There are Fewer Accredited Investors Now: “Dodd-Frank Act”

Joseph R. Soraghan

By Joseph R. Soraghan

Wednesday, July 21, 2010, the number of investors available to entrepreneurs dropped significantly. On that date, President Obama signed the Dodd-Frank Wall Street Reform and Consumer and Consumer Protection Act (the “Dodd-Frank Act”) into law.

As we pointed out in the February 2010 Enterprise (Missouri Venture Forum), the legal requirements for raising capital from investors requires that either the offering of the investments be registered with the Securities and Exchange Commission, or that an exemption be available for the offering. The exemption which has become far and away the most used, and the most useful, to entrepreneurs is that for “accredited” investors under Regulation D.

Regulation D allows an investor to be “accredited” by having a net worth of only $1,000,000, or have an individual annual income exceeding $200,000 or $300,000 if investing with one’s spouse. Most users of this exemption qualified for it simply by assuring that all investors met the net worth requirement of $1,000,000.

And in calculating that net worth, until last Wednesday, essentially all of the investor’s assets could be included, including the investor’s primary residence. This is important because many, if not most, such investors’ $1,000,000 net worth consisted primarily of his or her primary residence.

But the Dodd-Frank Act excludes the value of an investor=s primary residence from the calculation of net worth for determining the accredited investors status (Section 412(a)).

Some persons in the entrepreneurial community predict that this will significantly reduce the number of persons who can qualify as “accredited.” (Other proposals were made in the legislative process leading to the Act which arguably would have effectively eliminated the usefulness of the exemption completely, but they were not adopted.)

Entrepreneurs seeking to raise capital, or in the process of doing so, must now use the new standard in determining compliance with the accredited investor status.

The changes emanating from the Act will eventually likely not be restricted to this one adjustment. The Act authorizes the Securities and Exchange Commission within one year to review and promulgate rules amending the definition of “accredited investor” (which amendment will likely require some showing of experience in “angel” investing). Within three years, the Government Accountability Office is required to submit a report to Congress regarding income, net worth and other criteria for accredited investor status, and within four years the SEC must review the accredited investor exemption in its entirety.

Joe Soraghan is a past president of the Missouri Venture Forum.

Released by permission of the Missouri Venture Forum newsletter ENTERPRISE (August 2010).

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