Despite the term “accredited,” used in accredited investor status, no official process governs how individuals and businesses are to apply for accredited investor status. Rather companies have a responsibility to take the appropriate steps, in many cases, “reasonable steps” to verify accredited investor status. If the company fails to perform its due diligence with regard to verification for even one investor, the entire securities offering may be put at risk.
Verifying Accredited Investor Status
The JOBS Act was implemented to change the laws regarding registration and disclosure activity surrounding the formation of capital in order to make it easier to access capital for startup companies and other high-risk ventures. Regulation D, Rule 506(c) enables companies to significantly increase their visibility to potential investors through the means of direct advertising and solicitation over various media platforms.
In exchange for this increased visibility, companies are required to perform “reasonable steps” to verify the accredited investor status of investors in securities offerings issued under the requirements of Rule 506(c).
Per the SEC guidelines, two general methods are available for verifying accredited investor status which are considered “reasonable steps.” These include the principle-based and safe harbor methods of investor verification. These methods are the means of proper verification since there is no formal process to apply for accredited investor status.
Principle-Based Method of Verification
Under the principal-based method, companies make a reasonable determination on their own that an investor has fulfilled the requirements for accredited status. However, there are negative consequences if the determination made by the company regarding the investor turns out to be incorrect. The company can lose its Rule 506(c) exemption permanently.
Safe Harbor Method of Verification
The “safe harbor” method provided by the SEC, gives companies more certainty about the accredited investor status of potential investors in their securities. This method may be pursued via four non-exclusive means:
1.Net worth verification
2.Income verification
3.Written confirmation provided by a certified public accountant, licensed attorney, SEC-registered investment advisor, or registered broker-dealer which states that the company has conducted reasonable steps to verify the investor’s accredited status
4.Verification of the accredited status of the investor who invested in a securities offering made under Rule 506(b) prior to September 23, 2013, when Rule 506(c) became effective
As related above, a prospective investor in private securities offerings does not formally apply for accredited investor status. Companies must take the necessary steps to verify their status. It is important for companies to take this responsibility seriously. Companies risk losing their exemption under Rule 506(c) and disastrous results for their business venture if they verify even one investor improperly.
