Dodd-Frank Revisions to Definition of “Accredited Investor” Immediately Go Into Effect: Prompt Action Required
July 23, 2010
James S. "Jay" Crenshaw- Orlando
Scott R. MacLeod- Orlando
On July 21, 2010, President Obama signed into law the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Act”). The Act has several potential impacts on those in the investment management community. While most of the changes impacting investment advisers do not go into effect until a year from now, the Act’s changes to the definition of “accredited investor” under Regulation D of the Securities Act of 1933 go into effect immediately and, to the extent you advise private funds (i.e., hedge funds, private equity funds, and venture capital funds) offered in reliance on Regulation D (i.e., Rule 506 offerings), will require your prompt action in updating your offering documents (i.e., investor suitability questionnaires, etc.).
Background
Most private funds rely on Rule 506 of Regulation D under the Securities Act of 1933 to sell interests in such funds without having to register the sale of the interests. Rule 506 generally requires investors to be “accredited” in order to purchase interests in funds relying on this exemption. A natural person is generally considered to be accredited if he/she: (1) has $200,000 in annual income (or $300,000 jointly with a spouse); or (2) a net worth of $1 million.
The Act’s Changes to “Accredited Investor” Definition
The Act requires that the value of a natural person’s primary residence be excluded when determining the person’s net worth. Accordingly, a person’s net worth must exceed $1 million without including any equity in the primary residence of the person. A person need not reduce their net worth by any mortgage or other debt secured by their primary residence unless such mortgage or debt exceeds the fair market value of such residence and the lender has recourse to such person personally for any deficiencies; in the event there is an excess liability, only the excess liability should be deducted from his/her net worth.
After four years, and at least once every four years thereafter, the SEC is required to review the definition of “accredited investor” for natural persons and determine whether adjustments should be made. The foregoing changes are effective immediately. The new “accredited investor” definition may be subject to further interpretation, but as of now appears to not require expulsion, but will limit new investors or additional subscriptions from existing investors. We will send additional information regarding new potential changes to the definition of accredited investor that are not immediately effective.
Impact of the Revised Definition
Because the changes to the accredited investor definition are effective immediately, and will impact any new subscriptions, those acting as advisers to private funds, which are exempt under Regulation D of the Securities Act of 1933, should immediately amend their subscription agreements and, to the extent applicable, other offering documents to comply with the new “accredited investor” definition as applied to natural persons, and thereafter, each time any related changes or increases are promulgated by the SEC.
Holland & Knight lawyers can assist in amending all agreements and offering documents.
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