Do the rich have access to better investments than the rest of us?
It turns out that they do, actually.
I once offered to invest money with a hard money lender I knew, who had an impeccable track record. He asked a simple question before taking the conversation any further:
“Are you an accredited investor?”
I’d never heard the term before, and asked how to become an accredited investor. As politely as he could, he explained that it wasn’t a matter of taking a test or filling out an online certification.
It’s a matter of money.
As you explore the best ways to invest your money, you’ll increasingly bump up against accredited investor requirements. Beyond simply understanding what an accredited investor is, try these ideas to help you become a qualified investor faster.
What Is an Accredited Investor?
An accredited investor is, in short, a wealthy investor.
Defined by the Securities and Exchange Commission in Rule 501 of Regulation D, the SEC allows two different ways to qualify. You must either have:
- A net worth over $1 million, not including your primary residence, or
- Annual income over $200,000 for each of the last two years, and an expectation to earn similar income this year (married couples must earn over $300,000).
Accredited investors can legally buy securities and investments not registered with the SEC. That opens the door to many investments not available to the average citizen — more on that momentarily.
In 2020, the SEC amended the accredited investor requirements to allow people with relevant credentials and professional certifications to qualify. According to the SEC 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.”
But unless you work for a private equity fund or investment bank, you probably don’t qualify even under the new rules.
Accredited Investor vs. Qualified Investor: Is There a Difference?
Historically, qualified investors were different from accredited investors. That changed with the Dodd-Frank Wall Street Reform and Protection Act of 2010.
Before that, accredited investors were allowed to include equity in their primary residence toward their net worth to meet the $1 million requirement. Qualified investors were never allowed to include their home equity.
But Dodd-Frank eliminated home equity from the net worth equation for accredited investors, so today the terms “qualified investor” and “accredited investor” share the same definition. They are used interchangeably.
Accredited vs. Non-Accredited Investors: Example Net Worth Comparison
To illustrate how the makeup of your net worth affects whether you qualify as an accredited investor, consider two reasonably successful people.
Kenneth paid down his mortgage, rather than investing quite as aggressively. In fact, by normal accounting standards, Kenneth has a higher net worth than Kimberly. Yet Kenneth does not meet the accredited investor net worth requirement, while Kimberly does.
Primary Residence Home Value $500,000 $500,000
Mortgage $450,000 $200,000
Assets Bank Accounts $30,000 $30,000
IRA $200,000 $200,000
Brokerage Account $550,000 $550,000
Rental Properties $450,000 $300,000
Total Included Assets $1,230,000 $1,080,000
Liabilities Student Loans $15,000 $15,000
Auto Loans & Other Liabilities $20,000 $30,000
HELOC $0 $70,000
Rental Property Mortgages $100,000 $100,000
Total Included Liabilities $135,000 $215,000
Net Worth (including residence) $1,145,000 $1,165,000
Net Worth (excluding residence) $1,095,000 $935,000
Too much of Kenneth’s net worth is tied up in equity in his home for him to meet the accredited investor requirements.
Who “Certifies” Accredited Investors?
In a rare show of elegance in simplicity, the SEC puts the onus of verifying accredited investors on the company issuing the investments. Instead of creating some giant bureaucracy to “certify” people as accredited investors, they simply put the responsibility on whoever receives invested funds.
When I approached that hard money lender about investing money with him, the responsibility lay with him to ask if I qualified as an accredited investor. If I’d said “yes,” he would have asked for evidence before accepting my money.
Had he failed to do so, and it turned out I didn’t meet the accredited investor requirements, then I’d have a case against him should the investment not live up to my expectations. For example, say he lost some of my money — he’d be vulnerable to me calling up the SEC and claiming that he should never have let me invest in the first place, and demand that he return my money in full. Perhaps with damages if I were a litigious jerk.
Whoever raises money from accredited investors must actually verify that they legally qualify.
Investments Only Available to Accredited Investors
What’s the big deal about becoming an accredited investor, anyway?
Accredited investors can participate in investments not available to most people: investments either not registered with the SEC, or which fall under reduced regulation. The SEC exists to protect mom-and-pop investors who know little about investing, but they acknowledge that wealthier, more sophisticated investors often don’t need their nannying. They therefore allow them more freedom to invest without the government signing off on the investment.
More common examples of investments only available to qualified investors include:
Crowdfunding Investments: Before the SEC defined special rules for crowdfunding investments, only accredited investors could participate in them. Today, a few crowdfunding platforms allow non-accredited investors, such as Fundrise and Streitwise. Even so, most still only accept money from qualified investors.
Real Estate Syndications: Generally speaking, only accredited investors can participate in real estate syndications. These refer to private investments in apartment buildings or commercial buildings, privately funded by a handful of investors who partner on the deal.
Private Equity Funds & Hedge Funds: Most private equity funds and hedge funds only allow participation by accredited investors.
