Real estate investing is known to be a playground for the big boys. Only the top 3% of the population in terms of financial wealth, can enjoy the game. With the democratization of financing via different means, most prominent would be the US Jumpstart Our Business Startups Act of 2012, this industry is now opening up to include not just accredited investors but also non-accredited investors. Common folks that have a spare $1000 or even $100 can now play in the big league through crowdfunding.
The financial crisis involving real estate investments in the US was in fact a turning point for this sector and crowdfunding is playing a big role in its tectonic shift.
Changing the Game, the Rules or the Players?
Crowdfunding is the practice of raising funds from two or more people (referred to as the “crowd”) over the internet towards a common SPPICE (Service, Project, Product, Investment, Cause, Experience).
Crowdfunding allows everyone access to projects and funds through the web, while traditional financing allows a select few access to them via the stock exchange, banks and private equity funds.
Traditional real estate investing involves individual investors or firms putting their money in companies without knowledge of the projects they will fund. The new real estate crowdfunding provides a new investment model that allows investors to choose which projects they want to fund.
Crowdfunding versus Traditional Financing
- Listing process and requirements for the crowdfunding system include project proposals and pitch, while the traditional financing system requires compliance to regulatory requirements and guidelines of stock exchange or banks.
- The investment amount for crowdfunding can be as little as $100 while in the traditional financing system it is usually prescribed by stock or bond dealers, or determined through negotiations with banks or private fund managers.
- The investors base for crowdfunding is the public while in the traditional financing system it is restricted to registered stock or bond dealers, banks or private equity funds managers.
- Interest in the crowdfunding system depends on offers and assessment of risks and returns by investors, while in the traditional financing system depends on rates prescribed by banks and return expectations of investors.
- Fees involved in crowdfunding systems are based on rates starting at 1 percent, while the fees for the traditional financing system are prescribed by security dealers or banks.
For the Investor
- Crowdfunding allows investors access to investment opportunities through websites, while in the traditional financing system the opportunities are accessed through the stock exchange, banks and private equity funds.
- Investment procedures in the crowdfunding system include opening crowdfunding websites and selecting potential projects to invest into, while in the traditional financing system these are purchasing stocks or bonds from dealers, depositing funds to banks or private equity fund companies.
- The investment amount in crowdfunding is at least $100, while in the traditional financing system it is prescribed by security dealers or negotiated with banks or private fund managers.
- Crowdfunding system investment base includes startups, small businesses and medium enterprises, while in the traditional financing system it includes registered stock market dealers, banks/private equity fund managers.
- Crowdfunding real estate investment returns are based on offering choices and depend on assessment of risks and returns by investors, while in the traditional financing system this depends on prescribed rates for banks, private equity fund companies and market performance.
- Fees in the crowdfunding system depend on variable rates starting from 1 percent, while in the traditional financing system the rates are prescribed by security dealers, banks or private equity fund managers.
- Placement period in the crowdfunding system is upon project completion, while in the traditional financing system there are market or instrument restrictions to content with.
How Investors Benefit
In crowdfunding, the investors get to choose the projects they want to invest, not only for the returns on their investment but for the reason behind the project. They see the faces of these projects, instead of just the blank wall of the real estate company if you invest via the traditional mode. Oftentimes, the crowdfunding platforms also give additional perks to the investor. The traditional system, on the other hand, will only provide the interests on bonds, increase on the real estate prices, or in declared dividends over time. Said benefit is significantly reduced due to high fees involved.
Project-Driven Investment Decisions
The most important choice should be not which company to invest into, but rather which project to invest into. It is in the best interest of investors to consider project-driven investment decisions as opposed to increasingly unpopular company-driven investment decisions. In the new system, a company involved in real estate cannot succeed in marketing itself to potential investors, unless it rests on the merits of its current projects. The company would also need a track record of managing the risks or default rate.
