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SEC Leaves Door Open for More Private Market Expansion


August 28, 2020

The U.S. Securities and Exchange Commission’s long-awaited changes to the definition of an accredited investor appear incremental, but they set the stage for further expansion of already rapidly growing private capital markets where investors have fewer protections.

The SEC’s action Wednesday modestly expanded the category of accredited investors, which determines who is eligible to invest in unregistered securities, to add owners of select securities licenses, plus other wealth management firms and “knowledgeable employees” of private funds.

The expansion follows years of widespread criticism that the criteria for an accredited investor are flawed and antiquated. The definition historically has been limited to a person’s wealth or income, which determine their ability to bear a loss, without regard to sophistication.

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The SEC policy follows decades of explosive growth in private markets, a less regulated corner of the market that has become the dominant source of capital raising in the U.S.

Companies raised $2.7 trillion in unregistered offerings in 2019, totaling 69% of all new capital, compared with $1.2 trillion raised in registered public offerings, according to SEC data.

That seems unlikely to change much, at least in the near term. The SEC did not estimate how many new accredited investors may result from its rule, but the agency expects the total is not “significant” and will have minimal immediate effects on private capital raising.

But wheels appear in motion for a larger population of private investors in the coming years.

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The SEC’s decision not to adjust personal wealth and income thresholds for inflation is also likely to create more accredited investors over time. When current minimums were set in 1982, about 1.8% of households qualified as accredited investors, compared with about 13% now. The $200,000 annual income and $1 million net worth totals were never adjusted for inflation, though the Dodd-Frank Act removed home value from net-worth sums.

Cohen Milstein Sellers & Toll PLLC partner Laura Posner, a former bureau chief for the New Jersey Bureau of Securities, the state’s securities watchdog, cautioned that senior citizens could be vulnerable to a broader accredited investor definition. Seniors tend to have larger retirement accounts from investing during their careers, which they may depend on for living expenses.

Posner cautioned that seniors could be fraud targets since “private placements are one of the most frequent sources of fraud and enforcement actions by both state and federal regulators.”

“The left hand is not speaking to the right hand about the risky nature of these types of investments and then expanding the number of people who are available to be defrauded by investing in them,” Posner said.

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