To avoid registration and substantive regulation under the Investment Company Act, hedge funds rely on one of two exclusions from the definition of investment company. The first exclusion is available to hedge funds that have 100 or fewer investors. The second exclusion applies to hedge funds that sell their interests only to highly sophisticated investors. To rely on either exclusion, the hedge fund must restrict its offerings so that they meet the requirements for non-public offerings.

Accredited investors include individuals with a minimum annual income of $200,000 ($300,000 with spouse) or $1 million in net worth and most institutions with $5 million in assets. Hedge funds that seek to rely on the sophisticated investor exclusion from Investment Company Act registration may sell their interests only to “qualified purchasers,” a standard with significantly higher financial requirements than those necessary for accredited investors. In practice, we understand that most hedge funds sell only to investors whose wealth exceeds that required to meet the standard established for accredited investor status.