What Is a Qualified Investor?

Matthew Frankel, The Motley Fool

Updated Wed, Feb 14, 2018, 5:02 PM

A qualified investor, also commonly referred to as an accredited investor, is an individual or other entity that is legally permitted by the Securities and Exchange Commission to invest in hedge funds, venture capital funds, private equity offerings, and other private placements. Qualified investors need to demonstrate a sufficient income or net worth before they are allowed to purchase unregistered securities.

Criteria for qualified and accredited investors

In order to be classified as a qualified or accredited investor, you must meet one of two criteria:

You must have earned income exceeding $200,000, or $300,000 when combined with a spouse, during each of the previous two full calendar years, and a reasonable expectation of the same for the current year. The same method (single or joint) must be applied to the income test in all three years.
You must have a net worth greater than $1 million (either by yourself or combined with a spouse), excluding your primary residence. We have a net worth calculator that can help you determine yours -- just leave the "residence" input at zero for accredited investor purposes.

It's also important to mention that companies selling unregistered securities are required to take steps to verify your eligibility, such as by requesting your W-2s, tax returns, bank statements, and other information. So, if you plan on putting money into an unregistered investment, expect a thorough verification process.

Couple looking at stock quotes in a newspaper.

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Qualified investors are (for now) the same as accredited investors

The term "qualified investor" is often used interchangeably with the term "accredited investor" to refer to individuals and other entities that are allowed to purchase unregistered securities. Common examples include hedge funds, venture capital funds, and private equity offerings.

These are high-net-worth or high-income individuals or entities, with the idea that this group has sufficient financial sophistication to understand and accept the risks of investments that the general population cannot.

Prior to the Dodd-Frank reforms, there was a small difference between the two terms. When calculating net worth for the purpose of determining accredited investor status, the value of one's primary residence could previously be included, while it could not when determining qualified investor status. However, that is no longer the case -- both calculations must ignore the value of the investor's primary residence, which makes the qualifying criteria for both classifications identical.

There has recently been talk of rolling back the requirements for becoming an accredited investor, such as removing the primary residence restriction. For now, however, the qualifications are identical and the terms can typically be used interchangeably.

Another use of the term "qualified investor"

Another meaning of the term "qualified investor" can be found in the Securities Exchange Act of 1934, added by the Gramm-Leach-Bliley Act.

In a nutshell, this uses the term "qualified investor" to allow banks to sell securities to entities such as registered investment companies, other banks, individuals and corporations who invest at least $25 million, and governments with over $50 million in investments without registering as a broker-dealer.

Examples of qualified and non-qualified investors

Let's say that you wanted to participate in a venture capital fund. You're unmarried and have a net worth of $600,000. You made $250,000 for the last two years and anticipate similar income this year. You qualify as an accredited investor under the income test, and can be allowed to participate in the fund.

On the other hand, let's say that you are married and have a net worth of $800,000 excluding your primary residence. You earned $180,000 two years ago and your spouse earned $150,000, for a total of $330,000. Last year you earned $250,000 but your spouse didn't work. And this year, you expect similar income. While your combined income two years ago and your individual income last year and for the current year are sufficient, you need to use the same type of income (single or combined) for all three years, so you are not a qualified investor.

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