What Is Real Estate Crowdfunding? 5 Things to Know | Woodbridge
10 21 2016
Crowdfunding. You've heard of it. Industries are buzzing about it. But how does it work?
Chances are, you've already had some level of exposure.
Maybe you've donated to a GoFundMe page. Or perhaps somebody you know has launched the next big idea or investment through online channels.
Crowdfunding is the crowd advantage. It's a method that utilizes social and online networks to fund a specific project or cause.
So, what is Real Estate Crowdfunding, Exactly?Real Estate Crowdfunding allows individual investors to directly participate in the funding of various real estate ventures, often seeing high returns on their initial investment. Instead of leaving real estate lending up to banks and large REITs, real estate financing can be executed through a group of many smaller investors, sometimes lending only up to $1,000 of their personal funds.
From financial services to tech startups to real estate, crowdfunding has evolved the business community from a top down to a bottom up approach - giving investors more control.
The Revolutionary JOBS ActReal estate has historically been beholden to larger banks and those with tremendous capital. SEC regulations previously precluded private real estate companies from marketing publicly, and deals were therefore reserved for those with exclusive networks. Buy-in requirements that started in the six-figure range also precluded investors from cashing in on real estate opportunities.
In 2012, the Jumpstart our Businesses (JOBS) Act was passed into law and transformed the way capital is raised. The legislation removed barriers that previously prevented businesses and start-ups from publicly soliciting funding. Sponsors are now able to market investment opportunities, and provide access to commercial properties through online platforms.
And the red tape has recently been cut further. As of May this year, new SEC rules permit those without accreditation to participate in real estate crowdfunding with one caveat. Caps restrict the amount that the unaccredited can invest over a 12-month period.
This has now opened the door for all types of investors - from those looking to invest a little to those who always had the capital, but were missing the connections. Now that the door has been opened for greater crowdfunding real estate, you should know the pros and cons before investing.
Five Key Pros and Cons to Consider Before Investing in Crowdfunding Real Estate:
- Greater Access. Before legislation changed the landscape of investing, it was not possible to be approved for a legitimate commercial property deal with a buy-in of $1,000, $5,000, $10,000, or even $20,000 dollars. Crowdfunding has opened the floodgates for a more diverse group of investors. Remember the caps for the non-accredited? The SEC imposed those for a reason - to curb risk for those who may not be as knowledgeable, and therefore more vulnerable to bad actors.
- More Choice and Control. Today, a laptop, some research, and your capital can provide a myriad of options to invest in real estate. You can choose and vet options on your own. There's no large institution filtering the opportunities available to you. You also get to work directly with real estate developers and have a voice in the process.
- Risk. Only invest in properties that you trust and understand. This includes the sponsor, which should be somebody that you believe will look out for the best interest of the overall investment and you. A good safeguard to look for is credible sponsors that put their own capital to work in the property. It's also important that they provide participants with transparent information about the opportunity to make the right decision. If there is no introduction to the sponsor, potential stakeholders should be wary. Finally, always pay attention for hidden fees that can impact your returns over the term of the investment.
- Lack of Liquidity. Are you concerned about being locked into a longer term investment? The structure of real estate crowdfunding can lock up your capital for many years at a time.
- Meaningful Returns. The real estate industry has a strong demand for those with capital to lend. Investors can select platforms that attach their funds to monthly cash flow projects or equity properties. The interest and principal on an equity project is generally paid at the completion of the term, which can provide for a higher yield investment, but creates accompanying risk. Finally, there are properties that offer the best of both worlds, and provide monthly payments with a balloon share at the end of the term. It's important to look for opportunities that meet your risk profile.
Real estate crowdfunding provides new opportunities for investors with varying degrees of capital. If you have experience, market confidence, and wherewithal, crowdfunding can be an effective vehicle for exposure to the real estate market. However, even the most sophisticated financier should always vet any investment thoroughly.
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