Leave it to the federal government to make the few out there with equity in their homes feel even poorer than the already do. Everyone knows, with times being tough, that many individuals that used to qualify as accredited investors (either: (i) individual income in excess of $200K in each of the last two years or joint income with spouse in excess of $300K in each of the last two years, with a reasonable expectation of the same income in the current year, or (ii) net income of over $1 million, as set forth in Rule 501 of Regulation D, the private placement safe harbor promulgated under Section 4(2) of the U.S. Securities Act of 1933, as amended) no longer meet the standard. However, many companies are just starting to realize that the net income portion of the test changed with the signing of the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Act”), and many of the investors that believe they currently accredited investors may not be. When President Obama signed the Act on July 21, 2010, a natural person is no longer permitted to include the value of his or her primary residence in determining if they meet the net income test for an accredited investor. As a result any equity an investor has in their primary residence cannot be used in the net worth calculation.
Although the Act itself does not mention how a person should deal with the debt against their primary residence while excluding the value of their primary residence, the Securities and Exchange Commission (“SEC”) has stepped in to supply a answer. In the July 27, 2010 update to the SEC’s Compliance and Disclosure Interpretations (Question No. 179.01), the SEC staff was asked how should the “value of the primary residence” be determined for the purposes of calculating an individual’s net worth? The answer: “Pending implementation of the changes to the Commission’s rules required by the Act, the related amount of indebtedness secured by the primary residence up to its fair market value may also be excluded. Indebtedness secured by the residence in excess of the value of the home should be considered a liability and deducted from the investor’s net worth.” In a nutshell, the value of an investor’s primary residence and the amount of the indebtedness secured by the primary residence up to its fair market value is excluded from the net worth calculation. However, any indebtedness the investor has against their primary residence that exceeds the fair market value of the home must be deducted from the person’s net worth.
The Act did not alter the income test, only the net worth test. The new net worth standard only applies to investments occurring after the enactment of the Act.
