Do you remember when you first got your driver’s license? That feeling of utter freedom out on the open road (as long as you made it home by curfew, of course). There was nothing like it – picking up friends, driving to the mall, and finally being able to have full control over the radio station. Ahh, sweet freedom.
In a way, becoming an accredited investor is like getting your driver’s license. Just as you can’t operate a vehicle by yourself out on the open road without a license, there are certain limitations to the types of investments you can invest in if you’re not an accredited investor.
This is not to try to keep you out of the investing world but rather to protect you. You see, there are SO many different investment opportunities out there – different types of investments, investment strategies, and organizations that offer and manage investments – and it can be hard, especially if you’re new to investing, to determine which investments are riskier and which ones might be a better fit for your goals.
Because regulators like the SEC (Securities and Exchange Commission) can’t possibly oversee and regulate every single investment out there, there are certain classes of investments that are made available only to accredited investors, to protect individual investors who may not have the financial cushion to absorb major losses or fully understand all the risks associated with their investments.
In this article, we’ll walk through what it means to be an accredited investor, how to determine whether you’re accredited, examples of accredited investors, how to verify that you’re accredited, and much more. Ready to dive in? Let’s go.
What Is An Accredited Investor?
Let’s start with the basics. What does it mean to be accredited? At a high level, an accredited investor is a person or entity that’s allowed to participate in certain securities offerings.
Usually, these securities are more complex or sophisticated investment offerings that may not be registered with financial authorities. This ensures that any investors who participate are financially savvy enough to fully understand and evaluate the risks of potential investments and thus don’t need the protections that come from a registered offering.
Essentially, an accredited investor has the license to “drive” on the open road of the investment world, but they do so with full responsibility for the potential risks.
These types of exempt securities offerings, which include many real estate syndications, are called private placements.
While some private placements can be open to non-accredited investors who have a personal connection with the investment leads [for example, 506(b) offerings], many are open to accredited investors only [for example, 506(c) offerings].
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How To Tell Whether You’re
Accredited
Don’t worry, there’s no formal test you have to take to qualify for accredited status. Rather, it comes through meeting certain requirements – either financial or professional – as laid out by the SEC.
As long as you meet at least one of the following requirements, you are considered an accredited investor.
Based on the type of private placement offering, you may be required to “prove” your accredited status in order to qualify to invest (more on this in a bit).
How To Qualify As An Accredited Investor – Financial Requirements
The first and most common way to qualify as accredited is via financial requirements. This means that you meet either an income threshold or net worth requirement, or both.
Income Requirement
The first requirement is based on income, and it’s fairly easy to tell whether you qualify or not. To qualify as accredited via the income requirement, you must…
Have an annual income of $200,000 (or $300,000 for joint income with a spouse or spousal equivalent)
Have been at this income level over the last 2 years
Expect to earn the same or higher income this year
If that’s you, woohoo! You meet the accredited investor definition. No need to meet the other requirements. If you don’t yet meet this income requirement, read on for the next qualification.
P.S. Are you wondering what a “spousal equivalent” is? Good question. A spousal equivalent means a cohabitant occupying a relationship generally equivalent to that of a spouse.
Net Worth Requirement
The second way to qualify as accredited is via the net worth threshold of $1 million or more, not counting your primary home, either on your own or together with your spouse / spousal equivalent.
This can be a little trickier to calculate, so let’s dive a bit deeper into this.
How To Calculate Your Net Worth
To get started, you’ll want to compile a list of all your assets (investments, savings, etc.) and liabilities (loans, debts, etc.).
Then, you’ll want to take the sum total of all your cash, retirement account balances, and investments, and subtract out things like your student loans, car loans, and other liabilities. The resulting sum is your net worth.
It’s important to note that, for the purposes of the accredited investor definition, your primary residence can not included in this calculation. In the same vein, any mortgage or other loan on your primary home does not count as a liability, up to the fair market value of the residence.
