Change In 'Accredited Investor' Definition Could Hurt Crowdfunding Space

Jul 25 2014 | 8:14am ET

The Securities and Exchange Commission is considering changes to its 30-year-old definition of “accredited investor” that could have serious implications for the crowdfunding industry.

Accredited investors are permitted to participate in private securities placements, and since the passage of the JOBS Act in 2012 opened the door to general solicitation for investors, many have been finding those opportunities through crowdfunding platforms.

The current definition of an accredited investor, written in 1982, says it is a person with earned income in excess of $200,000 (or $300,000 with a spouse) in each of the prior two years or one with a net worth over $1 million (alone or with a spouse), excluding the value of his/her primary residence.

Those pushing for change say the income thresholds have not been updated for inflation—that in today's dollars, $200,000 and $300,000 would be $500,000 and $700,000.

But critics, like Brendan Ross, president of Direct Lending Investments, say such a change would halve the number of accredited households in the U.S., which today make up, by the SEC's own calculations, 7.4% of all households.

Ross, who manages a short-term, high-yield small business loan fund, told FINalternatives that as regulators “become more educated on the implications of such a change, they will be less likely to move forward.”

“This would negatively impact the investment management industry as the number of accredited investors would sharply decrease. It’s unlikely that the SEC would want to impinge upon the private placement industry, which is the source of most financial innovation. Value investing, small companies, emerging markets, commodity funds, and REITs all started with accredited investors putting money into private placement vehicles, which then evolved into mutual funds.”

Jilliene Helman, CEO of Los Angeles-based Realty Mogul, an online platform that matches lenders with borrowers looking for funds to buy and/or upgrade and renovate properties, is not a fan of the proposed changes:

“It's a shame to hear the SEC considering tightening up the accreditation standards even further,” she told FINalternatives. “Already a very select group of individuals has access to private transactions and limiting that further will have repercussions on access to capital for entrepreneurs, real estate principals and small business owners.”

Alon Goren, CEO of INVST, an online investment platform that matches accredited investors with alternative funds (including hedge funds and private equity), told FINalternatives that while a change in the definition of “accredited” would not have a significant impact on his firm, which “focuses on exclusive deals,” it could have a negative effect on “platforms which take a broader 'supermarket' approach.

Many critics also question the equating of income with investor sophistication. Said Helman:

“As the SEC thinks through sophistication tests, one thing they might consider is education levels—not only formal education, but online tests that can prove an investor understands the risks of investments.”

Said Goren: “Changing income requirements would not address the sophistication level of an investor, and would affect a large number of sophisticated investors that are capable of making an informed and meaningful investment decision.”

Ross, however, disagrees:

“I think that the status quo is sufficient, and the current wealth test works fine. The JOBS Act dealt with accredited versus non-accredited investors differently for a reason. As a next step, the SEC should ensure that the JOBS Act is implemented, and then focus on what else is needed to improve the flow of investor capital.”

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