Updated: Mar 7
If you’ve ever invested in real estate, you know that there are two types of investors: accredited and non-accredited. It’s really important to know what makes an investor qualified as accredited, because it will impact whether or not the investor can participate in real estate syndications and other investments. In order to be considered an accredited investor, one has to meet certain requirements and regulations imposed by the Securities and Exchange Commission (SEC). It matters, because it impacts who can access certain investment opportunities and how a sponsor can approach both types of investors.
You might be wondering why the SEC is involved in real estate investing. The reason is simple: when you participate in a real estate syndication, you’re not really purchasing a share of a building; you’re buying shares in a Limited Liability Corporation (LLC) that was established in order to buy the asset. Because they are considered shares, the SEC treats them as securities, and that gives them the ability to regulate who can purchase them.
On the one hand, the SEC would like to promote investing in all types of ventures, because investments have potential to have a large payout in the future, and that includes multifamily properties. On the other hand, the SEC wants to protect those investors with limited knowledge or those who may not have the financial wherewithal to deal with a financial risk.
Basically, the SEC’s thinking is that an accredited investor is more adept at accepting the financial risks that are associated with investments in unregistered securities. A sponsor doesn’t have to register the securities as long as they offer them to accredited investors. However, they still are required to notify the SEC and obtain an exemption. This makes it much easier for an investor, because the process to register securities takes a long time and costs a lot of money.
The SEC has recently expanded the Accredited Investor definition to include more investors, but before we talk about the new accredited investors, let’s talk about who was considered accredited already:
What is an Accredited Investor?
So, what makes an investor “accredited?” Regulation D of the Securities Act of 1933 defines an accredited investor as someone who:
• Earned at least $200,000 in annual income over the past two years ($300,000 for a married couple);
• Have a net worth in excess of $1,000,000 excluding the value of their primary residence.
According to Rule 506c, sponsors are able to syndicate their real estate deals as long as they’re marketing to accredited investors. This gives passive investors who are accredited access to investment opportunities that non-accredited investors do not have access to. This is an advantage that many investors don’t enjoy.
What About Non-Accredited Investors?
If you look a little deeper at Regulation D, Rule 506b, you’ll find that non-accredited investors are still allowed to participate in a syndication deal if they’re considered “sophisticated.” So, what’s a sophisticated investor? It’s someone who has sufficient knowledge and experience in financial and business matters to evaluate the risks and advantages of a prospective real estate investment.