Can My Self-Directed IRA be an Accredited Investor?

Many of the more popular investments available to Self-Directed IRA investors, in many cases, require the investor to be an accredited investor. In essence, the accredited ancestor rules require an investor (or Self-Directed IRA owner) to have a certain level of annual net income or overall net worth to be permitted to invest in certain private placements or private investments.

This article will focus on how an investor can satisfy the definition of an accredited investor as per the Securities Exchange Commission (SEC), as well as highlight the types of investments that typically require an investor to be accredited.

Intent of the Accredited Investor Rules

The accredited investor rules are one of the more controversial rules involving investor rights.  Many investors are shocked to learn that they are not eligible to make a certain investment because of their income level or net worth.  So, what is the reason behind the SEC’s rules?

The SEC has essentially predetermined that only certain investors, accredited investors, have the necessary financial sophistication, financial power, and investment expertise to completely understand and evaluate the risks associated with investing in a private placement type investment, without the need for the disclosures that are required for offerings to the general public.  Unfair or not, the SEC is basically saying that only investors of a certain income category or net worth can handle the risks associated with many private investments.

Accredited Investor Definition

The SEC defines an individual accredited investor as either having a net worth of $1 million, excluding the value of one’s primary residence, or have earned at least $200,000 per year in each of the past two years and expect to do so again in the current year.

Married couples are allowed to aggregate their assets for the $1 million test, but they must have a joint income of at least $300,000 annually to meet the income test instead.  It is up to the individual investor to certify that they satisfy the SEC definition.

Can A Self-Directed IRA Be an Accredited Investor?

Since an IRA is a retirement account and not a natural person, how does the SEC definition apply to a Self-Directed IRA?  A Self-Directed IRA is a type of IRA account which permits the IRA holder to invest in alternative asset investments, such as private placements, and much more. 

The belief is that one would use the individual IRA owner’s financial status to determine if the IRA will satisfy the accredited investor rules.  In other words, to determine if an IRA is deemed an accredited investor, you would look to the IRA owner to make that determination.  If the IRA owner has income above $200,000 ($300,000 if married and filing jointly) for two consecutive years or has a net worth above $1 million, not excusing a primary residence, then the IRA will be deemed an accredited investor.

From a legal standpoint, the idea is that since an IRA is treated as a trust, pursuant to IRC 408, under the accredited investor trust rules, if each of the people creating the trust is an accredited investor individually, then the trust will also carry accredited investor status.

Types of Investments

Most non-publicly traded or investment funds, such as private equity, hedge funds, and most private business investments, are structured as Reg A or Reg D type private placements.  The advantage of an investment complying with the Reg A or Reg D rules is that it limits the fund or business seeking financing SEC reporting obligations.  Hence, if the individual Self-Directed IRA owner satisfies the SEC accredited investor definition, it would then be permitted to make the Reg A or Reg D investment.

The most popular type of investments that require the investor to be an accredited investor are:

• Real estate syndication
• Private equity
• Hedge funds
• Venture capital
• Crowdfunding
• Private business start-up financing
• Hard money loans
• Debt funds

Conclusion

Unfortunately, not all investors can make all IRS-approved Self-Directed IRA investments.  The SEC accredited investor rules tend to frustrate many investors who are not able to satisfy the definition. Nevertheless, understanding how the accredited investor rules apply to Self-Directed IRAs is important when determining whether an alternative asset investment can be made with a retirement account. 

For those investors who can personally satisfy the SEC accredited investor rules, there are a number of very interesting private placement investments available to Self-Directed IRA investors  that could serve as a good source of investment diversification.