Hello my friends and welcome to another episode of Ask Marco where I answer your investing related questions.
Today’s question comes from John and John says, Hi Marco, love your podcast and the great resources you have on your site. Wondering if you can answer a question. I seem to get conflicting and full-on. I understand. To be an accredited investor, you either have to make $200,000 a year for at least the last two years or have a net worth of $1 million minus your primary residence. Is that the total value of your primary residence or minus the equity in your primary residence factoring in your mortgage balance? First off, for those that are wondering, what is an accredited investor? An accredited investor is someone who meets a certain income and net worth designation, which is defined by the Securities and Exchange Commission. The Sec, I’m sure many of you, if not all of you, have heard of the sec and more specifically as part of their regulations, it’s under what’s known as Rule 501 of Regulation D.
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I know that sounds pretty technical, you don’t need to worry about that part, but being an accredited investor allows you to invest in private offerings which are exempt from sec registration. So publicly traded securities are examples of securities that require sec registration. So think of the stock market, Nasdaq, New York Stock Exchange, all that stuff. They have to register with the SEC and go through a long regulation process to get their securities registered. An investment in a private company, however, or a private investment through what’s known as a private placement is an example of a private offering that does not need to be registered with the SEC. That doesn’t mean they don’t need to file, but they don’t need to go through the registration process like a publicly traded company does. So the reasoning behind or reasoning for being an accredited investor is so people can prove that they have sufficient financial knowledge to protect themselves and their own interests and also have sufficient financial assets to weather investment losses.
So I don’t know if I truly believe that was their motivation long ago, decades ago, when they put these regulations in place. I don’t know if it was really to protect the individual investor, but that’s an opinion and a comment and a debate for another time. But to qualify as an accredited investor, a person must meet one of two tests there. There are other rules that apply. There’s about eight of them, but these are the key ones, the two that apply to individuals because trusts and companies or corporations can qualify on their own. So to qualify, number one, you have to have an annual income of at least $200,000 or $300,000 for joint income with your spouse for the last two years with the expectation of earning the same or higher income in the current year. Or number two, you must have a net worth that exceeds $1 million either individually or jointly with your spouse.
But here’s the key, the value of your primary residence, your home, it cannot be included when calculating net worth, so it doesn’t matter how much equity you have in it. The primary residence does not partake in your ability to qualify or be designated an accredited investor. But on the flip side, you are mortgage doesn’t count against you either. So whatever that may be up to the fair market value. So if you’re calculating joint net worth with your spouse, it is not necessary that property be held jointly, if that makes sense. Being an accredited investor can give you certain advantages when it comes to building wealth, higher rates of return and better diversification are really two main benefits for investing in private placements. These are private offerings that are not available to the general public or through public offerings. These two drivers can potentially compress the time that it takes to generate wealth because these are offerings that may have higher risk, but they also have exceptional returns.
They typically are businesses or new business launches that have great potential for high returns over a relatively short period of time that could be over the course of one to five years, whatever. And they also can shield the investor from market swings if you’re talking about the market because of the diversification and lower volatility of, of a lot of these types of investments. However, that’s not to say that anyone who qualifies should be investing in private placements and any kind of deal related to a private placement. You see a high income or net worth does not make anybody a sophisticated investor. There are plenty of not so great deals that unfortunately chase after or target unsophisticated accredited investors. So just because you’re accredited, if you’re a professional, a doctor, lawyer, CPA, attorney, whatever it may be, it doesn’t mean you have the financial education or the financial sophistication to really know what you’re doing or to do your due diligence.
So a lot of people just simply don’t know any better. So if you are not willing or able to do proper due diligence and you’re an accredited investor, it is probably best to just stay away from private offerings and stick to things like income producing real estate. Wink, wink. So I hope that answers the question. If not, just email me directly John and um, I can help you out without a little further, but I hope that helps you out. So that is it. If you have any question about real estate, finance, or investing that you’d like me to answer on the show, simply go to passive real estate investing.com click ask Marco. I’ve been getting a lot lately here so I apologize in advance that I’m not able to hit them up all at the same time, but I’m going to maybe budget some time to do a couple at a time and maybe batch them together in the same week anyway, if you haven’t already remember to subscribe, help us share the show with other likeminded people, visit us on iTunes or wherever you may listen to us and leave us a rating and review. And thanks for listening. We will see you on our next episode.
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