/>iOn March 12, the US Securities and Exchange Commission (SEC), via a No Action Letter, issued interpretive guidance clarifying what constitutes “reasonable steps” issuers can take to verify purchasers’ accredited investor status, as required under Rule 506(c) of Regulation D under the Securities Act of 1933, as amended (Securities Act) (Rule 506(c)).
The Letter provides an alternative path for compliance with Rule 506(c). This new guidance streamlines the verification process by allowing a high minimum investment amount to serve as a relevant factor in confirming accredited investor status.
In the No Action Letter, the SEC staff affirmed that an issuer may utilize the size of certain purchasers minimum investment amounts (including uncalled capital commitments), along with certain written representations by the purchaser, to verify a purchaser’s accredited investor status in an offering conducted under Rule 506(c) of Regulation D. Issuers may require at least a $200,000 investment for natural persons and at least $1 million for legal entities.
The written representations from the purchaser would include (1) accreditation status and (2) that the investment funds are not borrowed or financed by a third party specifically for making the investment.
Implications for Market Participants and Capital Raising
The new guidance alleviates uncertainty for issuers seeking to comply with Rule 506(c) when an accredited investor invests an amount equal to or in excess of the minimum investment amounts specified in the No Action Letter. Issuers may now verify accredited investor status based on minimum investment amounts, without imposing the invasive or tedious verification requirements on investors.
The No Action Letter provides a clearer path to completing an exempt offering using general solicitations. For example, investment funds may now have the opportunity to publicly launch at the outset to raise a new private fund and broadly advertise it through social media, online, in published interviews, etc. The new guidance may also encourage an influx of accredited investors that are willing to meet the minimum investment requirements and who found the previous verification requirements taxing or invasive.
An Overview of Rule 506(c) Accredited Investor Requirements
Rule 506(c) permits the use of general solicitation and general advertising in connection with unregistered offers and sales of securities where (1) the purchasers are accredited investors, (2) the issuer has taken “reasonable steps” to verify the accredited investor status of the purchasers and (3) the terms of Securities Act Rules 501, 502(a), and 502(d) are observed.
Rule 506(c)(2)(ii) also lays out a non-exhaustive list of steps an issuer can take to verify the accredited investor status of a purchaser. Some of these methods include:
- Reviewing documentation, such as tax returns, bank statements, or brokerage statements, to verify the investor’s income or net worth.
- Obtaining written confirmation from a registered broker-dealer, an SEC-registered investment adviser, a licensed attorney, or a certified public accountant (CPA) that the investor meets the accredited investor standards.
- Using a third-party verification service to verify the investor’s accredited investor status.
- Asking the investor to provide a signed statement or certification confirming that they are an accredited investor, so long as the offeror has used another method of verification to determine the purchaser’s accredited investor status within the last five years.
The verification processes above can be tedious, costly, and invasive for investors who do not wish to disclose certain sensitive information. However, in a previous Securities Act Release, the SEC indicated that rather than relying solely on the non-mandatory, non-exclusive examples provided, “if the offering’s terms necessitate a high minimum investment amount and a purchaser can fulfill those terms, the probability of that purchaser meeting the accredited investor criteria may be sufficiently high. Consequently, unless there are any indications that the purchaser is not an accredited investor, it might be reasonable for the issuer to reduce the steps required for verification or, in some instances, forego additional verification steps altogether, aside from confirming that the purchaser’s cash investment is not financed by a third party.”
The SEC also acknowledged that whether an issuer has taken reasonable steps to verify that a purchaser is an accredited investor is an objective determination by the issuer (or those acting on its behalf) and dependent on the particular facts and circumstances of each purchaser and transaction. In the No Action Letter, the SEC confirmed that an issuer could reasonably conclude that it has taken reasonable steps to verify that a purchaser of securities sold in an offering under Rule 506(c) of Regulation D is an accredited investor if the investment involves minimum investment amounts of at least $200,000 for natural persons and at least $1 million for legal entities, and the accredited investor makes written representations representations (1) of accreditation status and (2) that the investment funds are not borrowed or financed by a third party specifically for making the investment. In addition, the issuer must have no actual knowledge of any facts that indicate that any purchaser is not an accredited investor; or that the minimum investment amount of any purchaser is financed in whole or in part by any third-party for the specific purpose of making the particular investment in the issuer.
The No Action Letter reflects the views of SEC staff and does not have legal force or effect or alter or amend applicable law, and as a consequence, issuers and investors must remain aware of and compliant with other requirements under Rule 506(c).
