Sophisticated investor status in Australia faces tighter wealth thresholds

Potentially large numbers of Australian high net worth investors look set to lose the ability to invest in wholesale investment schemes as the Federal Government looks to dramatically increase the wealth required to be considered a sophisticated investor.

Under the current rules, investors with around $2.5 million in assets are able to get access to wholesale funds including private equity and unlisted property syndicates once they have been vetted by an accountant.

To qualify, they can be deemed a sophisticated investor if they have $2.5 million in net assets including the family home or if they earn more than $250,000 of gross income in two consecutive years.

The growing pool of such investors have long been sought out by asset managers and brokers to provide a fast and ready source of capital to progress often lucrative but sometimes difficult to understand investment opportunities in areas including private equity, venture capital, seed rounds for early-stage start-ups and unlisted real estate.

Welcome to the investment lunch circuit

The pool of sophisticated investors is often invited to investment lunches and briefings at stages before retail investors can access opportunities and often appreciate meeting originators and similarly motivated fellow investors to pore over various investment opportunities.

However, changes are apparently on the way following a surprise inquiry into managed investment schemes launched by Assistant Treasurer Stephen Jones in October 2022 to look at concerns about retirees losing their life savings by investing in strategies that they may struggle to fully understand.

Sophisticated investors are not subject to the same consumer protections like getting financial advice that is not conflicted or the right to complain to a government dispute resolution body.

The Government is understood to be concerned that the test thresholds have not increased since they were set in 2001, which has seen the percentage of Australians who qualify as sophisticated investors increase from just 1.9% of the population in 2002 to more than 16% in 2021.

Rising house prices have swelled the ranks of sophisticated investors

Modelling conducted by Australian National University associate professor Ben Phillips has shown that the increase is largely due to the fast-rising price of the family home, which has allowed some fairly small investors who are unable to stand large losses to qualify as sophisticated.

While no new limit has yet been arrived at, estimates by industry figures using inflation numbers have arrived at new levels of between $4.5 million and $5 million as appropriate for a new sophisticated investor hurdle.

Some consumer watchdogs including the Australian Financial Complaints Authority and Choice have argued that the family home should no longer be included in the calculations for sophisticated investors because many who had a limited understanding of the risks involved in some wholesale opportunities were investing funds without proper consumer protections.

Keep mezzanine investments alive

However, many of the companies and brokers offering sophisticated investor opportunities argue that such investors play a vital role in the Australian financial ecosystem and that it would be a mistake to underestimate how astute and savvy such Australian investors are at balancing risks against potential rewards.

They also argue that any changes to the sophisticated investor definition would need to be introduced carefully, with current investors grandfathered in to prevent any need for poorly timed forced sales, which could trigger large tax bills and other issues.

Those arguing for the system to remain relatively unchanged argue that no case has been made of great harms to those currently in the ranks of sophisticated investors and it would be a backward and very disappointing step to restrict such investors to later stage retail investments which might offer lower risk but also lower returns.

Platforms like Cap Raise offer exclusive investment opportunities to both sophisticated and retail investors.