How to Buy Stocks of Privately Owned Companies

Until recently, private stocks were for the rich only. However, the marketplace is changing and becoming more democratic. When all the changes are in place, the Average Joe and Jane will be able to buy private stocks with little fuss. In the meantime, you’ll have to jump through some pretty high hoops to get your hands on these investments.

Wealth Requirements

To buy private stocks, it helps to be wealthy. Most private stock deals require the buyer to be "accredited." Individuals are accredited if they have a net worth of $1 million -- not counting their main homes -- or if they've earned $200,000 in each of the two previous years. Make that $300,000 if you and your spouse file a joint tax return. To sell you private shares, a company must qualify for an exemption from registration with the U.S. Securities and Exchange Commission. Rules set forth in Regulation D limit how much and to whom the companies can sell private shares.

'Sophistication' Qualifications

Even if you’re not accredited, you might still be able to buy private shares if you’re “sophisticated.” The SEC uses this term to refer to people who understand the risks of private stock investments or who hire a representative with that knowledge. You can buy shares through a “private placement,” which requires some paperwork from both you and the seller. You can deal directly with a corporation or go through a broker that specializes in private placements. The seller must submit the SEC’s Form D before it can sell you the shares. You can’t resell the shares for at least six months unless you also file a Form D. During that six-month period, the shares are “restricted.”

No More Beastly Burden

The 2012 Jumpstart Our Business Startups Act, or JOBS Act, will eventually usher in a new era of private stock transactions called “equity crowdfunding.” Once the SEC finishes its current rulemaking tasks, you’ll be able to buy private stocks over the Internet. You won’t have to be accredited or "sophisticated" to buy in. Issuers can sell up to $1 million of securities each year through crowdfunding. You can invest up to 10 percent of your income or wealth, but no more than $100,000 a year, in crowdfunded securities. However, if your income or net worth doesn’t hit the $100,000 mark, your crowdfunding investing is limited to 5 percent of your income or wealth, and no more than $2,000, during a 12-month period.

Waiting for Satisfaction

You’ll go through a crowdfunding website, or portal, to buy private securities. The securities you buy on these sites will have a one-year resale restriction. The sites will try to enforce the investor purchase limits, though the mechanism has yet to be finalized. Critics have accused the SEC of dragging its feet on issuing the equity crowdfunding rules. However, the possibilities of cheating and fraud are not lost on the SEC, which is one reason it is proceeding cautiously. During the interim, Internet websites, such as Second Market, have appeared that connect accredited investors with private stock.

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About the Author

Based in Chicago, Eric Bank has been writing business-related articles since 1985, and science articles since 2010. His articles have appeared in "PC Magazine" and on numerous websites. He holds a B.S. in biology and an M.B.A. from New York University. He also holds an M.S. in finance from DePaul University.

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