The Securities and Exchange Commission (SEC) utilizes specific criteria to identify individuals who qualify for certain investment opportunities and regulatory exemptions. These individuals are typically categorized based on their financial resources, specifically assets and income levels. For example, an individual with a certain net worth exceeding a stipulated amount, or those who have maintained a specified income threshold over a defined period, meet the criteria.
Defining financial sophistication is crucial because it affects investor protection rules. It allows for the offering of investments that may carry higher risk profiles, as it assumes these individuals possess the knowledge and financial capacity to adequately assess and manage such risks. Historically, these definitions have evolved to balance access to capital markets with the need to safeguard vulnerable investors.