SEC Updates Guidances for Reg D – negative home equity will reduce net worth for the Accredited Investor determination

The Securities and Exchange Commission (www.sec.gov) issued guidance on July 23, 2010 and updated the general questions and answers of general applicability section of their website to clarify their interpretation of the Dodd-Frank law. This is an update on my previous post. The applicable section is as follows:

Question 179.01

Question: Under Section 413(a) of the Dodd-Frank Act, the net worth standard for an accredited investor, as set forth in Securities Act Rules 215 and 501(a)(5), is adjusted to delete from the calculation of net worth the “value of the primary residence” of the investor. How should the “value of the primary residence” be determined for purposes of calculating an investor’s net worth?

Answer: Section 413(a) of the Dodd-Frank Act does not define the term “value,” nor does it address the treatment of mortgage and other indebtedness secured by the residence for purposes of the net worth calculation. As required by Section 413(a) of the Dodd-Frank Act, the Commission will issue amendments to its rules to conform them to the adjustment to the accredited investor net worth standard made by the Act. However, Section 413(a) provides that the adjustment is effective upon enactment of the Act. When determining net worth for purposes of Securities Act Rules 215 and 501(a)(5), the value of the person’s primary residence must be excluded. 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. [July 23, 2010] [Emphasis Added]

What does this mean if you are looking to raise capital?

Any mortgage indebtedness that exceed the value of an investors primary residence is a liability and should be deduced from the investor’s net worth calculation. It also means that value of the investor’s primary residence is also excluded.

This is not a big surprise and confirmed the SEC’s initial position on the matter.

Thanks to  Broc Romanek for posting about this here.