In this article, I will cover what it means to be accredited and why you want to be an accredited investor, especially in the real estate space.
Why do we have accredited investors in the first place?
The purpose is to allow companies to offer securities to sophisticated people. Accredited investors are deemed more sophisticated people because they have figured out a way to earn a lot of money or build a high net worth. Therefore, the assumption is that that person is more sophisticated than somebody that might be working a job and only earning, say, $40,000 a year.
Investing in these private funds, these private offerings, generally carry a lot more risk than investing in the open market, like Apple stock for instance. That's where the term, definition, and rules surrounding accredited investors comes from, to separate those who are deemed more sophisticated to invest in those private securities.
Obviously, there are some actors and professional sports players that are all accredited investors just based on their earnings alone, but some of them are probably not sophisticated enough to be investing in these types of deals. It's still pretty dependent on the actual person, not necessarily on the definition of being accredited alone but at least we're getting away from people that are earning, say, $50,000 a year, which is a great wage, but that person may not have the sophistication either.
Defining an Accredited Investor
The term accredited investor is defined in Rule 501 of Regulation D, and some exemptions for companies that can sell securities are included under Rule 506 of Regulation D. An accredited an investor is a person who earns more than $200,000 alone or $300,000 with a spouse in each of the prior two years and reasonably expects the same for the current year or they have a net worth of over $1,000,000 either alone or together with the spouse. That excludes the equity in your primary residence.
Being an accredited investor allows you to invest in deals that non-accredited investors cannot. You basically have more investment opportunities, for instance, you can invest in syndications.
Syndications are when a person goes and buys, for example, a two hundred unit apartment building, or a mobile home park, or a self-storage facility and they can't bring two million dollars to the table by themselves to close on the deal. What they will do is set up an entity and invite accredited investors to share in the risk with them. That invitation is basically in the form of selling LLC units or shares to their accredited investors. If I wanted to start a syndication or run a syndication, I would be considered a general partner. Say I need two million dollars to close on this property and build in a little bit of a CapEx reserve there. I'm going to raise 2 million dollars from accredited investors who are going to take a limited partner stake in the deal. In most cases, somebody that is not accredited does not get exposure to those types of deals.
Most of these syndications will ask that you self-certify that you are accredited or that you get your CPA to certify that you are an accredited investor. If you're interested in these syndications, most of them will be asking for a CPA certification that you are accredited. The reason that they do this is to reduce the risk that you are not accredited. If a CPA is asserting that you are accredited, they can say “Hey, we relied on the CPA saying that you were accredited” if in some instance that you were not accredited and the SEC found out.
Options for Non-Accredited Investors
If you are not an accredited investor, some syndications will let you come in as a sophisticated investor, which means that the company or the fund offering the securities reasonably believes that you have sufficient knowledge and experience in financial and business matters to evaluate the merits and risks of the prospective investment. They have to believe that, even though you're not accredited, you are sophisticated enough to understand the deal inside and out and invest in that deal.
There are typically only a limited number of sophisticated investor slots and each deal, so if you're not accredited and you still want to invest in syndications, you're going to need to network with these guys and prove to them that you are sophisticated. Hopefully they have some sophisticated investor slots in their deals where you can invest.
Can I partner with an accredited investor if I'm not accredited?
You can, but it depends on how you structure everything. Entities such as banks, partnerships, corporations, nonprofits, and trusts may be accredited investors.
Any trust with total assets in excess of 5 million dollars not formed specifically to purchase the subject securities is it an accredited investor. Any entity in which all of the equity owners are accredited investors is how that entity will qualify as an accredited investor.
You can partner, but it's very difficult to actually qualify that entity as accredited if you yourself are not accredited, so just of keep that in the back your mind.
Now, if you're not an accredited investor, obviously it's not the end of the world. It just means that you might have limited options to invest in private equity funds or to invest in real estate funds or real estate syndications. It doesn't mean you can't, though, so again, think about networking - proving that you're sophisticated enough.
Otherwise, strive to become accredited. Again, $200k in annual income if you're single, $300K if you're married, or 1 million dollars in net worth excluding the equity in your primary residence. If you can get to those points so you can be an accredited investor, all of a sudden all the deals are going open up to you. There will be tons of deals that you can invest in and you'll have plenty of opportunities to choose from.