An individual or organization allowed to trade unregistered securities due to satisfying one of the Securities and Exchange Commission (SEC) requirements.
Accredited Investor Details
Different types of investments have different levels of risk. One type that carries significant risk is unregistered securities. Unregistered securities are financial instruments companies did not register with the Securities and Exchange Commission (SEC). Companies choose not to register some securities to save money, as the registration process is usually expensive.
Due to its high-risk nature, regulatory authorities like SEC won't allow companies to offer these securities to the general public. Instead, they can offer them directly to accredited investors. SEC views accredited investors as entities who require decreased protection to use their money. These entities can be high net worth individuals, investment banks, professionals who hold title to third-party assets, etc.
To be eligible for this type of securities in the U.S., you need to meet one of the following requirements:
- An annual income of at least $200,000 ($300,000 for spouses) for the last two years and expect to continue to do so in the current year.
- Must have a net worth of at least $1 million (excluding primary residence), either as a single individual or married.
- Acting as the director, executive officer, or general partner for the company that issues the unregistered securities.
- A business or organization must have assets' value of at least $5 million. Otherwise, if the entity has equity owners who are already accredited investors, then the entity itself is an accredited investor.
- Must have the experience, education, and/or skill to demonstrate professional knowledge of unregistered securities.
Keep in mind that to be an accredited investor, an entity needs only to meet ONE of the requirements above. Apart from the company that offers unregistered securities, regulatory authorities such as SEC help determine whether an applicant qualifies to take risks.
Accredited Investor Example
Anna is a single woman interested in investing in unregistered securities due to its high return potential. To do so, she needs to meet one of the requirements. Her primary residence is worth $900,000. She also owns two cars worth $250,000, with a total car mortgage of $100,000. She also has total savings of $700,000. Her total net worth is $1,750,000 ($900,000 + $250,000 - $100,000 + $700,000).
At a glance, Anna seems to qualify to be an accredited investor for having a net worth exceeding $1 million. However, remember that her primary residence does not count. If we don't incorporate her principal house, then her net worth can only reach $850,000. She doesn't qualify. That said, Anna can still be an accredited investor by satisfying other requirements.
For instance, it turns out that she has had a yearly income of $250,000 for the past two years, and she can expect to earn the same, if not more, this year. In this case, SEC allows Anna to venture into the high-risk investment of unregistered securities.
Significance of Accredited Investor
Many investors covet unregistered securities due to its huge potential returns, but it also carries many risks. Suppose regulators allow all investors—some who may not be experienced enough—to invest in these securities. In that case, the chance that they lose some, if not all, of their investment money, is quite significant. Regulatory authorities set strict requirements to ensure that those who engage in these risky investments are the ones who can withstand possible losses.
It's also regulators' job to promote high-risk ventures. However, even if unregistered securities may net investors big profit, most of them are in the form of prototype products that aren't marketable just yet. The chance of failure is considerable. By limiting entry into the field, regulators can prevent unknowledgeable investors from withdrawing the market's securities altogether.