A Securities and Exchange Commission review of its "accredited investor" rule could ultimately make it tougher for people to invest in privately traded securities — high-risk investments with potentially high rewards.
Under the rule, only well-heeled investors are permitted to buy these private placements — securities that are not registered with regulators or traded on exchanges. The idea is to protect Mom and Pop investors from the risks of these illiquid securities, typically issued by small or startup companies and sometimes found to be issued or sold fraudulently.
The criteria, in place since the rule was established in 1982 and never adjusted for inflation, generally require that investors have $1 million in assets or earn at least $200,000 a year to qualify to buy these securities.
But some critics want the SEC to impose other criteria, such as certain professions, arguing that net worth and income are not the best measures of investor sophistication. Others, including the U.S. Government Accountability Office, say the 1982 levels are too low.
The review marks the SEC's first under the 2010 Dodd-Frank financial reform law, which requires one every four years. The SEC can develop new rules to change the standards but does not have to make any changes.
Investor advocates see the review as their chance to persuade the SEC to tighten requirements for buying the securities. In 2011, Dodd-Frank required the SEC to exclude the value of an investor's primary residence from the net worth calculation, but the securities still are reaching investors who lack the financial sophistication to take on the risk, they say.
Companies that issue the securities worry that changes could limit their access to capital.
Small brokerage firms that often sell private securities can earn commissions of roughly between 7 percent and 9 percent.
The SEC's Investor Advisory Committee discussed the issue at a July 10 meeting and expects to propose recommendations when it reconvenes in October.
SEC staff members have met directly with other groups, including the Angel Capital Association, a trade group for investors in start-ups, and the Public Investors Arbitration Bar Association, an organization of lawyers who represent investors in securities arbitration disputes.
JOBS Act Interactions
Consumer advocates have become more concerned about the accredited investor rule because of a related issue raised by the 2012 Jumpstart Our Business Startups Act, which loosened a long-standing ban on advertising the offerings.
Under that law, issuers may advertise their private offerings to mass consumers, such as in television commercials, even though their sale is still restricted to accredited investors.
"Thanks to the JOBS act, once private offerings are now essentially public offerings," said Barbara Roper, investor protection director of the Consumer Federation of America, and a member of the SEC's Investor Advisory Committee. Her concern: that unsophisticated investors who meet the requirements of "accredited investor" advertising will see those pitches and buy in.
The SEC could leave the financial thresholds in place but limit the percentage of total assets that someone can invest in private offerings, Roper said.
Another choice would be to deem some investors as "sophisticated" because of their professions. Accountants and certified financial analysts, for example, would be deemed savvy enough to take on the risk. SEC Chair Mary Jo White described the approach as possible "alternative criteria" in a letter to U.S. lawmakers last year.
The SEC declined to comment on its review and would have to vote on any changes.