Diversification and Risk Spreading
Investing into a single real estate company is like putting all the eggs in one basket. Investors can opt to put their money in available real estate investment projects through crowdfunding to mitigate any potential risks. Their funds are distributed not only to several projects but also several companies, making this type of diversification implementation a very powerful tool for spreading risks. Failure of 1 project or 1 company can therefore be easily cancelled out by the success of other projects and companies.
Crowdfunding Platforms focused on Real Estate
Here are 20 players to watch in the emerging crowdfunding real estate investment industry, in no particular order:
These firms are included in the list of the Top 25 Real Estate Crowdfunding investment platforms on www.timesrealtynews.com.
Here is a snapshot of 7 of these revenue-generating platforms:
Claim up to $26,000 per W2 Employee
- Billions of dollars in funding available
- Funds are available to U.S. Businesses NOW
- This is not a loan. These tax credits do not need to be repaid
Project focus: Commercial realty nationwide and local community projects.
Minimum investment value: US$100
Return: 7-12 percent +perks
Fees: 1-3 percent
Risk/default rate: zero
Project focus: All real estate asset classes: multifamily, residential, hotels, office, industrial, retail, special purpose. Focused mostly on equity, but also include the entire capital stack: mezzanine, preferred equity, and debt.
Minimum investment value: US$5000 or as set by the sponsor
Return: 12 percent average
Fees: Sponsors are charged a monthly subscription fee to cover use of the SaaS platform. Fees are bifurcated into fundraising and investor servicing. This exact fee ranges per sponsor and is primarily driven by the suite of services provided. The fee permits an unlimited number of deals.
Risk/default rate: zero
Project Focus: Residential new construction and fix/flip renovations
Minimum investment value: $100
Return: 8-12% annual interest
Fees: None (origination & servicing fees of 3.5-5.0% paid by borrowers)
Risk/default rate: N/A ?
Project focus: Diversified portfolio of residential and commercial properties.
Minimum investment value: US$5,000
Return: 6-35 percent annual returns
Fees: Flat transaction fee of 5 percent
Risk/default rate: zero
Project focus: Variety of projects attractive to the crowd/investors. Investment offered based on REP structure.
Minimum investment value: $100,000
Return: Variable, depends on returns that REP project chosen by investor generates.
Fees: No stated fee. Prodigy acts as general contractor & project manager.
Risk/default rate: Not available
Project focus: Cash-flowing residential/commercial real estate including multi-family, retail, office and self storage.
Minimum investment value: Variable and depends on deals but ranges from US$5,000 to US$10,000.
Return: 8-17 percent
Risk/default rate: Not available
Project focus: Debt and equity funded real estate projects including single family homes, apartment buildings, retail centers and office buildings.
Minimum investment value: US$1,000
Return: 8-16 percent
Fees: Due diligence fee, technology fee charged on project owners seeking funds.
Risk/default rate: Not available
Follow each one to see how the tectonic shift further levels the playing field. For those interested in a more detailed report, check the Times Realty News 2014 Top 20 Real Estate Crowdfunding Report.
Future Shifts and Trends
In 2014 and beyond, these trends and changes will continue and will certainly be irreversible. The traditional players in capital and banking industry continue to operate in rigid systems. Banks and other financial institutions adhere to many restricting rules. They definitely cannot match the flexibility that crowdfunding attracts to investment amount, timeline choice and returns, transaction processing speed and so on.
Crowdfunding real estate investment initiatives have been successful so far. The success is expected to spread to many other industries especially where new technologies thrive. Increase in access to funds will see an increase in breakthrough projects. The innovations will creatively and irreversibly disrupt traditional industry systems that have become obsolete and inefficient.
David Drake is an early-stage equity expert and the founder and chairman of LDJ Capital, a New York City private equity advisory firm, and The Soho Loft – The Voice of Capital Formation – a global financial media company with divisions in Corporate Communications, Publishing and Expos & Events. You can reach him directly at David@LDJCapital.com.
