Tips for the Accredited Investor to Avoid Being Scammed

If you are presented with an opportunity to invest in an unregistered offering, in addition to thoroughly investigating an investment–and the expert selling it–you should be on the lookout for some potential scams.

But first, a definition.

What is an accredited investor?

An accredited investor is an investor with special status bestowed under financial regulation laws.

Accredited investors include high net-worth individuals, banks and corporations. These have access to higher-risk investments such as venture capital, hedge funds, and angel financings.

In America for an individual to be considered an accredited investor, they must have:

  1. A net worth of at least one-million dollars, not including primary residence
  2. Annual income of at least 200,000, or 300,000, jointly, if married
  3. Have a reasonable expectation to make the same amount the year following accreditation
  4. Federal securities laws describe the term “Accredited investors” for banks and corporations under Rule 501 of Regulation D

The US Securities and Exchange Commission (SEC) is considering changing the definition of “accredited investor.” The new definition includes a new class of potential investors: “accredited natural person.”

The proposed amendments would require an accredited natural person to meet the existing standards as well as own not less than $2.5 million in investments.

Investment scams typically involve getting someone to put up money for a questionable investment — or even an investment that doesn’t exist. Usually, the investor will lose some, or all, of their money. An important reminder that just because a fund is mentioned by big media outlets does not mean that due diligence ends there, or even that the fund is legitimate.

Some common scams include:

Boiler Rooms

A crew of people may set up a temporary office called a “boiler room,” and will try to convince an investor that their company is real, genuine and profitable. Most boiler rooms even have a professional looking website, and many have a toll-free number along with a respectable address.

The trick? The business doesn’t exist. The website is bogus, and the office is either just a post office box or a temporary, rented office. By the time the investor has realized they’ve lost their money, the cons have closed up and moved on.

Advance Fee

The fraudster persuades the investor to pay upfront fees. These advance fees will allow the investor to take advantage of an offer that promises a significant return. The catch is the con-artist takes the money and leaves.

The advance fee scam often targets victims who have lost money in a risky, but legitimate, investment. The scammer will contact the investor and offer to help recover their losses. The crook may claim they will recuperate the initial investment for a substantial gain to the investor, but the investor must pay an upfront fee, deposit or taxes. If the investor sends the funds, they’ll be gone as well.

Exempt Securities

When a business wants to sell contracts in Canada, it must first file a prospectus with securities regulators. Exempt securities are an exception. A prospectus is not required, but they’re limited to accredited investors.

Exempt securities aren’t scams by themselves. The fraud occurs when a scammer pitches fraudulent.

Investments an “exempt” security. The fraudster will call an investor about a hot tip on a promising business that is just about ready to be made public. The investor is told that the offer is only available to very wealthy people, but an exception will be made if the investor acts immediately.

Forex Scam

Observers consider the foreign exchange (forex) market the largest financial market globally. Investors buy and sell currencies with the goal of making money as exchange rates fluctuate. Major international banks with well-trained staff and access to cutting edge technology dominate forex. For the investor, who is not aware of how forex works, it can be difficult to beat the professionals and investors.

Some forex trading schemes can be illegal. As forex trading services are frequently operated online from overseas, unregulated firms can market their services outside the rules. Money may not be invested as claimed, and an investor may be asked to transfer money into an offshore account before trading begins. Regardless, the investor is apt to lose some, or all, of their money.

Offshore Investment

“Send money to offshore accounts and enjoy enormous profits,” promises this scam. The typical goal is to avoid, or reduce, taxes. Be careful. Tax avoidance schemes could leave investors owing the government back taxes, not to mention penalties and interest.

The careless investor will face other risks of offshore investing as well. Moving money to another country forfeits all rights to take the case to civil court if something goes wrong.

Pension Scam

The “pension scam” targets people who have retirement savings in a Locked-In-Retirement Account. Money can’t be withdrawn from LIRA until the investor reaches a certain age, typically 55 or older. Besides having annual withdrawal limits, taxes on the amount withdrawn will have to be paid.

Often promoted as an “RRSP loan” that allows the investor to bypass tax laws, the scam requires that the investor sell the investments held in a LIRA. In return, the promoter promises a return of 60% to 70% of the money invested.

Often the promoter will keep the fees, and the investment will be worthless.

Ponzi (Pyramid) Scheme

These schemes recruit people through online ads and word-of-mouth. They promise to give significant returns or even join a “select” group of investors who will get rich on a terrific investment.

Investors getting into the scheme early often receive high yields. They’re often pleased, so they invest more money and even recruit friends and family as new investors.

The actual investment doesn’t exist. The “interest” payments are paid from the investors’ money and money from new investors. Eventually, people will stop joining the scheme, and when there is no more money to pay out, no one gets a cent and the promoter vanishes.

Pump and Dump

In a “pump and dump”, investors are given an incredible deal on a low-priced stock. The promoters are a step ahead and already own a large amount of the stock. Often the stock doesn’t even represent a legitimate business. While more and more investors buy shares, the stock’s value rises. When the price peaks, the fraudster sells their shares and the value of the stock plummets.

Again, the investor is left holding worthless stocks.

Does Being an Accredited Investor Even Matter

No. A person doesn’t have to be an accredited investor to get rich.

It is true that being an accredited investor opens up new opportunities to invest in assets such as hedge funds and venture capital.

There’s also the “ego factor.” According to the SEC, being accredited indicates an investor who is sophisticated and has enough money so as not to need equal protections as a naive investor.

Jacob Wolinsky, CEO of consumer investment website Valuewalk, advises that while investing in hedge funds and private equity may seem like the pinnacle of financial prowess, each of these investment opportunities is not the golden ticket they might seem. If fact, a person can achieve long-term financial success investing in an S&P index fund.

Need proof? Warren Buffett.

Buffet has amassed a fortune worth over $65 billion, and he’s put together that nest-egg by buying common stock just like regular people.

Clearly, Buffet is accredited, but his success is not dependent on that status.

Instead of worrying about status as an accredited investor, focus on becoming a sophisticated investor.

If Buffet was able to do it with value investing techniques then anyone can.

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