The Agony and Ecstasy of Real Estate Crowdfunding
The method of crowdfunding itself is not that new. The ability for burgeoning entrepreneurs to raise capital through a network of larger number of individuals to fund their ventures has moved from the outliers of society to become a fully regulated industry.
Let’s talk about some impressive growth numbers. In the year 2016, it was estimated that the Real Estate Crowdfunding industry expanded its value into the neighborhood of $ 3.5 billion dollars. Let that sink in for a moment. A collective of private investors collaborated together to invest in property without the aid of a traditional lending institution and created an industry worth in the billions.
Is this dynamic and growing industry a fad or a game changing way for the novice to become the next player in what Forbes magazine describes as “an anticipated $300 billion dollar” explosive industry?
While largely associated with musicians, artists and bespoke centric product developers, crowdfunding is rapidly becoming a respectable method for real estate entrepreneurs to expand their land holdings. It also allows for more novice investors to gain footing without the potential risk of the punitive fall out that comes with higher liquid cash infused investments.
What is Crowdfunding?
Crowdfunding is the use of small amounts of capital from a large number of individuals to finance a new business venture. It makes use of the easy accessibility of vast networks of people through social media and crowdfunding websites to bring investors and entrepreneurs together. Also, crowdfunding has the potential to increase entrepreneurship by expanding the pool of investors from whom funds can be raised beyond the traditional circle of owners, relatives and venture capitalists.
There are Safety Nets
In the United States, crowdfunding is restricted by regulations on who is allowed to fund a new business and how much they are allowed to contribute. Similar to the restrictions on hedge fund investing, these regulations are supposed to protect unsophisticated or non-wealthy investors from putting too much of their savings at risk. Because so many new businesses fail, their investors face a high risk of losing their principal.
It appears that the old business model of supply and demand is the main reason why the move towards crowdfunding is becoming a more attractive option for the commercial real estate investor.
Ian Ippolito, a Tampa based self-described serial entrepreneur and owner of site, The Real Estate Crowdfunding Review, offers this perspective to those who may still have reservations, “Real estate crowdfunding can be an excellent way to diversify your portfolio.”
A go-to source for such publications as Bloomberg and Entrepreneur Magazine, Ian has been tracking the movement towards this grass roots form of venture capitalism for the better part of the last decade. One attractive element for investors is not that they are not limited by geography, “Crowdfunding allows you to pull from a national source of investments, so that your exposure to any one city or region isn’t limited and gives you a safer, more diversified return.”
Another attractive aspect of investing in real estate through crowdfunding is the relative lower risk due to the modest sized entry points necessary for potential investors to enter into the game. While there is no real set average, sometimes the entry points can be as low as $1000. The low entry point adds the third head to this
This gives the investor a wider range of investment potential by spreading out their capital instead of putting all of their eggs in one basket. Ian stressed the high-impact value for the investor, “Instead of buying one property, you can diversify into several for the same amount of money.”
As with any investment strategy it is always prudent for each individual to research the offering prior to investing their hard-earned capital. Ian also offered the following caveat regarding the passivity involved in the crowdfunding property investments, “The downside is that you are not in control of the management of the properties which can be an issue for some people. You have to be able to evaluate the manager and feel comfortable that they will do a good job on your behalf.”
Real estate crowdfunding continues to be a dynamic and ever-evolving industry, growing to an estimated $3.5 billion in 2016. By 2025, the crowdfunding industry as a whole is anticipated to be valued at more than $300 billion and online real estate marketplaces are primed to capitalize on that explosive growth.
Throughout real estate crowdfunding’s various growth cycles, the focus has frequently been directed towards accredited investors due to regulatory restrictions. These accredited investors hold approximately 70 percent of all private wealth in the U.S., but account for only around 8.25 percent of all households.
Until 2013, SEC regulations kept real estate developed from marketing their investment opportunities using “general solicitation” or advertising. The implementation of the JOBS Act has lifted those restrictions and opened the door for crowdfunded real estate development, meaning a much broader pool of investors now have the opportunity to get into the real estate game.
Crowdfunding, generally speaking, is a way of spreading the risk – and the rewards – of an investment over a larger pool of people. For a creative project, 5000 people might contribute $10 to have their favorite musician record a new album. In return for providing some of the initial funds, they would get a copy of that album.
However, when it comes to crowdfunded real estate investment, it is a little different. Real estate investors are looking for a return on their investment, not just an mp3.
Crowdfunding real estate sites sell investments in small chunks, which are much more accessible to an average investor than an entire building or development would be.
An investor may contribute $5000 to purchase an empty building, for example. The funds then go into renovating and leasing out the building, at which time the investor will receive an agreed upon percentage of rents and revenue.
Platforms
There are platforms of both types. Most of the larger, national platforms have Venture Capital funding. If you go to my website and download the side-by-side comparison matrix (the link is on any platform review page) you can find how much funding a particular platform has.
Rate Bumps
Some sites have awarded rate bumps if the investor invested in a specific month. Others have given investors cash for the first time investment, or an investment in a specific month, or for referring other investors. I haven't seen anything too terribly gimmicky. These companies are trying to instill confidence in people to invest their hard-earned money, so it's in their best interest to market themselves conservatively.
Yes, typically all the investors that are coming in through the crowdfunding portal receive the same deal.
Can You Refinance Your Property?
No, there are no large, major portals offering individuals the ability to crowd fund their mortgage for their personal residence. That isn't to say there aren't deals relating to residential property. However they are either debt deals for financing flippers. Or they are equity deals for generating rental income from residential houses.
Do the Work
As with any investment strategy, it is essential that investors do their homework before investing their hard earned cash. This means looking into the experience and track record of the real estate developers that are soliciting crowdfunded money.
Good developers, who have a proven track record of earning substantial returns for their investors would likely not have a difficult time securing funding from a more traditional source, like a bank or a seasoned investment firm.
It is worth considering why a developer is going the crowdfunded route.
Have they had trouble securing funding because of unsuccessful past projects? If so, what evidence is there that things will be different this time? Investors should seek to obtain as much information about a developer’s history, including past projects, specific details of the proposed development, and even tax returns, in order to make an informed decision about the investment.
Sources
Forbes Magazine
The Real Estate Crowdfunding Review
http://www.therealestatecrowdfundingreview.com/about
Bloomberg
https://www.bloomberg.com/news/articles/2016-05-09/inside-the-real-estate-crowdfunding-land-rush