Related: Not Yet Accredited? Here’s A Step By Step Guide To Becoming An Accredited Investor
| Example #1 | Example #2 | Example #3 | |
|---|---|---|---|
| Included Assets | |||
| Cash in bank accounts | $400,000 | $200,000 | $100,000 |
| 401(k) / IRA accounts | $400,000 | $500,000 | $800,000 |
| Other investments | $400,000 | $300,000 | $200,000 |
| Car | $30,000 | $30,000 | $30,000 |
| Total included assets | $1,230,000 | $1,030,000 | $1,130,000 |
| Included Liabilities | |||
| Student and car loans | $100,000 | $100,000 | $10,000 |
| Other liabilities (credit cards, etc.) | $100,000 | $100,000 | $50,000 |
| Balance on home equity line (less than 60 days old) | – | $100,000 | – |
| Total included liabilities | $200,000 | $300,000 | $60,000 |
| Net worth | $1,030,000 | $730,000 | $1,070,000 |
| Accredited investor? | Yes | No | Yes |
How To Qualify As An Accredited Investor – Professional Requirements
In 2020, the SEC amended the definition for what it means to qualify as accredited investors, to include certain professional criteria, including getting certain financial licenses.
Remember – the SEC and other regulatory bodies want to make sure that anyone entering into these potentially high-risk investments is financially savvy, and that’s where these professional requirements come in.
To qualify as accredited via professional requirements, you must be or have one of the following:
Certain professional certifications, designations, or credentials (e.g., if you hold a Series 7, 65, or 82 license)
Individuals who are “knowledgeable employees” of a private fund
SEC- and state-registered investment advisors
Directors, executive officers, or general partners (GP) of the company selling the securities
Any “family client” of a “family office” that qualifies as accredited
It’s important to note that, for those who qualify as accredited based on their status as knowledgeable employees, they are considered accredited only for offerings managed by their employers.
In other words, they cannot use their status as a knowledgeable employee to invest in other offerings.
And Now, In Song…
Check out this quick recap of what it means to be an accredited investor, in song form.
Can Entities Qualify As Accredited Investors?
Excellent question. And in short, the answer is yes. However, the accredited criteria for entities is a bit different from the requirements for individuals.
In order for an entity to be considered accredited, it must meet one of the following criteria:
-
Own investments of $5 million or more
-
All equity owners are accredited investors
-
Investment advisers (SEC- or state-registered or exempt reporting advisers) and SEC-registered broker-dealers
-
A bank, savings and loan association, insurance company, registered investment company, business development company, or small business investment company or rural business investment company
As you can see, having an entity qualify as accredited isn’t as simple as just getting together a few of your friends who have some cash and adding it all up to meet the $1 million threshold.
All equity owners of the entity must be accredited investors themselves, in order for the entity to qualify.
Accredited Investor Examples
Okay, now that we’ve talked about the various ways that you can qualify as accredited, either as an individual or as an entity, let’s walk through some examples, just to make sure it’s crystal clear.
Accredited Or Not – Example #1
Meet Felicia. Felicia is a single woman and has been working in the corporate world for 10 years. She’s recently been learning about real estate, though she hasn’t invested in anything yet.
She just got a raise 2 months ago and now makes $200,000 per year. Felicia’s primary residence is worth $1.5 million. She has $700,000 in her 401(k) and $350,000 between her savings account and a few small brokerage accounts. She also has $100,000 left in student loans.
Is Felicia Accredited?
Even though Felicia currently makes $200,000 and has reason to believe she will continue making that amount or more in the coming year, her annual income over the past two years has been below $200,000, so she doesn’t qualify on the income criteria.
Felicia’s net worth is the sum total of her assets minus her liabilities (amounts owed), excluding her primary residence. I know, ouch. The primary residence takes a big chunk off the table, but the SEC made this change in 2010 to be in compliance with the Dodd-Frank Act.
Given that, Felicia’s net worth comes out to $950,000, which is below the $1 million threshold.
$700,000 (retirement) + $350,000 (savings and investments) – $100,000 (student loans) = $950,000
Because Felicia meets neither requirement, Felicia is a non-accredited investor. Chin up, Felicia! There are still plenty of investment opportunities out there for you.
Accredited Or Not – Example #2
Now let’s meet our next example – a very nice fictional couple we’ll call James and Lucia.
Let’s say Lucia is a physician. She earns $285,000 per year. Her husband James is a stay-at-home dad, so he earns no income.
They’ve been investing in real estate for a few years. On top of their primary home, valued at $800,000, they also have a single-family rental, which they purchased for $500,000.
They owe $200,000 on that rental. They have $250,000 in savings accounts. They have retirement accounts totaling $600,000 and recently received $250,000 in inheritance.
Are James and Lucia accredited?
