The U.S. Securities and Exchange Commission (the “Commission”) recently published a series of proposed rule changes, including a change to the “accredited investor status” verification requirement under Rule 506(c) of Regulation D. My RIA Lawyer responded to the proposal on behalf of our private fund clients. Please read our full comment letter to the Commission here.
What are Regulation D and Rule 506(c)?
Regulation D consists of three rules that provide exemptions from the Securities Act’s registration requirements, and Rule 506(c) is one of them! Rule 506(c) offers an exemption from the registration requirements without any limitation on the offering amount. Under Rule 506(c), issuers can make offers through general solicitation or advertising as long as:
- All purchasers in the offering are limited to accredited investors;
- The issuer takes reasonable steps to verify the investor’s accredited investor status; and
- Other conditions under Regulation D are satisfied.
Who is an accredited investor?
An accredited investor is a person or a business entity who is financially sophisticated and have a reduced need for the protection provided by regulatory disclosure filings when dealing, trading, and investing in financial securities. To qualify, the investor must satisfy one (or more) requirements regarding income, net worth, asset size, governance status, or professional experience listed under Rule 501 of Regulation D (i.e., natural high net worth individuals (HNWI), banks, insurance companies, brokers and trusts).
Who is responsible for determining and verifying the investor’s accredited investor status?
The issuer is ultimately responsible for taking reasonable steps to verify the investor’s accredited investor status.
What is the current verification process?
Currently, there are two methods to verify an investor’s accredited investor status:
- A principles-based method, where the issuer has the flexibility to determine the verification method of the accredited investor status based on the unique facts and circumstances of each investor and transaction; and
- A non-exclusive list of verification methods provided by the Commission which lists verification documents that issuers may review, but are not required to use when verifying the accredited investor status (i.e., W-2s, tax returns, bank and brokerage statements, credit reports, etc.)
What change is the Commission proposing?
To minimize the verification process burden on issuers and security risk to repeat investors, the Commission proposes to add a new item to the non-exclusive list in Rule 506(c). The addition would allow an issuer to establish that an investor remains an accredited investor as of the time of sale if:
- the issuer previously took reasonable steps to verify the investor as an accredited investor;
- the investor provides a written representation to that effect to the issuer; and
- the issuer is not aware of information to the contrary.
How does this proposed change impact me?
If you are an issuer, the Commission anticipates that this addition will reduce the verification process costs and burdens for you if you engage in more than one Rule 506(c) offering with repeat investors. The Commission also hopes this proposal clarifies some of the confusion around the accredited investor verification requirements.
If you are an investor, the Commission anticipates that this proposal will further protect you and reduce the risk you face by repeatedly providing your financially sensitive information to an issuer you have an existing business relationship with.
Who can you contact to discuss these changes?
Us, of course! We are constantly staying up to date with the changes issued by the Commission and other regulators to make ourselves best able to answer any questions or concerns you may have in navigating around rules and changes such as this one.