Abstract

Everyone can invest in the heavily regulated registered (or public) securities market, but the more lightly regulated unregistered securities markets are more restricted. The most important unregistered securities market for capital-raising purposes is Rule 506 of Regulation D, which has grown to become the United States’ largest capital-raising market. Far more capital is raised each year in Rule 506 offerings than registered offerings, and the Rule 506 market is where many of the country’s highest-growth (and highest-return) entrepreneurial companies sell their securities. But most Americans are excluded from investing in the Rule 506 market because it is fundamentally restricted to “accredited investors.” Nonaccredited investors are shielded from the Rule 506 market’s risk.

The accredited-investor definition draws a bright line between who can, and who cannot, freely participate in Rule 506 transactions. The definition is meant to identify financially sophisticated investors who can fend for themselves and includes institutional investors and wealthy individuals. Some suggest the accredited-investor definition for natural persons is over-inclusive and allows too many individuals to invest in the Rule 506 market, while others suggest it is under-inclusive and allows too few. Both concerns are likely true; the current accredited-investor definition is both over-inclusive and under-inclusive, which is a byproduct of the bright line approach to sorting investors. A bright line rule is unavoidably inaccurate; it could never hope to capture all the variables and intricacies that go into each individual’s personal investing abilities, so this article suggests softening the line’s brightness.

Rather than treat the accredited-investor definition as a bright line for sorting investors into favored and disfavored classes, the definition should serve as a default rule. Making the accredited-investor definition a waivable default rule allows the SEC to protect potentially vulnerable investors by clearly telling them when the Rule 506 market may be unsuitable. The SEC could even raise the bar on who automatically qualifies as accredited. At the same time, competent individuals who disagree with the SEC’s concerns—and who are most familiar with their own financial sophistication, risk tolerance, and finances—could voluntarily choose to be accredited investors and opt out of being shielded from risky investments.

Department

Law

Subject

securities

Publication Date

4-7-2025

Journal Title

Fordham Journal of Corporate & Financial Law

Document Type

Article

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