On the income criteria, James and Lucia don’t qualify either, as they would need to make $300,000 as a couple. If Lucia would like to invest as an individual, then she would qualify as an accredited investor.
On the other hand, their joint net worth (not counting their primary home) is $1.4 million, which puts them above the $1 million threshold needed to qualify as accredited investors.
$500,000 (rental property) – $200,000 (loan on rental property) + $250,000 (savings) + $600,000 (retirement) + $250,000 (inheritance) = $1.4 million
Because they meet the criteria for net worth, James and Lucia are accredited investors. Woohoo!
What Does Being An Accredited Investor Get You?
With all that’s involved in getting to the threshold for becoming accredited, surely it should get you things like a gold-plated name card, a guaranteed table at the most exclusive restaurants in town, first-class plane tickets anywhere in the world…
Okay, fine. Being accredited in and of itself gets you none of those things.
But! You get the pride of knowing you are, in the eyes of the SEC, savvy enough with your financials that they don’t have to worry too much about you. And that’s something, right?
Why Did The Securities And Exchange Commission Create The Label Accredited Investors?
Accredited investors are able to invest in riskier investments such as hedge funds, startup businesses, venture capitals, private equity funds, real estate investment funds, and angel investments.
The SEC set these regulations and federal securities laws because these types of investments are exempt from a plethora of rules and regulations to help protect a non-accredited investor from the risks involved with these types of investments, as well as financial and business matters they might not be familiar with.
Now, does that mean once you have accredited investor status, you are investing in high-risk investments? No, it just means you have the financial backing and experience to weather the storm or be able to mitigate the risks involved with a private fund as an accredited investor.
Remember, every investment carries risk, and once you have achieved accredited investor status, you will be able to invest alongside other accredited investors for the potential to make even more money and grow your wealth over time.
For any real estate private placement investments that are publicly advertised, you will more than likely need to be an accredited investor in order to invest in those offerings.
That being said, there are some real estate syndications that are open to non-accredited investors, though for the most part those cannot be publicly advertised, so you’ll have to do some digging and networking to find them.
Do You Need To Verify If You Are An Accredited Investor?
There is no federal verification process to identify whether you’re accredited. It’s not like getting a passport or social security card.
However, the companies who you will be investing with may want to check your accredited investor status by asking for some basic financial statements like tax returns and the like.
In some cases, depending on how the investment is structured, you may be required to submit your tax returns and/or provide a letter from your CPA or attorney attesting to your accredited status.
Are Accredited Investments Better Than Non-Accredited Investments?
We get this question a lot, and the short answer is no. Just because an investment is structured in a way that it only accepts accredited investors does not in and of itself mean that it’s a better or worse investment than one that’s also open to non-accredited investors.
In most situations, the sponsor team makes a business decision as to how best to structure each private placement offering, based on the other investors, the business needs, and more.
We’ve seen some deals that were open to both accredited and non-accredited investors far surpass the returns and pro forma, and vice versa. So the fact that an offering either takes or doesn’t take non-accredited investors has no bearing on the quality of the investment.
How Do Non-Accredited Investors Get Into these Great Investment Opportunities?
If you’re a non-accredited investor who happens to love real estate and is interested in investing in commercial real estate private placements like multifamily that can make a difference in local communities, have no fear. All hope is not lost.
There are investment opportunities out there for you, and often the returns are just as good as those that are exclusively for accredited investors. However, investment opportunities for non-accredited investors can be harder to find, as none of them can be publicly advertised due to SEC regulations. You may find it helpful to find state-registered investment advisers to help you invest in these great opportunities.
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Given everything we just walked through, it’s completely normal if your head feels like it’s about to explode.
But hopefully, at the very least, you’ve been able to use the definitions and examples in this article to determine whether or not you’re accredited – and that’s the most important part!
Once you’ve figured out which camp you’re currently in, then you can start to look for investment opportunities open to you and that will help you meet your investing goals.
Here at Goodegg Investments, we have a variety of options for you to help you learn about and invest in real estate so you can take advantage of the cash flow, equity, appreciation, and tax benefits. Below are a few resources to get you started.
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If you’re not yet ready to invest but are curious about how all of this works, we invite you to dip your toe in the water with us through our free 7-day email course – Passive Real Estate Investing 101 – or to get a free hardcover copy of our book – Investing For Good.
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If there’s ever anything we can do to help you on your journey, feel free to email us at [email protected] or call / text us at (888) 830-1450.
