After selling my first business, I started getting interested in a lot of different investments.
I was looking to build multiple streams of income to replace the income from the business. This led to building up a sizable dividend growth portfolio that sends me a (figurative) check every month.
A made a few foolish angel investments, some of which are still petering along actually, but also delved into the world of hedge funds and venture funds.
I learned about being an accredited investor, which is common for things like farmland investments, but soon saw another term – a Qualified Purchaser. These are for funds that would like more than 100 investors – which is what you often see hedge and venture funds.
Curious about what it takes to become a Qualified Purchaser? Read on.
Table of Contents
What is a Qualified Purchaser?
A Qualified Purchaser is an individual or business that has $5 million or more in investments, excluding a primary residence or property owned by the business.
Pretty simple, right?
This differs from an Accredited Investor in a variety of ways but most notably – the asset hurdle only considers investments and not your overall net worth. There is also no way to qualify based on income or your certifications (though there are for managing others’ investment assets).
What counts as an investment is fairly broad – it includes stocks, bonds, futures, commodities, real estate, and any alternative investments. The main idea here is that they want to see you have significant investments outside of your primary residence. Real estate is perfectly OK, it just can’t be your house.
The exact definition, which is slightly broader than this one with a few other “ways” to qualify, is covered in Section 2(a)(51) of the Investment Company Act. (more on that below).
Why Funds Need Qualified Purchasers
If you are a fund and you only solicit investments from Qualified Purchasers, your fund is exempt from a few SEC regulations. Specifically, it is known as a 3(c)(7) exemption from the Investment Company Act of 1940. The ICA was signed into law by President Roosevelt and gives the SEC the power to regulate investment trusts and investment counselors.
If you invest in a fund, that’s the law that governs the fund, its reporting requirements, and it is meant to protect investors.
You may have heard of a 3(c)(1) fund before (or 3C1 fund) and that’s what’s used by many crowdfunding real estate companies. Those funds can solicit from Accredited Investors but are limited to a maximum of 100 investors. This is why sometimes you see funds with higher minimums for deals – if a piece of property will cost $5,000,000 then their minimum has to be $50,000 because they can only take 100 investors.
It seems counterintuitive that there’s a lower bar but a higher minimum, but that’s the product of the law and what the funds are looking to invest in.
With a 3(c)(7) fund (or 3C7 fund), you must solicit from Qualified Purchasers but now there is no limit (if they exceed 2,000 then there is some additional SEC scrutiny but not hard limit like 3C1 funds). This gives the fund greater flexibility because a limit of 100 people can be quite restrictive.
With 3C7 funds, there are fewer reporting requirements – they don’t need to issue disclosures or outline their positions. This can be a strategic advantage.
Finally, there are the natural benefits of soliciting only from individuals with $5 million or more in investments – they’re more like to invest larger dollar amounts.
From the SEC’s perspective, if you have $5 million in investments, you’re sophisticated enough to pick your own bets without them looking into them.
What Can Qualified Purchasers Invest In?
Whereas an Accredited Investor can only invest in 3C1 funds, a Qualified Purchaser can invest in 3C1 as well as 3C7 funds. If you’re a Qualified Purchaser, you’re also an Accredited Investor.
Many hedge funds are 3C7 funds so unless you’re a Qualified Purchaser, you won’t get access to them.
How to Become a Qualified Purchaser
The answer is simple – have $5 million in investments!
If you are an Accredited Investor, many funds will require you to be verified through a service like VerifyInvestor.com. On VerifyInvestor.com, you submit your documentation showing that you qualify as an Accredited Investor and they get an accountant, lawyer, financial advisor or stock broker (someone with a license) to affirm that you are accredited based on your documents.
As a Qualified Purchaser, many funds only require you to self-certify. Some may not even ask you for supporting documentation.
The onus is on the issuer (the fund) to confirm these details since they’re the ones at risk.
You Don’t Need It
Many of the investments that require you to be a Qualified Purchaser are not necessary for you to build (more) wealth. If you’ve already reached the level of $5 million in investments (heck, even $5 million in net worth including your primary residence), you probably have enough financial savvy to realize that these instruments may be fun but aren’t required.
Investing in a venture fund can be fun – you get back people who have a ton of domain experience, an extensive network, and access to some fantastic deals.
But the economics of a venture fund are brutal – they only expect a small fraction of their investments to pay off. The rest go to zero.
You can build wealth without them by using index funds and mutual funds that don’t require any accreditation or qualifications.
Pick a Vanguard fund and you’re good to go – VTSAX for the win! 🙂