What is an Accredited Investor and why you Should Care?

Access. Wealth. Options. Financial freedom. And that’s just four perks to being an accredited investor. There’s plenty more where that came from!

An accredited investor is an individual or a business entity who is permitted to deal in securities that may not be registered with financial authorities. 

If you’re nodding your head and pretending to understand, don’t worry. It’s simpler than it sounds, however achieving “accredited investor” status takes work!

In a nutshell, an accredited investor includes high net worth individuals, banks, insurance companies, brokers, and trusts. Such entities must meet certain requirements, such as income or net worth to prove they have the financial means to participate in alternative investment ventures, such as hedge funds, angel investments, and real estate syndication (as opposed to registered investments, such as stocks, bonds, and mutual funds).

What are the Benchmarks to being an Accredited Investor?

To be called an A.I. (“accredited investor”) you must meet certain benchmarks in terms of income or net worth. 

Annual income: An individual must have an annual income that exceeds $200,000 or $300,000 for a couple for the last two years. Furthermore, there should be an expectation of earning this same amount or more in the current year. Note that there are few exceptions to this metric. For example, an individual cannot show one year in which they exceed $200,000 and then another year in which they exceed $300,000 with a spouse to satisfy the requirement. Only can such an exception can occur of this type, and that is only if the individual marries within the two-year timeframe. 

Net worth: An individual can be considered an accredited investor if he has a net worth that exceeds $1 million. This can be either as an individual or held jointly with a spouse. You cannot count your primary home as an asset.

There are other instances in which an individual can be considered an accredited investor. For example, if an investor is a General Partner or an executive officer.

When you look over your financial data, make sure you analyze your financial situation carefully. Certain small details may exclude you from the title of “accredited investor” when you dig deeper. It’s always best to ask your CPA or tax professional if you’re not sure.

For instance, if you just received a lucrative raise you still may not qualify as an accredited investor for another two years based on income. It doesn't matter if you expect to maintain or exceed your current pay over the next few years. 

You also need to carefully calculate your net worth. Make sure you include the value of all assets such as savings accounts, investments, checking accounts, vacation homes, rental properties, vehicles, etc. Next, subtract any of your liabilities such as an equity line balance or other loans.

Remember, you need to exclude your primary home from this entire equation. This is often what excludes people with numerous assets from becoming an accredited investor.

Why all These Rules?

These requirements are in place thanks to the Securities and Exchange Commision (SEC) to protect the average investor from losing their shirt. It stands to reason that if you don’t have in excess of $1 million net worth or $200,000 annual salary, then you my friend are on a budget (at least as far as investing goes). Therefore, it’s wise to count your chickens and make prudent (read: “regulated”) investments.  So basically, these rules are in place to protect consumers (presumably less savvy investors) from making unwise investments.

Accredited investors may have more wiggle room when choosing real estate investments. It’s unlikely that they will lose their livelihood or become bankrupt if their investment doesn't pan out. 

There is a reason why financial advisors always preach the caveats of diversifying. Real estate syndication is one great way to move away from the stock market and into new territory to further diversify your investments and potentially maximize potential returns.

Do I Have to Prove I Am an Accredited Investor?

These SEC rules affect the real estate syndication sponsor as the burden to follow-thru with vetting the requirements falls on them. Unless however the real estate syndication deal is a 506(b), in which case the investor must self-certify. 

If Sponsors work with only accredited investors they can advertise their deals which helps the real estate syndication find more investors rapidly. On the flip side, syndication deals that allow sophisticated investors cannot advertise which is what makes them harder (not impossible) to find.

Am I a Sophisticated Investor?

Yep, there’s that term again… “sophisticated investor.” Well, what does it really mean?

If you aren’t an accredited investor (operative word: “yet” - we’re rooting for you!) it's possible you are sophisticated. “Sophisticated, moi?” Yes, you!

A sophisticated investor is someone who does not meet the accredited investor criteria but is deemed to have sufficient investing experience and knowledge in the arena. They are presumed to be able to weigh the risks and merits of an investment opportunity. While not a blanket-requirement, there are instances, however, where net worth and income requirements must be met before a person can be classified as a sophisticated investor, however these instances depend on the investment opportunity. 

I fraternize with all sorts of investors, both accredited and sophisticated. 

Meet Ken, my friend a.k.a “sophisticated investor Ken.” I met Ken this past May at the Midwest Real Estate Summit. He is a teacher in Gurnee, IL and does not meet the criterion for an accredited investor. However, he is extremely knowledgeable about real estate. 

When I see Ken at local meetup events, we analyze numbers for residential and apartment projects. This collaboration helps Ken to sharpen his investment skills. His goal? To have a steadfast real estate toolkit he can draw upon to maximize his passive income. With the right sponsor, a sophisticated investor like Ken can make smart investment moves in real estate syndication.

A couple of years ago, Holly, reached out to me via my website. She had a conundrum: she was ready to invest in a multifamily syndication, however she didn’t qualify as an accredited investor. She had heard the term “sophisticated investor” and understood it to mean that she could participate as a sophisticated investor in a syndication, as long as the sponsor didn’t advertise the syndication to her. 

Holly was right. Sponsors cannot advertise their syndications to any unaccredited investor (and sophisticated investors are unaccredited). And here’s the thing about being a sophisticated investor trying to find that first multifamily syndication deal - it can be hard. 

Why is it a challenge for sophisticated investors to break in? Sponsors generally advertise their syndications (using a 506c) - this excludes sophisticated investors from the deal. The deals that a sophisticated investor can participate in (the 506b) allow an unlimited number of accredited investors and a very limited number of sophisticated investors. This means space for sophisticated investors in a deal is competitive, plus the sophisticated investor must find these 506b deals through word-of-mouth. That’s why it’s so important for sophisticated investors interested in multifamily real estate syndication to network and build relationships with sponsors. 

That’s exactly what Holly did. She signed up to learn more about multifamily syndication on my website and we became better acquainted, with Holly sending me potential investment opportunities in her hometown of Tampa, and I fielding her questions on syndication. We’re now on a first name basis and I know she is knowledgeable about alternative investments (afterall, she reads my blog). While she is not an accredited investor, she is investment-savvy. When the right deal comes along, you can bet I’ll pass it by her.

The Takeaway?

While becoming an accredited investor is an admirable goal, the key takeaway to all this is how to build a life of design. Notice that my sophisticated investor friends, while not accredited investors, are doing everything in their power to educate themselves to make investment moves that will generate passive income. You’d be surprised how quickly this passive income can snowball into something huge… something that grows steadily each year, getting you closer and closer to accredited investor status. Again, it isn’t so much the title you’re after - it’s the skills and knowledge you develop along the way. And that my friends, is something net worth and income can’t buy.