Qualified client - not to be confused with "qualified purchaser" - is a defined term under the Investment Adviser's Act, and generally refers to investors who have investable assets of at least $2.2 million, not including the value of their primary residence, if any. Certain fund managers, depending on their registration status or state of residence, may be required to restrict their fund to investors who are qualified clients.
Qualified Client explained
Most are familiar with the term “accredited investor” and many know its higher standard sibling, “qualified purchaser.” (a “QP“) However, when it comes to funds and fund managers, the lesser known term “qualified client” (a “QC“) is also important to understand. QC comes from Section 205-3 of the Investment Advisers Act and is relevant to all securities investment advisers who fall under state or federal jurisdiction.
Qualification as a QC can be attained in either of two ways:
- Net worth test: The investor has a net worth of $2.2 million or more at the time of the investment.
- Assets under management test: The investor has at least $1.1 million under advisement with the particular investment adviser assessing the investor’s QC status.
The second route is fairly rare as a standalone route, as investors with less than $2.2 million are unlikely to park over 50% of their net worth with a single investment adviser, but is worth keeping in mind for certain circumstances.
The definition of a QC does not vary depending on whether the investor is a natural person or an entity, and as such, while a natural person accredited investor may not meet the standard to be qualified as a QC, an entity accredited investor is a QC by definition.
Prior to 2021, the QC threshold was $2.1 million (or $1.0 million for the AUM test), but the SEC issued an order on June 17, 2021, updating the QC qualification thresholds and increasing them to the aforementioned amounts.
Application of the QC concept
A common mistake made by emerging fund managers considering fund launch is to look to the minimum investor wealth qualifiaction standard afforded by the Investment Company Act and Securities Act without consideration to the Investment Advisers Act. Each act and their respective requirements should be considered as mutually exclusive, and one Act’s requirements may in certain circumstances “override” the floor of another Act.
For example, the wealth requirement under the Securities Act’s common safe harbor fund offering types, 506(b) and 506(c), is accredited investor status. However, in certain states such as Texas, an exempt reporting adviser cannot accept accredited investors into a fund; they can only accept qualified clients. As such, while a fund manager in Texas would be following the Securities Act by accepting accredited investors who are not accredited, he or she would be violating the Investment Advisers Act and Texas’ state securities law by doing so, and as such the effective “floor” of investor net worth is raised in Texas.
Fund managers should ensure that they understand the definition of a QC and whether or not it applies pursuant to their registration or exemption status, and in the latter case, the specifics of the investment advisory laws of the state they reside in.