20.4.2 Who Can Invest In Hedge Funds?

Overview

Securities regulators permit the sale of securities without a prospectus, but only under certain conditions and to investors who meet exempt investor qualifications. In Canada, the exempt market is composed of both institutional and individual investors who meet specific criteria.

Common Prospectus Exemptions

There are three common prospectus exemptions permitted by securities regulators:

• Minimum Investment Exemption
• Accredited Investor Exemption
• Offering Memorandum Exemption

Typically, individual hedge fund investors must qualify under the accredited investor exemption.

Minimum Investment Exemption

The minimum investment exemption allows the sale of securities without a prospectus to non-individual investors making a prescribed minimum investment. National Instrument 45-106 (NI 45-106) sets this minimum at $150,000 across all jurisdictions in Canada.

Accredited Investor Exemption

The criteria for qualification as an accredited investor differ for institutional and individual investors.

Institutional Investors

Institutes generally include entities such as pension funds, trust companies, and corporations with net assets of at least $5 million.

Individual Investors

Individual investors must meet at least one of the following criteria:

1. Own financial assets (alone or with a spouse) with an aggregate realizable value exceeding $1 million, excluding real estate.
2. Have a net income before taxes exceeding $200,000 (or $300,000 combined with a spouse) in each of the two most recent years and a reasonable expectation of maintaining this income level.
3. Own net assets (alone or with a spouse), including real estate, worth at least $5 million.

Note: Persons relying on the accredited investor exemption to distribute securities must obtain a completed and signed risk acknowledgment form from the individual accredited investor.

Offering Memorandum Exemption

An offering memorandum allows an issuer to bypass the prospectus requirement if prepared in a prescribed form and delivered to the purchaser before the sale. This document must contain pertinent information regarding the issuer and audited financial statements.

Geographic Limits and Purchase Caps

In some provinces and territories (Manitoba, Northwest Territories, Nunavut, P.E.I., and Yukon), offering memorandum exemption is subject to a $10,000 limit unless the purchaser is an eligible investor. In other provinces (Alberta, New Brunswick, Nova Scotia, Ontario, Quebec, and Saskatchewan), the limits are as follows:

• $10,000 for non-eligible investors
• $30,000 for eligible investors
• $100,000 for eligible investors with advice from an authorized portfolio manager, investment dealer, or exempt market dealer

Definition of Eligible Investor

An eligible investor has a lower financial threshold than an accredited investor but must receive investment suitability confirmation from a registered investment dealer.

Frequently Asked Questions (FAQs)

Q1: What is the minimum investment exemption amount?

A1: $150,000 across all Canadian jurisdictions.

Q2: Who qualifies as an accredited investor?

A2: Institutional investors with assets of at least $5 million and individuals meeting specific criteria regarding asset value, income, or net worth.

Q3: What is an offering memorandum?

A3: A document prepared by an issuer in a prescribed form to provide information about a securities offering while meeting regulation-rescission rights and action requirements.

Q4: How does an eligible investor differ from an accredited investor?

A4: An eligible investor has a lower financial threshold but must have investment suitability confirmed by a registered investment dealer.

Glossary

• Exempt Investor: An investor who meets specific criteria enabling them to purchase certain securities without a prospectus, based on exemptions set by securities regulators.

• Accredited Investor: An investor who fulfills certain financial criteria, such as net worth or income levels, allowing them to invest in private capital markets.

• Minimum Investment Exemption: An exemption allowing entities to purchase securities without a prospectus provided they invest a minimum amount specified by legislation.

• Offering Memorandum: A comprehensive document prepared to describe key information about the securities offering, including the issuer’s financial details.

Key Takeaways

• The exempt market in Canada allows certain investors to purchase securities without a prospectus under specific conditions.
• Three main types of exemptions are used: minimum investment, accredited investor, and offering memorandum exemptions.
• Accredited investor criteria differ for institutional and individual investors with certain asset and income thresholds.
• Geographic and financial limits apply based on regulations for offering memorandum exemptions.

Diagram: Exempt Investment Structure

    graph TD
	   A[Exempt Market] --> B[Institutional Investors] 
	   A --> C[Individual Investors]
	   B --> D[Accredited Investor]
	   C --> D
	   A --> E[Minimum Investment Exemption]
	   A --> F[Accredited Investor Exemption]
	   A --> G[Offering Memorandum Exemption]

By understanding these exemptions, Canadian investors can better navigate the alternative investment landscape, maximizing opportunities while adhering to regulatory requirements.