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New Verification Method To Determine “Accredited” Status in Securities Act Rule 506(c) Offerings

February 9, 2021

 

Rule 506(c) permits general solicitation so long as the issuer takes “reasonable steps to verify” that all purchasers are accredited investors. It also includes “non-exclusive and non-mandatory methods of verifying that a natural person who purchases securities in such an offering is an accredited investor.” See Rule 506(c)(2)(ii). Although the Rule makes clear that the verification methods are non-exclusive, the SEC has been concerned that the Rule may be encouraging market participants to treat them as exclusive. The SEC is also aware that some market participants view the methods as onerous.

In response, the SEC added a new verification method (Rule 506(c)(2)(ii)(E)) to the non-exclusive list:

(E) In regard to any person that the issuer previously took reasonable steps to verify as an accredited investor in accordance with this paragraph (c)(2)(ii) [which sets out the requirement to use “reasonable steps to verify” accredited investor status and non-exclusive verification methods for natural persons], so long as the issuer is not aware of information to the contrary, obtaining a written representation from such person at the time of sale that he or she qualifies as an accredited investor. A written representation under this method of verification will satisfy the issuer’s obligation to verify the person’s accredited investor status for a period of five years from the date the person was previously verified as an accredited investor.

See SEC, Facilitating Capital Formation and Expanding Investment Opportunities by Improving Access to Capital in Private Markets, Rel. No. 33-10884 (Nov. 2, 2020).

Accordingly, an issuer that previously took reasonable steps to verify a natural person’s accredited investor status may satisfy its verification obligation over the next five years by obtaining a written representation from that person at the time of sale that he or she qualifies as an accredited investor, so long as the issuer is not aware of information to the contrary.

The adopting release also reaffirmed the SEC’s principles-based approach to verification, to wit, that issuers are not required to use any of the methods set forth in the non-exclusive list and can apply the reasonableness standard directly to the facts and circumstances presented by the offering and investors in question. According to the SEC, the principles-based method was intended to “provide issuers with significant flexibility in deciding the steps needed to verify a person’s accredited investor status and to avoid requiring them to follow uniform verification methods that may be ill-suited or unnecessary to a particular offering or purchaser in light of the facts and circumstances.”

The SEC indicated that it continues to believe the following factors are among those that should be considered: (a) the nature of the purchaser and the type of accredited investor the purchaser claims to be; (b) the amount and type of information the issuer has about the purchaser; and (c) the nature of the offering, such as the manner in which the purchaser was solicited to participate in the offering and the terms of the offering, such as the minimum investment amount.

The SEC also reiterated its view that an issuer’s “reasonable steps” standard under Rule 506(c) may not be substantially different from the “reasonable belief” standard under Rule 506(b). For example, an issuer’s receipt of a representation from an investor as to its accredited investor status could meet the “reasonable steps” requirement if the issuer reasonably takes into consideration a prior substantive relationship with the investor or other facts that make the accredited status apparent. However, requiring an investor to simply “check a box” on a questionnaire or subscription agreement, by itself, is not sufficient unless the issuer or its agent has additional information that reasonably supports the purchaser’s accredited investor status.


This memorandum is a summary for general information and discussion only and may be considered an advertisement for certain purposes. It is not a full analysis of the matters presented, may not be relied upon as legal advice, and does not purport to represent the views of our clients or the Firm. Alicja Biskupska-Haas, an O’Melveny partner licensed to practice law in New York, Tracie Ingrasin, an O’Melveny partner licensed to practice law in New York, and Marina G. Richter, an O’Melveny counsel licensed to practice law in New York and Russia, contributed to the content of this newsletter. The views expressed in this newsletter are the views of the authors except as otherwise noted.

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