Thread by @jchervinsky

0/ The accredited investor rules aren't perfect, but they serve a valid purpose & eliminating them without a replacement is a very bad (and illogical) idea.

Before this discussion goes further, let's get some clarity on what these rules are & how they actually work.

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1/ To understand the accredited investor rules, you first have to understand the general framework of the federal securities laws.

By default, the law requires all securities issuers to register their offerings with the SEC before selling them to the public (the IPO process).

2/ The registration requirement was born from the speculative bubble of the 1920s, when issuers took advantage of post-war prosperity to sell worthless securities to irrational investors who had no idea what they were buying.

The result was the 1929 crash & the Great Depression.

3/ In the 1930s, Congress devised the registration requirement to solve the problem of information asymmetry between issuers & investors.

The goal was to give investors full & fair disclosure of material information so they could make informed decisions about their investments.

4/ But over the years, issuers complained that the registration requirement was unfair: it made securities offerings (and thus capital formation) prohibitively expensive.

Not everyone who wanted to sell a security could afford to pay the lawyers & auditors they needed to comply.

5/ To ease the burden on small businesses that wanted to raise capital by issuing securities, the SEC adopted Regulation D in 1982.

Reg D provides an exemption from the registration requirement for "private placements" of securities with accredited investors.

6/ Why shouldn't issuers have to comply with the registration requirement if they only sell securities to accredited investors?

The idea is that we don't need to give investor protections to the rich. On policy grounds, we don't care much if they lose money on bad investments.

7/ It's crucial to understand that Reg D is a *de-regulatory* measure that allows issuers to escape the registration requirement.

Without it, securities issuers would have to either conduct a full IPO or comply with another of the SEC's exemptions from registration, like Reg A.

8/ As a result, it's somewhat illogical to think eliminating Reg D would create new investment opportunities for retail investors.

How many of today's issuers conducting private placements would spend millions of dollars on an IPO instead if Reg D were gone? I'd guess not many.

9/ The more likely result of eliminating Reg D would be stopping smaller companies from raising capital through securities issuances due to the same prohibitive compliance costs that led to Reg D's creation in the first place.

I don't think that's what anyone is going for.

10/ It seems like most people objecting to Reg D are actually calling for the end of the registration requirement.

I can't get behind that. The ICO bubble showed us what happens when issuers are allowed to exploit information asymmetry. It isn't pretty.

https://twitter.com/arjunblj/status/1121061516357328898

11/ Some people also argue that Reg D reserves all the best investment opportunities for accredited investors: the "rich get richer" problem.

True, but it reserves all the *worst* investment opportunities for them too--all the ones based on incomplete & unreliable information.

12/ The best argument against Reg D is that it defines accredited investors by wealth, including only people who have:

- $1 million in net worth; or
- $200k individual income (or $300k marital income) annually for two years.

It's *always* right to be suspicious of wealth tests.

13/ The accredited investor definition's goal is "to encompass those persons whose financial sophistication and ability to sustain the risk of loss of investment or ability to fend for themselves render the protections of the Securities Act’s registration process unnecessary."

14/ The flaws in this explanation are obvious.

The correlation between wealth & financial sophistication is questionable & nothing stops the rich from gambling & losing their whole net worth on a private placement.

We can all agree wealth is an awful proxy for Reg D's purposes.

15/ But designing a better proxy is more complicated than it seems when you consider how Reg D operates in practice.

Contrary to popular belief, accredited investors don't actually get "accredited" by anyone. Issuers using Reg D are responsible for making that determination.

16/ If an issuer gets this wrong & sells to unaccredited investors by mistake, it won't qualify for the Reg D exemption & has to comply with the registration requirement.

That means an issuer who didn't register may be liable for violating the federal securities laws. Not good.

17/ So, to make Reg D practical, the test for accredited investors has to be simple enough for issuers to handle on their own.

Diligence on an investor's net worth or annual income is easy. Administering an examination for financial sophistication is hard (and expensive).

18/ Ultimately, the securities laws have to balance issuers' interests in efficiently raising capital with investors' interests in having material information about (& access to) quality investment opportunities.

I don't think eliminating Reg D will help.
money.com/money/5410294/…

19/ Instead, we should talk about *expanding* Reg D.

We could include more categories of people within the accredited investor definition who don't need the protections afforded by the securities laws, and we could define them based on criteria that issuers can easily verify.

20/ For example, we could include folks with certain educational backgrounds, professional certifications, relationships with registered financial advisers, or investing experience.

Or we could create a new regime where an SEC-approved entity administers an exam for a small fee.

21/ Don't get me wrong, I absolutely think we need to revamp Reg D to address the very serious "rich get richer" problem.

But the rallying cry to eliminate the accredited investor rules isn't helping. If we can move past the meme, we might land on something worthwhile.

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