on what to use as an inflation index. I used the Consumer Price Index for All Urban Consumers (CPI-U) comparing March 1981 (94.5) to February 2010 (216.741).
The Private Fund Investment Advisers Registration Act passed by the House in the Wall Street Reform and Consumer Protection Act of 2009 (H.R.4173) required the SEC to start increasing the asset levels. The Dodd bill (still not in the Thomas system) takes the issue on more forcefully.
The result is that there will be fewer investors for private investment funds. Under Rule 505 and Rule 506, you are limited to 35 non-accredited investors in a private fund offering, with an unlimited number of accredited investors.
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Doug, great stuff as always, thank you. On the point that the Private Fund Investment Advisers Registration Act passed by the House, that it requires an increase in “the asset levels,” does that pertain directly to the definition of “accredited investor” for Reg D purposes?
That’s how I read that amendment. There were a series of these added to the act in the House Financial Services Committee.
This proposed legislation will devastate economic innovation from start-ups and early-stage businesses. This is the part of the economy that is not tainted by the smell of Wall Street. Why is this change being pushed?
Scott Shane did some analysis for Business Week on the effect of the changes: http://www.businessweek.com/smallbiz/content/mar2010/sb20100318_367600.htm
He found that the number of people qualified as accredited investors would drop “77%, from 4.5 million individual filers who earned $200,000 or more to 1.04 million individual filers who earned $500,000 or more.”
On the other hand, it seems strange that the financial thresholds have remained unchanged for almost 20 years. In 1982 approximately 1.9% of all U.S. households qualified as accredited under those thresholds, representing approximately 1.5 million households. By 2003, the number of accredited households had grown to 9.5 million, representing approximately 8.5% of all households. [http://wistechnology.com/articles/7332/]
Personally, I think this is more of a technical fix than a direct response to the recent financial panic.