Browse Analysis of Managed and Structured Products

20.4.2 Who Can Invest In Hedge Funds?

Understand the qualifications necessary for investing in hedge funds in Canada, covering minimum investment exemptions, accredited investor exemptions, and offering memorandum exemptions.

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.


CSC® Exams Practice Questions

📚✨ CSC Exam Questions ✨📚

Welcome to the Knowledge Checkpoint! You'll find 10 carefully curated CSC exam practice questions designed to reinforce the key concepts covered. These questions will help you gauge your grasp of the material, identify areas that need further review, and ensure you're on the right track towards mastering the content for the Canadian Securities certification exams. Take your time, think critically, and use these quizzes as a tool to enhance your learning journey. 📘✨

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## Who qualifies for the minimum investment exemption to invest in hedge funds? - [ ] Individual investors with a minimum of $100,000 to invest - [ ] Institutional investors regardless of investment amount - [x] Non-individual investors who make a prescribed minimum investment of $150,000 as per NI 45-106 - [ ] Accredited investors only > **Explanation:** The minimum investment exemption allows non-individual investors to invest without a prospectus if they make a minimum investment of $150,000. ## What is one of the main purposes of the accredited investor exemption? - [ ] To limit hedge fund investments to those with substantial financial resources - [x] To permit the sale of securities without a prospectus to qualifying individuals or institutions - [ ] To provide small investors with access to hedge funds - [ ] To cap individual investments at $100,000 > **Explanation:** The accredited investor exemption allows securities to be sold without a prospectus to those who meet certain financial criteria, indicating that they have the financial resources to bear the risks of such investments. ## According to the accredited investor exemption, which of the following qualifies as an individual accredited investor? - [ ] An individual with a net income before taxes exceeding $150,000 in the most recent year - [ ] An individual with net real estate assets worth over $1 million - [x] An individual whose net income before taxes exceeded $200,000 in each of the two most recent years and has a reasonable expectation of exceeding that income level in the current year - [ ] Any person with a high school diploma > **Explanation:** One of the criteria for an individual to qualify as an accredited investor is having a net income before taxes that exceeded $200,000 ($300,000 if combined with a spouse’s income) in the most recent two years and with the expectation of maintaining that level. ## Which securities commission regulation sets the minimum investment for the minimum investment exemption? - [ ] NI 31-103 - [ ] NI 81-102 - [x] NI 45-106 - [ ] NI 31-502 > **Explanation:** National Instrument 45-106 (NI 45-106) sets the minimum investment limit at $150,000 for the minimum investment exemption across all jurisdictions in Canada. ## Under the accredited investor exemption, what is the net asset value requirement for an individual investor (including real estate) to qualify? - [ ] $1 million - [ ] $2 million - [x] $5 million - [ ] $500,000 > **Explanation:** For an individual, the accredited investor exemption requires that they have net assets (including real estate) worth at least $5 million. ## What is required for the issuance of securities through the offering memorandum exemption? - [ ] Prospectus approval by securities regulators - [x] Delivery of an offering memorandum to the purchaser before the purchase - [ ] Minimum investment of $200,000 - [ ] Only available to accredited investors > **Explanation:** Under the offering memorandum exemption, an issuer must prepare and deliver an offering memorandum in the prescribed form to the purchaser prior to the purchase. ## In which provinces is the offering memorandum exemption subject to a $10,000 limit unless the purchaser is an eligible investor? - [ ] Ontario, Quebec, Alberta - [ ] British Columbia, Alberta, Manitoba, Ontario - [ ] Nova Scotia, New Brunswick, Ontario - [x] Manitoba, Northwest Territories, Nunavut, P.E.I., Yukon > **Explanation:** In these provinces and territories, the offering memorandum exemption has a $10,000 limit unless the purchaser qualifies as an eligible investor. ## What distinguishes an eligible investor from an accredited investor under the offering memorandum exemption? - [ ] The need for lower annual income levels - [ ] The requirement for institutional status - [ ] The need for a higher level of financial literacy - [x] A lower financial threshold but requiring confirmation of suitability from an eligibility advisor > **Explanation:** An eligible investor has a lower financial threshold than an accredited investor but must have the suitability of the investment confirmed by an eligibility advisor such as a registered investment dealer. ## What is the maximum investment limit for an eligible investor receiving advice from a portfolio manager under the offering memorandum exemption in certain provinces? - [ ] $10,000 - [ ] $30,000 - [ ] $50,000 - [x] $100,000 > **Explanation:** An eligible investor receiving advice from a portfolio manager, investment dealer, or exempt market dealer can invest up to $100,000 under the offering memorandum exemption. ## What document must be completed and signed by individual accredited investors relying on the accredited investor exemption to invest in hedge funds? - [ ] Tax return - [ ] Investment portfolio tracker - [ ] Financial audit report - [x] Risk acknowledgement form > **Explanation:** Individuals relying on the accredited investor exemption must complete and sign a risk acknowledgement form to invest in hedge funds without a prospectus.

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Sunday, July 21, 2024