On July 3, 2014, the Securities and Exchange Commission (SEC) issued six
new Compliance and Disclosure Interpretations (CDIs) regarding the determination
and verification of accredited investor status for purposes of Rule 506(b)
and Rule 506(c) of Regulation D under the Securities Act of 1933.
The first two CDIs clarified the application of the income test to income
reported in a non-U.S. currency and the net worth test to joint assets
held by a purchaser with a person other than his or her spouse:
Income Reported in a Non-U.S. Currency. For purposes of determining whether a purchaser is an accredited investor
using the income test, where the purchaser's annual income is reported
in a non-U.S. currency, the issuer may use either the exchange rate as
of the last day of the year being reported or the average exchange rate
for that same year.
Joint Assets with a Non-Spouse. For purposes of determining whether a purchaser is an accredited investor
using the net worth test, where the purchaser has assets in an account
and/or property held jointly with a person other than his or her spouse,
the issuer may consider such account and/or property, but only to the
extent of the purchaser's percentage ownership of the account and/or property.
The remaining four CDIs offered guidance on the "safe harbor"
accredited investor verification methods under Rules 506(c)(2)(ii)(A)
and 506(c)(2)(ii)(B).
Rule 506(c) permits an issuer to use general solicitation for a private
offering conducted in reliance on Rule 506.
To rely on Rule 506(c), the issuer must take reasonable steps to verify
that all purchasers in the offering are accredited investors. An issuer
may do so by adopting a principle-based approach tailored to the nature
and circumstances of the investor and the transaction or, if the purchaser
is an individual, by using one of the four non-exclusive "safe harbor"
methods under Rule 506(c)(2)(ii) that are deemed to satisfy the verification
requirement.
Rule 506(c)(2)(ii)(A). Where a purchaser is seeking to qualify as an accredited investor on the
basis of income, an issuer may satisfy the verification requirement by
reviewing the purchaser's Internal Revenue Service (IRS) forms for
the two most recent years and obtaining a written representation from
the purchaser that the purchaser has a reasonable expectation of reaching
the income level necessary to qualify as an accredited investor during
the current year.
The CDIs provided that an issuer may not rely on the safe harbor if: (i)
none of the purchaser's IRS forms for the most recent completed year
is available; or (ii) the purchaser's tax forms are from a non-U.S.
jurisdiction. Nevertheless, a purchaser may still meet the verification
requirement under the principle-based approach, if the issuer has otherwise
taken reasonable steps to verify the purchaser's status. For instance,
the issuer may review the purchaser's IRS forms for the two years
preceding the recently completed year and obtain written representations
from the purchaser that (i) an IRS form for the most recently completed
year is not available; (ii) specify the amount of income the purchaser
received for the recently completed year and that such amount reached
the level needed to qualify the purchaser as an accredited investor; and
(iii) the purchaser has a reasonable expectation of reaching the requisite
income level for the current year. The issuer also may consider a purchaser's
non-U.S. tax forms, if the non-U.S. jurisdiction imposes penalties for
falsely reported information comparable to those imposed under U.S. law.
In both cases, the issuer should take additional steps to verify the purchaser's
status if red flags arise (e.g., the income reported for the most recently
completed year barely meets the required minimum).
Rule 506(c)(2)(ii)(B). Where a purchaser is seeking to qualify as an accredited investor on the
basis of net worth, an issuer may satisfy the verification requirement
by reviewing certain documentation dated within the prior three months
regarding the purchaser's assets (which may include bank statements,
brokerage statements and other statements of securities holdings, certificates
of deposit, tax assessments and appraisal reports by independent third
parties) and liabilities (which must be a consumer report from a U.S.
nationwide consumer reporting agency).
The CDIs provided that an issuer is not eligible for the safe harbor if
it is relying on: (i) a tax assessment that is more than three months
old, even if tax assessments are often prepared only annually; or (ii)
a consumer report prepared by a non-U.S. consumer reporting agency. As
in the case with outdated or non-U.S. tax forms described above, however,
an issuer may still rely on these documents to satisfy the verification
requirement, if it otherwise has taken reasonable steps to verify the
purchaser's status. For instance, where the issuer is relying on a
non-U.S. consumer report, it may seek additional confirmation from the
purchaser by requesting a written representation stating that all liabilities
have been disclosed. The issuer should also take additional steps if it
has reason to question the information reported in the documents provided.