In order to invest in startups you must be an accredited investor. The SEC creates limitations on who and who can’t invest in private companies. The logic behind it is that most of these investments are risky and illiquid so the SEC put rules in place to limit who can invest in these types of investments. With these guardrails, the hope is that these investors have enough money so should they lose their entire investment, or not have access to this investment for years they will still be in good financial shape. So, how do you know if you are an accredited investor and how can you become an accredited investor?
What Is An Accredited Investor?
An accredited investor is defined as someone who has income that exceeded $200,000 in each of the two most recent years (or $300,000 in joint income with a person’s spouse) and they reasonably expect to reach that same amount of income in the current year. A person is also considered an accredited investor if their net worth exceeds $1 million (individually or jointly with a spouse), excluding the value of their primary residence.
The full definition is on the SEC website.
Why Is It Important To Be An Accredited Investor
Accredited investors have many more opportunities to invest than non-accredited investors. They are able to invest in private companies which opens up the door for a lot more investment opportunities. There are opportunities for non-accredited investors to invest in. However, these investments are limited to the stock market and legalized crowdfunding opportunities.
How To Become An Accredited Investor
Understand where you are income wise and net worth wise. Will it be faster to make $200K (or $300K for married couples) for 3 years in a row, or have $1 million net worth? Estimate how long it will take you to reach that salary and add 2 years. Use this calculator to identify how long it will take you to have $1M. Identify which way is fastest, and then identify ways to hit that target faster.
Qualify to Become an Accredited Investor Through Income
Income doesn’t equal your salary. Income includes money you make from everything including your investments and side hustles. If you or your spouse don’t have line of sight to hitting the yearly income threshold look for opportunities to create additional income streams.
Qualify to Become an Accredited Investor By Reaching $1M Net Worth
The more money you make, the easier it is to reach $1M net worth. Increasing your income should always be your first focus. To reach the $1M threshold though, you need to keep the money you make – and have that money make you even more money. Automate your savings and increase your savings rate as your income increases. Then, invest that money. Be smart with your spending so you can put additional money towards investing as well. Thanks to compounding interest, the first $100K is always the hardest but it’ll get progressively easier as you go. Your primary residence doesn’t count towards the $1M net worth so you need to consider if it’s worth paying your mortgage off early for this circumstance.
Research Potential Startup Investments
You don’t want to wait until you’ve met the accredited investor requirements to start thinking about investing in startups. Research the different types of investments that are only available to accredited investors before you qualify. If you’re interested in investing in a startup, what industries are you interested in? Many of these investment opportunities develop through word of mouth. It takes time to network with the right people, identify what types of companies you’d like to invest in and then identify companies that meet the target profile that are also raising money.