New Rules on using the Accredited Investor Exemption
May 5, 2015
On February 19, 2015 the Canadian Securities Administrators (“CSA”) published guidance that clarified how the accredited investor exemption in National Instrument 45-106 Prospectus Exemptions (“NI 45-106”) was to be applied in Canada. Going forward the CSA guidance stipulates that before issuers will be able to rely on the exemption they will have to verify and document its availability and provide investors relying on the accredited investor exemption with enhanced risk disclosure (Form 45-106F9). These new requirements are expected to come into force on May 5, 2015
Definition of Accredited Investor
The categories of accredited exemptions have not generally changed with the exception of a new category of accredited investors for a trust established by an accredited investor for the benefit of the accredited investor’s family provided that all of the trustees are accredited investors and all of the family members fall within the prescribed classes of family members. In Ontario, harmonizing with the rest of Canada, fully managed account purchasing investment fund securities will also be exempt under the managed account category.
The following is a summary of the categories of accredited investors:
- An individual who, alone or together with a spouse, owns financial assets worth more than $1 million before taxes but net of related liabilities (related liabilities means liabilities incurred for the purpose of acquiring the financial assets and liabilities that are secured by financial assets);
- An individual, who alone or together with a spouse, has net assets of at least $5,000,000;
- An individual whose net income before taxes exceeded $200,000 in both of the last two years and who expects to maintain at least the same level of income this year; or An individual whose net income before taxes, combined with that of a spouse, exceeded $300,000 in both of the last two years and who expects to maintain at least the same level of income this year;
- An individual who currently is, or once was, a registered adviser or dealer, other than a limited market dealer;
- Financial institutions;
- Governments and governmental agencies;
- Insurance companies;
- Pension funds;
- Registered charities;
- Certain mutual funds, pooled funds and managed accounts;
- Companies with net assets of at least $5 million;
- Persons or companies recognized by the OSC as an accredited investor.
Financial assets: are defined in NI 45-106 to mean cash, securities, or a contract of insurance, a deposit or an evidence of a deposit that is not a security for the purposes of securities legislation. These financial assets are generally liquid or relatively easy to liquidate. The value of an investor’s personal residence is not included in a calculation of financial assets.
Net assets: means all of the investor’s total assets minus all of the investor’s total liabilities. Accordingly, for the purposes of the net asset test, the calculation of total assets would include the value of an investor’s personal residence and the calculation of total liabilities would include the amount of any liability (such as a mortgage) in respect of the investor’s personal residence.
Determining the Availability of the Accredited Investor Exemption
Before discussing the details of an investment with a prospective investor, issuers are required to obtain information that confirms the investor meets the criteria set out in the accredited investor exemption. The accredited investor exemption requires an investor to meet certain income or asset tests in order for securities to be sold in reliance on the exemption. When distributing securities under the accredited investor exemption, the issuer will have to obtain information from the investor in order to determine whether the investor has the requisite income, assets or relationship to meet the terms of the exemption. It will not be sufficient for the issuer to accept standard representations in a subscription agreement or a certificate attached to a subscription agreement or an initial beside a category on Form 45-106F9 Form unless the issuer has taken reasonable steps to verify the representations made by the investor.
Reasonable Steps: The issuer must take reasonable steps confirm that the investor meets the conditions for the accredited investor exemption. Whether the types of steps are reasonable will depend on the particular facts and circumstances of the investor, the offering and the exemption being relied on, including:
• how the issuer identified or located the potential investor;
• what category of accredited investor or eligible investor the investor claims to meet;
• how much and what type of background information is known about the investor; and
• whether the person who meets with, or provides information to, the investor is registered.
Understand Terms of the Exemption: Issuers must understand the terms and conditions of the accredited investor exemption and be able to explain to an investor the meaning of the terms and conditions of the exemption.
Policies & Procedures: Issuer must have policies and procedures in place to confirm that the representatives of the issuer understand the exemption being relied on, and are able to describe the terms of the exemption to investors and know what information and documentation must be obtained from investors to confirm that the conditions of the exemption have been satisfied.
Verification: Issuers must verify that the investor meets the criteria set out in the exemption. To assess whether an investor is an accredited investor or eligible investor, issuers should ask questions about the investor’s net income, financial assets or net assets, or other questions designed to elicit details about the investor’s financial circumstances. If the issuer has concerns about the investor’s responses, the issuer should make further inquiries about the investor’s financial circumstances. If the issuer still questions the investor’s eligibility, the issuer should ask to see documentation that independently confirms the investor’s claims.
Collection and Retention of Documentation: The issuer should consider what documentation it needs to retain or collect from an investor to evidence the steps the issuer followed to establish the investor met the conditions of the exemption. The issuer must retain the documentation to evidence the steps the issuer has taken to verify the availability of the exemption.
Risk Acknowledgement Form: The issuer must obtain a signed risk acknowledgement form (45-106F9 from the investor and retain that risk acknowledgement for 8 years after the distribution. The issuer must also comply with the requirements under provincial or federal legislation concerning the protection of personal information when collecting and retaining investor information.