It takes money to make money, and accredited investors have more opportunities to do so than non-accredited investors.

That’s because the Securities and Exchange Commission (SEC) allows companies and private funds to skip the need to register certain investments as long as the firms sell these assets to accredited investors.﻿﻿ Accredited investors are able to invest money directly into the lucrative world of private equity, private placements, hedge funds, venture capital, and equity crowdfunding. However, the requirements of who can and who cannot be an accredited investor – and can take part in these opportunities – are determined by the SEC.

There is a common misconception that a “process” exists for an individual to become an accredited investor. No government agency or independent body reviews an investor's credentials, and no certification exam or piece of paper exists that states a person has become an accredited investor. Instead, the companies that issue unregistered securities determine a potential investor’s status by conducting diligence prior to sale.

This article breaks down the requirements to become an accredited investor, how to determine if you qualify, and the screening process completed by investment managers to verify accredited investor status.

Who Is an Accredited Investor?

Rule 501 of Regulation D of the Securities Act of 1933 (Reg. D) provides the definition for an accredited investor. Simply put, the SEC defines an accredited investor through the confines of income and net worth two ways:

A natural person with income exceeding $200,000 in each of the two most recent years or joint income with a spouse exceeding $300,000 for those years and a reasonable expectation of the same income level in the current year.

A natural person who has an individual net worth, or joint net worth with the person’s spouse, that exceeds $1 million at the time of the purchase, excluding the value of the primary residence of such person. ﻿ ﻿

The last passage of the second bullet is critical because it is an important change that was introduced during the 2010 passage of the Dodd-Frank Act. Prior to the financial law’s passage, the primary residence was not excluded from determining a person’s net worth. Anyone who held accredited investments prior to the passage was grandfathered into the law.﻿﻿

On August 26, 2020, the U.S. Securities and Exchange Commission amended the definition of an accredited investor. According to the SEC's press release, "the amendments allow investors to qualify as accredited investors based on defined measures of professional knowledge, experience or certifications in addition to the existing tests for income or net worth. The amendments also expand the list of entities that may qualify as accredited investors, including by allowing any entity that meets an investments test to qualify." Among other categories, the SEC now defines accredited investors to include the following: individuals who have certain professional certifications, designations or credentials; individuals who are “knowledgeable employees” of a private fund; and SEC- and state-registered investment advisers.

Rule 501 also has provisions for a corporation, partnerships, charitable organizations, and trusts in addition to company directors, equity owners, and financial institutions.﻿﻿ However, the following formulas and screening processes are prepared for individuals or couples seeking the designation of being an accredited investor.

How to Determine if You’re Accredited?

Individuals who have earned $200,000 or more in income over the past two years automatically qualify as an accredited investor, as does a person whose income – when combined with a spouse's – totals $300,000 or more.﻿﻿

An individual can also maintain a net worth of $1 million or more, minus the value of a primary residence.﻿﻿ The only situation where the primary home can weigh on net worth is when an investor has either an underwater mortgage or a balance on a home equity line of credit.﻿﻿

For an individual to determine qualification as an accredited investor, they should create a personal balance sheet like the one below by subtracting the total number of liabilities against the total assets.