Investor accreditation and Individual Retirement Accounts (IRAs) are unrelated topics. Any investor can open a self-directed IRA, and having an IRA will not make you an accredited investor. IRAs can be managed for you, or you can choose to direct it yourself — no minimum wealth is needed for this choice. Accredited investors must be wealthy. They are permitted to make certain risky private investments not available to non-accredited investors. These investments require that the investor have enough financial knowledge to assume the associated risk, and the Securities and Exchange Commission (SEC) uses wealth as a proxy for knowledge.
The custodian or trustee of a traditional IRA often limits the choice of investments to those approved or offered by the custodian. For example, a mutual fund-based IRA may limit purchases to investments offered only by the mutual fund company. You might also have a brokerage account that allows you access to approved stocks, bonds and CDs. A self-directed IRA puts you in the driver’s seat and allows you to invest in unapproved or more exotic items, such as precious metals, real estate, private securities, promissory notes and tax liens. Anyone can open a self-directed IRA.
Of the $4.7 trillion invested in IRAs, according to a 2011 report by the Investment Company Institute, 2 percent, or $94 billion, is held in self-directed IRAs. The SEC warns owners of self-directed IRAs to be vigilant against fraud promoters. They specifically warn against Ponzi schemes, misrepresentations about protection from losses and scanty information about alternative investments. Their advice: Be skeptical, verify claims and ask questions. If an offer seems too good to be true, it is.
Accredited investors may be people or business entities. For a person to be considered accredited, he must own at least $1 million in net worth, not counting a personal residence. Alternatively, a person with $200,000 in income in each of the two previous years also qualifies. The earnings threshold for couples is $300,000 per year. If you qualify under the income provision, you also must reasonably expect to maintain your same level of income in the current year. All hedge fund investors must be accredited.
Private companies cannot sell their stock shares to the general public. In fact, they can’t sell them at all unless they navigate through the "safe harbor" rules erected by the 1933 Securities Act and interpreted by the SEC. The act requires stock issuers to either register with the SEC or qualify for an exemption to registration. Regulation D of the act describes how companies can obtain an exemption providing a safe harbor from penalties for offering unregistered stock. Under Rules 505 and 506 of Regulation D, a private company can sell its shares to accredited investors.
When a company sells its stock under Regulation D, it’s termed a private placement. The rules put constraints on how much money can be raised in this way, how many investors can participate and how many of the investors must be accredited. Unlike public corporations that must offer a prospectus — a document containing all relevant information about the stock and issuer — a private company can divulge less information via a document called a private placement memorandum (PPM). The SEC assumes that accredited investors are able to fend for themselves in the face of the limited investment information available through a PPM.
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