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Investors Must Be Accredited
“You can’t go on the radio and say, ‘We’re seeking investors.’ Or you can’t hold a seminar with people you don’t know and say ‘We’re looking for investors,’” said Loren Andrulis, a real estate attorney with Warner Norcross and Judd.
“Even articles in a paper can cause problems, if there is a direct solicitation,” he added.
The Securities and Exchange Commission (SEC) requires that private, or unregistered, offerings not be announced publicly under Regulation D. Investment groups aren’t required to be private offerings. If one does go public, however, it becomes a mutual fund.
But to be part of a private investment group, an investor must be accredited.
As defined by Regulation D, an accredited investor is one who is financially sophisticated and does not need the protection provided by certain filings with the government. This type of investor is also known as a qualified purchaser.
An investor must be one of the following to be accredited:
- Any director, executive officer, or general partner of the issuer of the securities being offered or sold, or any director, executive officer or general partner of that issuer.
- Any person whose individual net worth, or joint net worth with that person’s spouse, at the time of the purchase exceeds $1 million.
- Any person who had 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 an expectation of reaching the same income level in the current year.
- Any trust with total assets in excess of $5 million, not formed for the specific purpose of acquiring the securities offered, whose purchase of the securities is directed by a person who has such knowledge and experience in financial and business matters that is capable of evaluating the merits and risks of the prospective investment.
- Any organization with total assets in excess of $5 million that was not formed for the purpose of acquiring the securities being sold.
- Any entity in which all of the equity owners are accredited investors.
So how do directors of an investment group determine whether an investor is accredited?
“You have to ask the questions to meet the criteria,” said Andrulis, who has experience in putting together private offerings.
“There is usually a questionnaire that asks them all sorts of questions. You ask them about their sophistication in terms of past investment practices because that is another criteria that can be important.”
“And then it goes into the financial aspects of what their net worth might be and what their income might be. For entities, it’s what their assets might be and who makes the decisions for the entities.”
In addition, because the offering is private it’s likely that the investors already know each other.
“You normally have some prior, existing relationship with them in some way. Again, it goes to the concept of general solicitation. If you’re selling to people that you know, then there hasn’t been a general solicitation,” said Andrulis.
“Ultimately, the test is that you have a reasonable basis to believe that they’re accredited. If they lie to you, and you don’t have a reason to know they’re lying, you have a defense.”
Certain restricted offerings, limited partnerships and angel investor networks are open only to accredited investors.