An individual investor—often a high net worth individual—who provides capital for emerging growth companies, typically in exchange for either ownership equity or convertible debt. Angel investments often represent the round of financing between the initial seed funding stage obtained from the entrepreneurs’ family and friends and the more robust financing acquired through venture capital. These investments can also prove crucial for entrepreneurs who struggle to secure cheaper sources of financing such as bank loans. Angel investors typically invest their own funds—in contrast to venture capitalists, private equity investors that invest others’ pooled funds. An angel investor is also referred to as a private investor, seed investor, business angel, or informal investor.
Federal law dictates that securities cannot be sold unless they are registered or if there is an exception. An accredited investor is one such exemption. Although not all angel investors are considered accredited investors, many are. Rule 501 of Regulation D of the Securities Act of 1933 defines “accredited investors” as an individual with: (1) a net worth of $1 million in assets; or (2) having earned $200 thousand in income for the previous two years; or (3) having a combined income of $300 thousand for married couples.
Historically, angel investors have made their investments in their unregistered, private offerings under either Section 4(a)(2) of the Securities Act or under Rule 506(b) of Regulation D. Section 4(a)(2) exempts from registration transactions by an issuer not involving a public offering while Rule 506(b) of Regulation D is a safe harbor under Section 4(a)(2). President Obama’s 2012 Jumpstart Our Business Startups Act (JOBS Act) proposed an expansion of Rule 506 which was later adopted by the SEC in July 2013. Although a cardinal rule of federal securities law is that there may not be a “general solicitation” in private offerings, the SEC’s new 506(c) exemption permits entrepreneurial ventures to engage in general solicitation to offer securities as long as: (1) the securities are sold only to accredited investors; and (2) the issuer takes “reasonable steps to verify” the purchaser’s accredited status.
[Last updated in May of 2020 by the Wex Definitions Team]