Originally published in The Information on October 31st, 2024.
For about 18 months, between mid-2021 and early 2023, I may have been one of Silicon Valley’s youngest—and poorest—angel investors.
How? By passing the test to become a licensed investment adviser, then registering my own advisory firm. This allowed me to bypass the longstanding rule that only the wealthy—people with a net worth of at least $1 million or an annual income of more than $200,000—could invest in startups. Through this process, I became a startup investor at age 21, while interning at a startup, before finishing college.
My foray into angel investing was made possible by an August 2020 rule change by the Securities and Exchange Commission, which permitted individuals with certain professional financial licenses to invest in startups. Sensing the opportunity, I decided to obtain one of these financial licenses myself, becoming an SEC-registered investment adviser representative.
From my initial licensure in July 2021 until January 2023, I made a few small investments in friends’ companies before the SEC—explaining to me on a phone call that the investment adviser licensing process was not intended to be used as I was using it—asked me to stop.
While I went further than most, many people in my position—including many of my early-career startup colleagues—remain barred from investing by the SEC’s rules. Despite their deep industry knowledge, keen financial literacy and visceral awareness of the risks inherent to startups, they are effectively forbidden from investing in the sector they know best.
These restrictions harm the American startup ecosystem. Part of the magic of Silicon Valley is its virtuous cycle: the culture of successful colleagues pooling together capital to give their hungry entrepreneurial friends the freedom to pursue their dreams when their startups are barely an idea. Under the present rules, fewer people can participate in this cycle, entrepreneurship is less accessible and fewer companies are founded.
The restrictions are particularly harmful because startup employees and founders are skilled at identifying other promising startups. The growing proliferation of scout programs for early-career employees suggests venture capitalists recognize this.
The SEC seems to consider these restrictions an acceptable cost for protecting the general investing public. This is reasonable. For every breakout startup success, thousands of dentists invest in some shady private placement and lose everything. Private investments, as a class, are objectively much riskier than public ones.
That said, there is a world of difference between a promoter cold-calling doctors about a strange new feat of financial engineering, and a startup employee with six figures (or more) of illiquid stock options in their own company looking to invest in a co-worker who just left to start their own company. The current rules do not recognize this distinction
This is not an argument against all, or even most, investor protections. But there must be a more reasonable middle ground. As a college student last year, I could accumulate $50,000 of student debt, carry tens of thousands of dollars on my credit cards and bet without limits on anything from random number generator outputs to Japanese baseball, but I couldn’t (legally) give my startup founder friend $1,000 for their company. All investing has risks, but a blanket ban based solely on financial position is surely not the most efficient nor the least harmful way to mitigate those risks.
Here are three suggestions to make the rules more flexible—and the American economy more innovative:
Create an accredited investor exam. Legislation proposed by Rep. Patrick McHenry on the House Financial Services Committee would require the SEC to create an exam to qualify people as accredited investors. This would simplify and legalize the path I took, without imposing all of the hassles of becoming a licensed financial professional. The SEC could implement this on its own authority, just as it expanded the accredited investor definition in August 2020. Sen. Scott’s bill also includes this provision.
Allow a safe harbor for small investments. The simplest option might be to permit angel investments of up to $1,000 or $5,000, perhaps also restricted by industry—for example, only private startup employees could invest in other private startups. An individual’s investments could also be limited to a percentage of their income or net worth. This is the least restrictive solution, and sounds much like the JOBS Act without the disclosure and compliance requirements. That’s the intention. The onerous requirements of the current rules are a major deterrent to greater access and participation of small angel investors. Companies should be able to take checks from less wealthy yet knowledgeable earlier-career investors without the paperwork and legal fees required under the current rules.
So if the accredited investor regime is so problematic for startups, why hasn’t anything changed yet? Because those who benefit most from the present rules are powerful institutions and high net worth individuals. The restrictions ensure they are the only ones with access to the best early-stage investments and consequently the biggest potential gains. The current rules not only harm the ecosystem but also create issues of fairness and equity.
Reform is critical because today’s early-stage startups will become the companies that build tomorrow’s world-changing innovations. Unfortunately, some of the people best suited to sow these seeds are barred from participating today. It’s time for the SEC to fix this. It’s time to have equity for all angels.