Venture Capital: Venture capital companies typically raise money privately from accredited investors. They use that money to fund promising startups, usually taking a partial ownership stake. While many of these startups fail, some experience spectacular success, earning enormous returns for venture capitalists and their investors.
Whether you meet the accredited investor requirements or not, try diversifying into more types of real estate investments to spread your risk and returns.
Do These Exclusive Investments Perform Better?
With higher risk comes higher returns.
The wealthy don’t stay that way if they invest recklessly, accepting higher risk than the potential returns justify. For example, many real estate syndications earn investors returns in the 10-20% range, beating out the long-term average returns for stocks and bonds.
One study by the American Investment Council reviewed earnings from 163 pension funds that had invested in bonds, public equity (publicly-traded stocks), and private equity only available to qualified investors. They found bonds earned an average of 5.3%, public equity earned an average of 6.1%, but private equity earned 8.6%.
How to Become an Accredited Investor
If you want to become an accredited investor, you must either boost your income or boost your net worth. Preferably both, to build wealth and passive income faster!
Think holistically about building both your income and net worth through the following broad strategies.
1. Get on a Higher Income Track
Where’s the income ceiling in your current career track? If you don’t like the answer, start looking at career tracks with higher earnings potential.
That might mean adding some professional certifications, or even a new degree. For instance, if you currently work as a medical technician, you might consider getting a degree as a nurse or physician’s assistant. As a nurse, you could raise your earning potential by becoming a nurse practitioner.
Alternatively, you could take the leap from employee to employer in your industry. A fast food manager could open their own franchised restaurant, for example. A hair stylist could open their own salon.
Of course, you don’t have to quit your day job and risk everything on a business venture.
2. Start a Side Hustle
As another way to earn more, you can start a business or gig on the side of your full-time job.
It could mean participating in the gig economy, such as driving for Uber or Lyft. Or you could start a hobby business on the side, building revenue and clients at your own pace.
When I first launched SparkRental with Deni, we each earned income on the side — she as a real estate agent and property manager, and I as a freelance writer. In fact, we both still do a little work on the side to this day, if only to keep our fingers on the pulse of the real estate industry!
And who’s to say your side hustle can’t involve real estate investing?
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3. Invest in Leveraged Real Estate
Rental properties generate passive income and usually appreciate in value, both of which help you meet the accredited investor requirements. And when you leverage other people’s money, you can build both rental income and real estate equity faster.
Take the BRRRR strategy for example. While you do have to come up with a down payment and closing costs, as soon as you finish renovating and refinance the property with a rental property mortgage, you can pull your down payment back out to reuse on a new rental property.
That allows you to continue building your rental portfolio, adding another stream of passive income with each property, all while recycling the same down payment. And the equity in each property adds to your net worth.
4. Force Equity
The BRRRR strategy revolves around forcing equity by renovating older properties. But you don’t have to limit yourself to new properties: you can build real estate equity in your existing properties by adding value to them.
In the process of improving your properties, you can also raise the rents in those units. The higher rents and higher equity both help you become an accredited investor faster.
5. House Hack
House hacking scores you several wins in one fell swoop.
It could involve the classic multi-family house hacking model, where you move into one unit and rent out the other(s), so your neighboring renters cover your mortgage. But there are plenty of other ways to house hack, from housemates to renting out storage space to bringing in a foreign exchange student.
First, you can buy a property with a minimum down payment. For example, Fannie Mae and Freddie Mac both offer 3% down payment loans, but you do have to move into the property for at least a year.
Second, owner-occupied mortgage loans come with lower interest rates and down payments than rental property mortgages.
But best of all, house hacking can let you “live for free” by eliminating your housing payment. Considering that the average American spends between 25-50% of their income on housing, that alone can skyrocket your savings rate.
6. Increase Your Savings Rate
The higher your savings rate, the faster you can build wealth and passive income. Period.
Because that’s where the wealth to invest comes from: the gap between what you earn and what you spend. By reducing your living expenses and funneling more money into investments, you can build wealth extremely quickly. Our most recent case study reached financial independence in under three years with her high savings rate!
A high savings rate and fast wealth creation also beget other savings. Check out these surprising ways the FIRE lifestyle can save you even more money than you expect.
Save more, invest more, and become an accredited investor before you know it.
What is an accredited investor?
It’s someone with an “unfair advantage,” someone who can access higher-yield investments than the average person. And it’s a category you want to enter as quickly as possible.
Because once you meet the accredited investor requirements, you can start earning even greater returns on your investments, and snowball your wealth even faster.♦
What steps are you taking to become an accredited investor? What could help you get there faster?
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About the Author
G. Brian Davis is a landlord, real estate investor, and co-founder of SparkRental. His mission: to help 5,000 people reach financial independence by replacing their 9-5 jobs with rental income. If you want to be one of them, join Brian, Deni, and guest Scott Hoefler for a free masterclass on how Scott ditched his day job in under five years.